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On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”). The Act provides the most sweeping overhaul of the regulation of the U.S. financial services industry and financial markets since the aftermath of the Great Depression. The Act represents Congress’ attempt to address the myriad of issues arising out of the financial crisis and marks the conclusion of over a year’s effort to craft a legislative solution designed to avoid another financial crisis. The legislation requires an overhaul of the regulatory landscape and establishes a new regulatory scheme to govern certain public companies, banks, insurance companies, hedge funds, as well as other companies in the financial services industry.

The new legislation is designed to address systemic risk in the U. S. financial system and remediate the “too big to fail” issues which required government bailouts of several large financial services companies during the financial crisis. The legislation also implements new corporate governance and disclosure requirements applicable to public companies, increases the regulatory requirements applicable to banks, insurance companies and hedge funds and subjects certain large financial services companies to regulation by the Federal Reserve Board (the “FRB”).

The new legislation adds several new corporate governance and disclosure requirements applicable to companies listed on U.S. stock exchanges and in some instances, other publicly-traded companies, including:

• a requirement for having a non-binding shareholder vote on compensation of specified executive officers and in certain instances golden parachute provisions;
• a requirement for more stringent rules and disclosure applicable to compensation committees;
• a requirements for additional disclosure requirements related to executive compensation;
• the elimination of discretionary voting by brokers in connection with the election of directors, executive compensation issues or other significant matters;
• authorization for the SEC to adopt rules related to proxy access; and
• a requirement to adopt clawback policies with respect to employment arrangements of executives of companies seeking to list on a U.S. stock exchange.

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The Fourth of July deadline for enacting financial regulatory reform legislation is likely to be postponed, yet again, to the middle or end of July. The House and Senate conference committee completed its work on the Dodd Frank bill in the wee hours of last Friday morning, but the death of Sen. Robert Byrd (D-WV) and the objections of four Senate Republicans are forcing the conference committee back into session this afternoon.

Senate Democratic leadership is now struggling to find the 60 votes necessary to overcome a filibuster. Sen. Byrd was a reliable “yes” vote for the conference report, and his replacement is not expected to be sworn in for at least several weeks. The four Republican Senators who had earlier supported the Senate bill are now likely to oppose the conference report -- Scott Brown (MA), Susan Collins (ME), Charles Grassley (IA), and Olympia Snowe (ME). Sen. Brown yesterday sent a letter to Conference Chairmen Dodd (D-CT) and Frank (R-MA) explaining that he was withdrawing his earlier support of the measure due to the addition of an FDIC assessment on large banks and hedge funds that was inserted at the last minute in order to raise the $18 billion necessary to make the legislation budget-neutral. Senators Snowe and Collins have also expressed reservations about the addition of this provision, and Sen. Grassley is facing additional constituent pressure being generated around a difficult primary challenge that may cause him to reconsider his earlier support.

Of the two Senate Democrats who voted against the bill last time – Senators Russ Feingold (D-WI) and Maria Cantwell (D-WA) – Sen. Feingold continues to oppose the legislation and Sen. Cantwell remains undecided. The leaders are holding today’s conference meeting in an effort to find alternative means to pay for the shortfall and make the bill budget neutral. House Financial Services Chairman Barney Frank and Senate Banking Committee Chairman Christopher Dodd have now proposed to raise the FDIC reserve ratio to 1.35 and divert unused TARP funds to replace the current $18 billion assessment. Of course, the new solution may well alter the support of other Senators.

Paying tribute to Senator Byrd, resolving the assessment issue, lining up the votes, and getting through significant procedural requirements in time to get members of Congress home for their Independence Day events now appears unlikely if not impossible.

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With the clock ticking on a self-imposed deadline for the completion of House and Senate conference negotiations, House Financial Services Chairman Barney Frank (D-MA) did his best impersonation of (soccer star) Landon Donovan early Friday morning, clearing a conference report that will bring Congress one step closer to passing the most sweeping financial regulatory reform legislation in nearly a century. 

Capping off two weeks of publicly-televised conference committee negotiations that included a nearly 24-hour marathon session on the final day, House conferees voted 20-11 and Senators voted 7-5 to approve the measure on party lines; and provided President Obama with a critical victory prior to this weekend’s G-20 Summit in Toronto.

Below are the key issues that were resolved in conference committee on Thursday:

Derivatives
A broad array of industries, both inside and outside the financial sector, anxiously awaited the conferees’ response to controversial Senate language authored by Sen. Blanche Lincoln (D-AR) that would require banks to spin-off or “wall off” their swaps operations. After many weeks of behind-the-scenes negotiations -- including a contentious session yesterday in which House Democrats threatened to pull their support for the overall bill if the Lincoln language was included -- conferees ultimately agreed to a watered-down version that allows banks to continue trading with certain derivatives that are deemed less risky. Under the proposal offered by House Agriculture Committee Chairman Collin C. Peterson (D-MN), derivatives tied to interest rate swaps, foreign exchange swaps, gold and silver, and investment-grade credit default swaps will be exempted from the prohibition, while derivative trading related to agriculture, commodities, energy, equities, metals, and below-investment-grade credit default swaps must be walled off from a bank’s federally insured deposits.

Volcker Rule
Aside from the derivatives title, the debate surrounding the “Volcker Rule” -- or the proposed ban on proprietary trading for banks and bank holding companies -- proved to be the most contentious item on the conferees’ agenda in the final week. In the end, negotiators agreed to strengthen the Volcker Rule provisions by incorporating language offered by Senators Carl Levin (D-MI) and Jeff Merkley (D-OR) that would strip the ability of regulators to halt the Volcker Rule‘s implementation. However, in deference to the wishes of Sen. Scott Brown (R-MA)—who was one of only four Republicans to vote for the financial reform bill in the Senate— the final language would allow banks to engage in proprietary trading activities with up to three percent of their tangible common equity.

Banking Capital Standards
Another major agreement involved language authored by Sen. Susan Collins (R-ME) that would limit the ability of banks to use commonly held securities known as “trust-preferred” to meet capital requirements. Although House Democrats sought a 10-year phase-in for financial institutions with assets between $15 billion and $100 billion, negotiators agreed to a five-year phase-in period for $15-$100 billion institutions and a full exemption for those with less than $15 billion.

Corporate Governance
Conferees decided to retain a Senate provision that requires publicly-trade companies to grant certain shareholders -- those owning five percent of the outstanding shares for at least two years -- to nominate and elect members of the board of directors through a proxy vote.

Levy on Banks and Hedge Funds
In order to defray the legislation’s projected $22 billion cost -- as estimated by the Congressional Budget Office -- conferees approved last-minute language that would allow the Federal Deposit Insurance Corporation (FDIC) to levy fees on financial institutions with assets of $50 billion or more and hedge funds with managed assets of over $10 billion.

The House and Senate are expected to vote on the final conference report next week -- which is not subject to further amendment -- before sending it on to the White House for President Obama's signature and enactment into law .
 

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Today the Senate Agriculture Committee, led by Chairman Blanche Lincoln (D-AR), completed its work on the over-the-counter derivatives section of financial regulatory reform. By a vote of 13 to 8, the committee adopted the Wall Street Transparency and Accountability Act. Sen. Charles Grassley (R-IA) was the only Republican to join the committee Democrats in voting for the bill.

The Senate is set to vote to end the filibuster on the Senate Banking Committee bill next Monday evening, which would allow Banking Chairman Chris Dodd (D-CT) to bring the legislation to the floor next Tuesday, April 27. The Monday night vote is dependent on getting at least one Republican to break ranks and vote for cloture, which would end the delay. No one knows which Republican will cave, but some likely candidates are the moderate Senators from the Northeast: Olympia Snowe (R-ME), Susan Collins (R-ME), or Scott Brown (R-MA).

We expect Sen. Dodd to incorporate Lincoln’s Wall Street Transparency and Accountability Act into the financial reform package he brings to the floor. Following are a few shorthand highlights of the Lincoln bill, but click here for the Senate Agriculture Committee’s more extensive summary and the most up to date bill language.

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Gaining strong momentum after its passage out of the House Financial Services Committee last week, a bill crafted by Chairman Barney Frank (D-MA) to create a new Consumer Financial Protection Agency (CFPA) ran into a significant and unforeseen roadblock on Thursday – fellow Democrat and equally powerful House Energy and Commerce Chairman Henry Waxman (CA). In what could have been a routine markup of H.R. 3126, the Consumer Financial Protection Agency Act of 2009, the House Energy and Commerce Committee -- whose jurisdiction includes consumer protection and Federal Trade Commission oversight -- made dramatic changes to Frank's bill. One of the most obvious can be gathered from the amended bill's title: the Consumer Financial Protection Commission Act of 2009.

Waxman and the committee's Ranking Member Joe Barton (R-TX) collaborated on the manager’s amendment that would dramatically shift the agency’s governance from a single director to a commission led by a five-person bipartisan panel. Modeled after independent agencies like the Federal Communications Commission and the Federal Trade Commission, the chairman and commissioners would be nominated by the president, confirmed by the Senate, and serve staggered five year terms

Frank expressed sharp disapproval of the Waxman approach, referring to the commission model as “a big mistake” that will “weaken the capacity of the agency to provide consumer protection.” Frank defended the House Financial Services version as a balanced approach that allows a CFPA director to take prompt action, while at the same time, receiving the necessary recommendations and oversight from a board comprised of bank regulators and consumer groups. The differences may need to be resolved on the House floor. Waxman indicated he would have further changes during the floor debate, specifically removing some of the industry exemptions that were carved out by the House Financial Services legislation, including those for merchants, retailers and auto dealers.

The House Rules Committee will be the next stop for the bills where Chairman Louise Slaughter (D-NY) will execute the will of the House Democratic leadership and likely resolve the differences. It would not be in the best interest of the White House or congressional Democrats to have two of its most powerful chairmen battle over consumer protection on the House floor. The schedule is not yet posted, but the Rules Committee reconciliation could occur as early as next week.

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Now that everyone has had a day or more to digest the Obama administration’s plan for Financial Regulatory Reform, suggestions, questions, and critiques are coming from all corners. Here is a sampling of the top issues under discussion.

Systemic Risk Regulator –

Sen. Mark Warner (D-VA), who sits on the Banking Committee, objects to the plan’s expansion of the Federal Reserve’s role in managing systemic risk, believing it would concentrate too much power in one entity. Warner instead proposes the establishment of a Systemic Risk Council comprised of the Treasury, the Fed, and the other financial regulators that would, together with a permanent council staff, be able to assess and minimize risks comprehensively across the financial landscape. The House Republicans also prefer the council approach, proposing their own version – the “Market Stability and Capital Adequacy Board”-- last week.

Tier I Financial Holding Companies --

What companies will be considered Tier I Financial Holding Companies and subject to new regulation by the Fed? The Fed and Treasury are to establish the criteria, but some companies that are not currently subject to federal regulation might include General Electric, Berkshire Hathaway, State Farm Insurance, or even WalMart. Those not used to federal regulation will be given five years to ease into the new regime – the non-financial activity restrictions in the Bank Holding Company Act.
 

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President Obama today released the long-awaited proposal for reform of the regulatory structure overseeing the financial services industry. It is a sweeping proposal with broad implications for the entire industry. It reshuffles regulatory powers, combines some agencies, creates a new one and extends federal regulatory powers to products and firms which are currently not federally regulated or regulated at all. Congress, the industry,the media and other stakeholders are poring over the 85-page "white paper" describing the proposal. Click here to go to the document.
 

Brief Summary

1.      Avoid Future Systemic Risk/Promote Robust Supervision and Regulation – Raise capital and liquidity requirements for banks and systemically significant financial firms; establish a Financial Services Oversight Council of regulators to coordinate and prevent systemic risk; establish a new National Bank Supervisor in Treasury to oversee federally chartered banks; bring hedge funds and other private pools of capital into the regulatory framework; require public companies to hold non-binding say-on-pay shareholder votes and have independent compensation committees; review accounting standards; establish the Office of National Insurance within Treasury to enhance oversight of the sector.

2.      Reform the Structure of the Financial System – impose “robust” reporting requirements on issuers of asset-backed securities; reduce reliance on credit rating agencies; require the originator, sponsor or broker of a securitization to retain a financial interest in its performance; harmonize the regulation of futures and securities; safeguard payment and settlement systems; subject all derivatives trading to regulation; strengthen oversight of systemically important payment, clearing and settlements systems.

3.      Protect Consumers and Investors – improve the SEC’s ability to protect investors and establish a new Consumer Financial Protection Agency to identify gaps in supervision and enforcement; ensure the enforcement of consumer protection regulations; improve state coordination; and promote consistent regulation of similar products.

4.      Enable the Government to Manage Financial Crises -- establish a resolution mechanism, similar to the FDIC’s,  for non-bank financial firms and subject those whose failure could harm the financial system (Tier I Financial Holding Companies) to Fed supervision; require the Fed to get Treasury sign off when the Fed invokes its emergency lending authority for “unusual and exigent circumstances.”

5.      Improve International Supervision and Coordination – improve oversight of global financial markets; strengthen the capital framework; coordinate supervision of international firms; enhance crisis management tools.

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President Obama is today releasing his plan for a new regulatory structure to mitigate risk in the financial marketplace. Please click here to see the proposal from the Administration. Financial Reform Watch will be posting analysis shortly.
 

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Tired of being labeled as obstructionists, Republicans on the House Financial Services Committee on Thursday issued their plan for financial regulatory reform. Led by the committee’s Ranking Minority Member Spencer Bachus (R-AL) and TARP Congressional Oversight Committee member Jeb Hensarling (R-TX), the Republican solutions stem from three principles – prevent any future Wall Street bailouts; stop the government from picking winners and losers in the financial system; and restore market discipline.

While the Republican plan does not address every issue -- most notably missing is insurance regulation – those included represent a consensus view within their caucus. Bachus described their plan as a “line in the sand” from which Republicans can negotiate with the Democrats. Hensarling, who before coming to Congress served on the executive compensation committee of a company publicly traded on the New York Stock Exchange, was particularly critical of the latest push to regulate compensation. A better approach, Hensarling believes, is the creation of a new “Market Stability and Capital Adequacy Board,” which would be charged with flagging risky practices across the board. The Republicans offered as an example the practice of rewarding loan originators for loan volume with no regard to loan quality, saying that such a board would have been able to halt that.

The White House plans to release its comprehensive reform plan on June 17th. Will the Obama administration give a nod to bipartisanship by including a few elements of the Republican plan? Financial Reform Watch will compare and contrast the plans later this week.

Central Elements of the Republican Plan

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Occasionally, the FRW team ventures out to take the pulse of the country on key issues coming up. Based on several days talking to journalists, business leaders, and government officials in California, we bring to our readers words of caution: the fiscal meltdown in California holds no small dangers for the recovery.

When California voters on May 19th rejected the key elements of the budget deal which averted disaster earlier in the year, top officials in Sacramento were sent back to the drawing board for an approach that will stave off a budget gap of more than 15 percent. With observers of the legislature saying that tax cuts, program cuts, and layoffs are all non-starters, where lies the answer?

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