Fed views banking system conditions favorably with regulatory progress

By Andrew A. Turner, J.D.

In conjunction with the first edition of the Federal Reserve Board’s Supervision and Regulation Report, Randal Quarles, the Federal Reserve Board’s Vice Chairman for Supervision, testified at a hearing of the House of Representatives Financial Services Committee. Quarles concentrated on the Fed’s efforts to improve regulatory transparency, and its progress towards making the post-crisis regulatory framework simpler and more efficient.

 

The U.S. banking system is generally in strong condition, with both earnings and profitability increasing in recent years, according to the report. Loan volume is up, and nonperforming loan ratios are improving. Financial institutions also are maintaining high levels of quality capital and improving their liquidity due to new regulatory requirements.

 

On the other hand, the industry remains concentrated because of post-financial crisis consolidation.

 

Fed activities. The report says that, after the crisis, the Fed’s supervisory and regulatory framework has been based on three principles: efficiency, transparency, and simplicity. The goal is to minimize institutions’ compliance burden without compromising recent improvements in safety and soundness.

 

To accomplish this goal, the Fed has shifted some of its supervisory resources to its large bank supervision program, the report notes. The central bank also has enhanced its supervision of smaller banks based on the lessons taught by the financial crisis while reducing the banks’ regulatory burden.

This has been done by:

• reducing the amount of data these banks must submit each quarter;
• increasing the threshold for real estate loans that require formal appraisals;
• moving to simplify regulatory capital requirements; and
• reducing the burden of examinations, especially of on-site examinations.

The report found large financial institutions to be in sound financial condition. Capital levels are strong and much higher than before the financial crisis. Recent stress test results show that the capital levels of large firms after a hypothetical severe global recession would remain above regulatory minimums. While most firms have improved in key areas of supervisory focus, such as capital planning and liquidity management, it was noted that some firms continue to work to meet supervisory expectations in certain risk-management areas.

 

Future reports will focus on the Fed’s activities since each previous report, rather than looking back on the entire period since the financial crisis.

 

Quarles testimony. Under the Dodd-Frank Act, the Vice-Chairman is required to testify before the committee on a semiannual basis, regarding the Fed’s supervision and regulation of firms subject to the Fed’s jurisdiction.

 

Committee Chairman Jeb Hensarling (R-Texas) opened the hearing, entitled “Semi-Annual Testimony on the Federal Reserve’s Supervision and Regulation of the Financial System” by asserting that the Dodd-Frank Act "dramatically increased the Fed’s powers way beyond its traditional monetary policy responsibilities." According to Hensarling, with its heightened prudential standards, the Fed can "functionally now control the largest financial institutions in our economy."

 

Hensarling noted that while total overall regulatory restrictions have increased by nearly 20 percent since 1997, regulatory restrictions on "finance and insurance" have increased by 72 percent. He emphasized the work that the committee has devoted to properly tailoring financial regulation. "While I am pleased to see this Fed’s willingness to better tailor, perform cost-benefit analyses, implement prudential regulatory risk adjustments, and propose amendments to the Volcker Rule, each of these as they stand should again be viewed simply as first steps and insufficient to truly propel our economy to sustained 4 percent economic growth," concluded Hensarling.

 

Ranking Member Maxine Waters (D-Calif) also spoke at the hearing. Referencing the election results and the upcoming change in House leadership positions, Waters stated that she believes it is "appropriate to discuss Dodd-Frank and the harmful efforts of the current Committee Majority to weaken and roll back important parts of this law." She asserted that capital standards are an effective method to prevent bank failures and stated, "make no mistake, come January in this Committee, the days of this Committee weakening regulations and putting our economy once again at risk of another financial crisis will come to an end."

 

Transparency and efficiency. Quarles focused his testimony on steps the Fed has taken to increase transparency and keep the public and financial institutions informed. "Transparency is part of the foundation of public accountability and a cornerstone of due process" and "key to a well-functioning regulatory system and an essential aspect of safety and soundness, as well as financial stability," stated Quarles.

1. The Fed has improved its supervisory ratings system for large financial institutions. The new rating system will better align ratings for these firms with the supervisory feedback they receive, and will focus firms on the capital, liquidity, and governance issues most likely to affect safety and soundness.
2. The Fed has clarified that supervisory guidance is a tool to enhance the transparency of supervisory expectations, and should not be the basis of an enforcement action—guidance is not legally enforceable, and Fed examiners will not treat it that way.
3. The Fed expects to finalize a set of measures intended to increase visibility into the Fed’s supervisory stress testing program. These enhanced disclosures will include more granular descriptions of our models; more information about the design of our scenarios; and more detail about projected outcomes.

Quarles discussed recent proposals issued by the Fed, including one that would reduce the reporting burden on community banking organizations, altering reporting frequencies, items, and thresholds, while preserving the data necessary for effective oversight. Another Fed proposal would reduce reporting requirements for small depository institutions in the first and third quarters of the year. Under the proposal, around 37 percent of data items would not be required in those quarters.

 

Quarles stated that the Fed has also issued two proposals to better align prudential standards with the risk profile of regulated institutions, implementing changes that Congress enacted this spring in the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA). Additionally, according to Quarles, the Fed has recently proposed a new approach to calculating credit risk, and has issued a proposal simplifying and tailoring requirements under the Volcker rule. Quarles also stated that the Fed has issued a rule limiting the exposure of large firms to a single counterparty.

 

Quarles highlighted the agency’s efforts to tailor regulation and supervision to risk, including by:

• expanding eligibility of community banking firms for the Small Bank Holding Company Policy Statement, and for longer, 18-month examination cycles;
• giving bank holding companies below $100 billion in assets immediate relief from supervisory assessments, stress testing requirements, and some additional Dodd-Frank Act prudential measures; and
• implementing changes to liquidity regulation of municipal securities and capital regulation of high-volatility commercial real estate exposures.

For more information about regulators supervision of federal banking, subscribe to the Banking and Finance Law Daily.

Court issues stay of CFPB Payday Rule compliance date

By J. Preston Carter, J.D., LL.M.

In the ongoing lawsuit against the Consumer Financial Protection Bureau filed by Community Financial Services Association, seeking to invalidate the Bureau’s Rule on Payday, Vehicle Title, and Certain High-Cost Installment Loans, the federal court for the Western District of Texas has reconsidered a portion of an earlier order refusing to stay the Aug. 19, 2019, compliance date of the Bureau’s Payday Rule. The court’s order stated that, given that the Bureau plans to issue Notices of Proposed Rulemaking revisiting the rule’s ability-to-repay provisions, a stay of the Rule's current compliance date of Aug. 19, 2019, is "appropriate" in order "to prevent irreparable injury."

CFPB reconsidering payday lending rule. The CFPB payday lending rule established restrictions on short-term loans, including a test to ensure that consumers can afford payments, a limit on the number of loans that may be made in close succession, and a limit on the ability of lenders to continue debiting consumer accounts for payments after two consecutive failures (see Banking and Finance Law Daily, Oct. 5, 2017). The Bureau issued a public statement on Oct. 26, 2018, stating that it planned to propose revisiting only the ability-to-repay provisions and not the payments provisions, in significant part because the ability-to-repay provisions have much greater consequences for both consumers and industry than the payment provisions.

Compliance date at issue. The CFPB had requested that a federal judge suspend the lawsuit while the Bureau conducts a rulemaking process reconsidering the rule. On June 12, 2018, the court granted in part and denied in part the joint motion to stay the litigation and agency action. The order stayed the litigation pending further order of the court; denied the parties’ request to stay the compliance date for the payday rule until 455 days after judgment is rendered in this action; and directed the parties to file joint status reports every 60 days informing the court about proceedings related to the payday rule and the litigation. The court denied the parties’ motions for consideration of this order on Aug. 7, 2018.

Both parties filed the required joint status report on Aug. 17, 2018. The status report informed the court that the Bureau was planning to prepare a notice of proposed rulemaking to reconsider the Payday Rule and that it expected to issue a notice of proposed rulemaking by early 2019. On Aug. 28, 2018, the court issued an order maintaining the stay of litigation and ordered the parties to file another joint status report on or before Oct. 31, 2018. In their Oct. 26, 2018, status report, the Bureau notified the court that it intended to issue notices of proposed rulemaking in January 2019 to reconsider the Rule and address the Rule’s compliance date. Due to the Bureau’s publicly announced plans to reconsider portions of the Rule, the court has reconsidered the portion of its earlier order and granted the Bureau’s request to stay the Rule’s compliance date.

The court, however, declined the request to stay the compliance date until 455 days from the date of final judgment in this action. The court stated that the other portions of the June 12, 2018, order regarding the stay of litigation in this action should be continued in full force and effect. The court also adjusted the conditions and timing for the parties to file periodic joint status reports.

For more information about the CFPB's payday lending rule, subscribe to the Banking and Finance Law Daily.

Terminated employees’ FCRA judgment, damages, attorney fees vacated for lack of standing

By Thomas G. Wolfe, J.D.

Although four plaintiff pension-portfolio managers who worked at the equity desk of Allstate Insurance Company were awarded statutory damages, punitive damages, and attorney fees at trial for the company’s alleged violations of the Fair Credit Reporting Act (FCRA), the U.S. Court of Appeals for the Seventh Circuit, in Rivera v. Allstate Insurance Company, vacated those awards and dismissed the FCRA claims because the claims rested on a “bare procedural violation” of the FCRA “unaccompanied by any concrete and particularized harm or risk of harm to an interest protected by the statute.” Allstate retained a law firm to investigate “suspicious trading” at its equity desk, and, after the firm provided its oral findings to the company, Allstate fired the four managers. Rejecting the managers’ claims that Allstate violated the FCRA by failing to provide them with a summary of the law firm’s investigative findings after they were fired, the Seventh Circuit asserted that the managers: failed to show how any minor FCRA noncompliance hampered their case against Allstate; failed to identify any prospective employer that refused to hire them as a result; and failed to demonstrate how they suffered any resulting concrete injury. In other words, the plaintiff managers lacked Article III standing to sue Allstate.

Notably, the Seventh Circuit also vacated the jury’s verdict awarding over $27 million in compensatory and punitive damages in favor of the managers, based on the managers’ defamation claims against Allstate.

Backdrop. After conducting its own internal investigation into suspicious trading at its equity desk, the company retained attorneys from a third-party law firm, Steptoe & Johnson, to investigate further. In turn, Steptoe & Johnson hired an economic consulting firm to calculate any potential losses. The Steptoe lawyers delivered oral findings to Allstate. Afterward, Allstate determined that four portfolio managers “had violated the company’s conflict-of-interest policy by timing trades to improve their bonuses,” and the company terminated their employment “for cause.”

In addition, Allstate provided information about its investigations on its annual Form 10-K for 2009, and sent a memo to its own Investment Department about the Form 10-K disclosures but did not name the four portfolio managers who were fired.

Complaint, trial. The portfolio managers who were fired by Allstate then filed a lawsuit in Illinois federal district court against the company. The managers not only asserted defamation claims, based on the Form 10-K filing and the internal memo, they also alleged that Allstate violated the FCRA provision (§1681a(y)(2)) by “failing to give them a summary of Steptoe’s findings after they were fired.”

According to the court’s opinion, the federal jury returned a verdict in the managers’ favor, awarding them more than $27 million in compensatory and punitive damages on the defamation claims. In connection with the FCRA claims, in addition to the $1,000 in statutory damages awarded each manager by the jury, the trial court judge tacked on additional punitive damages and attorney fees. The judge awarded $3,000 in punitive damages under the FCRA to each manager, and approved the managers’ request for $357,716 in attorney fees associated with their statutory claims.

Allstate’s arguments. On appeal, Allstate argued that the plaintiff managers lacked standing under the U.S. Supreme Court’s 2016 decision in Spokeo, Inc. v. Robins, and that the factual record in the case did not support the jury’s finding of a willful violation of the FCRA, which is required for awarding statutory and punitive damages. Further, Allstate challenged the lower court’s award of FCRA attorney fees as “excessive and disproportionate considering the relative insignificance of the statutory claims” in the litigation.

Court skeptical about FCRA claims. In interpreting the applicable FCRA provisions, the Seventh Circuit emphasized that it was not conclusively determining that the Steptoe & Johnson law firm was a “consumer reporting agency” under the FCRA, nor was it definitively deciding that the firm’s oral report to Allstate about its investigation was a “consumer report” under the FCRA. As stated by the court, “the question we confront here is whether subsection [§1681a(y)(2)] is sufficiently similar to §1681b(b)(3)(A) to require the same outcome. The answer is no.” According to the Seventh Circuit, a summary-only disclosure obligation after an adverse employment decision under the FCRA (§1681a(y)(2))—like the one in the case before it—“is a far cry” from the disclosure required under the separate FCRA provision (§1681b(b)(3)(A)) requiring an employer to provide “a complete copy of the consumer report” and a written explanation of an employee’s FCRA rights before an adverse employment decision.

No standing. Ultimately, the federal appellate court focused on vacating the lower court’s FCRA awards on jurisdictional grounds, based on the lack of any concrete injury to support the managers’ Article III standing to sue. The court stressed that under the standard enunciated by the Supreme Court in Spokeo, there must be an “injury in fact” element that is “both concrete and particularized.” Further, to be “concrete,” the injury must be “real” and “not abstract—that is, it must actually exist.”

Determining that the managers’ FCRA claims against Allstate did not satisfy the Spokeo standard to establish their standing in the case, the Seventh Circuit vacated the judgment and awards for damages and attorney fees, and directed the lower court to dismiss the managers’ FCRA claims against the company.

For more information about federal and state court decisions impacting the financial services industry, subscribe to the Banking and Finance Law Daily.

Fed invites public comment on framework matching regulations with risk profiles

By Andrew A. Turner, J.D.

The Federal Reserve Board has issued two proposed rulemakings that would more closely match the regulations for large banking organizations with their risk profiles. The proposed framework would not apply to the U.S. operations of foreign banking organizations. The proposals stem from changes in the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA), enacted in May, that were intended to ease compliance burdens for banks.

 

The first proposed rulemaking would tailor the application of prudential standards to U.S. bank holding companies and apply enhanced standards to certain large savings and loan holding companies. The second proposed rulemaking, issued jointly with the Office of the Comptroller of the Currency and Federal Deposit Insurance Corporation, would tailor the application of the agencies’ capital and liquidity requirements.

 

A proposed requirements chart for each category also shows a list of firms projected to be included in each category. Comments will be accepted through Jan. 22, 2019.

 

Four categories of standards. The proposals present four categories of prudential standards that reflect the different risks of firms in each group of large U.S. banking organizations:

 

• Category IV: Most firms with $100 billion to $250 billion in total assets would be subject to significantly reduced requirements. These firms would no longer be subject to standardized liquidity requirements or a requirement to conduct and publicly disclose the results of company-run capital stress tests.
• Category III: Firms with $250 billion or more in assets, or firms with at least $100 billion in assets that exceed certain risk thresholds, would be subject to enhanced standards that are tailored to the risk profile of these firms.
• Category II: Firms of global scale—those with very significant size ($700 billion or more in total assets) or cross-jurisdictional activity ($75 billion or more)—would be subject to more stringent prudential standards (based on global standards developed by the Basel Committee on Banking Supervision) and other prudential standards appropriate to very large or internationally active banking organizations.
• Category I: U.S. global systemically important bank holding companies (GSIBs) would remain subject to the most stringent standards.

 

The adjustments would significantly reduce regulatory compliance requirements for firms subject to Category IV standards, modestly reduce requirements for firms subject to Category III standards, and largely keep existing requirements in place for firms subject to Category I and II standards.

 

Powell statement. In his opening statement at the Fed’s Oct. 31, 2018, open meeting, Fed Chairman Jerome Powell said the Fed will “continue to incorporate size into its evaluations of risk, but size is only one factor. The proposals we are considering would enhance our framework by introducing additional measures of risk.” Powell said proposals would prescribe materially less stringent requirements on firms with less risk, while maintaining the most stringent requirements for firms that pose the greatest risks to the financial system and the economy.

 

Quarles in agreement. In his statement on the proposals, Randal K. Quarles, the Fed’s Vice Chairman for Supervision, said the proposals embody an important principle: “the character of regulation should match the character of a firm.” He said the purpose of the package of proposed changes is not to reduce the capital adequacy or liquidity resiliency of the U.S. regional bank holding companies. Instead, Powell hopes that “firms will see reduced regulatory complexity and easier compliance with no decline in the resiliency of the U.S. banking system.”

 

Brainard sees risk. In her dissenting statement, Fed Governor Lael Brainard, said the proposals under consideration go beyond the provisions of EGRRCPA by relaxing regulatory requirements for domestic banking institutions that have assets in the $250 to $700 billion range, and they “weaken the buffers that are core to the resilience of our system. This raises the risk that American taxpayers again will be on the hook.”

 

For more information about regulatory requirements for big banks, subscribe to the Banking and Finance Law Daily.

CFPB to revisit payday lending rule’s ability-to-pay provisions

By J. Preston Carter, J.D., LL.M.

The Consumer Financial Protection Bureau said it expects to issue proposed rules in January 2019 that will reconsider its rule regarding Payday, Vehicle Title, and Certain High-Cost Installment Loans and address the rule's compliance date. In its public statement, the Bureau said it will make final decisions regarding the scope of the proposal closer to the issuance of the proposed rules. However, it said it is currently planning to propose revisiting only the ability-to-repay provisions and not the payments provisions, in significant part because the ability-to-repay provisions have much greater consequences for both consumers and industry than the payment provisions.

Banking groups seek compliance date extension. Prior to the release of the Bureau’s statement, the Consumer Bankers Association and the American Bankers Association sent a letter to CFPB Acting Director Mick Mulvaney requesting that the Bureau immediately extend the compliance date of its payday lending rule. The rule was adopted in October 2017. The current compliance date of the rule is Aug. 19, 2019. However, the letter notes, under its most recent unified agenda, the Bureau announced an intention to reopen the rule in January 2019, only seven months prior to the compliance date. "Given the significant unintended consequences of the rule," the letter states, "it is important that institutions do not expend resources unnecessarily implementing extensive operational and policy changes to comply with a rule that the Bureau may modify."

For more information about the CFPB's payday lending rule, subscribe to the Banking and Finance Law Daily.

Payday lender settles debt collection, abusive practices charges

By Katalina M. Bianco, J.D.

A payday lender has agreed to pay a $200,000 penalty and $32,000 in restitution to settle Consumer Financial Protection Bureau charges arising from the company’s methods of collecting unpaid loans. According to the Bureau, Cash Express, LLC, sent consumers dunning letters that misrepresented its collection methods and improperly withheld amounts needed to repay prior loans when it cashed subsequent checks for consumers. The company did not admit any violations of the law in agreeing to the settlement.

 

According to the consent order, Cash Express and an affiliate, First Cash Express, LLC, provide short-term, small-dollar loans and check cashing services in Alabama, Kentucky, Mississippi, and Tennessee, through more than 325 storefronts. Cash Express has been in operation since 1998.

 

Charged violations. The Bureau charged specifically that the two companies violated the Consumer Financial Protection Act in four ways:

 

1. They mailed more than 19,000 letters demanding that debts be paid after the statutes of limitations on the debts had passed and, in most cases, they also threatened to sue. 
2. They threatened to file collection suits when, in fact, they almost never did so and had no intention to do so.
3. They threatened in both loan applications and collection letters to provide negative information to credit reporting agencies when they did not intend to do so. 
4. They set off check cashing proceeds against loan payments that were due without disclosing the practice when the checks were presented.

  

Consent order obligations. In addition to making the required payments, the companies are obligated by the consent order to refrain from set-offs unless the consumer consents before the check is cashed. They also may not make misrepresentations about collection suits or credit reports.

 

The companies also must create a compliance plan and secure the Bureau’s approval. However, the order does not impose any ongoing monitoring requirement.

 

For more information about Bureau enforcement, subscribe to the Banking and Finance Law Daily.

FDIC seeks input on improving its communication, transparency

By Thomas G. Wolfe, J.D.

 

The Federal Deposit Insurance Corporation is requesting information from stakeholders and interested parties on how the FDIC can improve its communication methods in a transparent and efficient manner while also minimizing the regulatory burden for supervised financial institutions. Seeking to make its communications with insured depository institutions “more effective, streamlined, and clear,” the FDIC’s Request for Information (RFI) poses three sets of questions—on the topics of efficiency, content, and ease of access—to elicit comments from the public. According to the FDIC’s Oct. 5, 2018, Federal Register notice, comments on the agency’s RFI must be received by Dec. 4, 2018.

 

FDIC Chairman Jelena McWilliams remarked that providing pertinent information to depositors, consumers, bankers, and other stakeholders “is vital for them to better understand the agency’s policies, procedures and regulations.” At the same time, the amount of information the FDIC disseminates “can create burdensome challenges for insured depository institutions, especially community banks,” McWilliams stated. The FDIC also has issued a Financial Institution Letter outlining the nature and scope of the agency’s RFI on its communication and transparency.

 

RFI queries. The RFI sketches the FDIC’s many and varied forms of communication with the financial services industry, consumers, and the public. To generate and shape responses to its RFI, the FDIC sets forth “Suggested Topics for Commenters” in a question format. For instance, the FDIC asks:

• How effective are the FDIC’s current forms of communication? Which methods are the most effective, and which are the least effective?
• Are there other methods of communication that the FDIC should consider using in the future?
• Is FDIC information readily available and easy to find? If not, how can the FDIC make it easier to receive and find information?
• How appropriate is the current timing and frequency of various FDIC communications?
• Should the FDIC’s Financial Institution Letters (FILs) be organized by date, topic, applicable regulation, or institution size?
• Should the FDIC distinguish between FILs that communicate regulations and policy from FILs that may be purely informational?
• How can the FDIC improve its website?
• Which types of communication are best suited for informing insured depository institutions about new policies, laws, and regulations?
• Which types of communication are best suited for informing insured depository institutions about educational materials, news, and other updates?

For more information about federal and state regulators’ requests for information affecting the financial services industry, subscribe to the Banking and Finance Law Daily.