Who is Jack Lew?

On January 25, Timothy Geithner stepped down from his position as the current secretary of the U.S. Treasury. President Obama has appointed Jack Lew to take his place, but there is a question of what this decision will mean and what Lew will bring to the table. Geithner is known as someone with a strong familiarity with banking regulation. Lew is an attorney by trade who once worked at Citigroup but has a lot of political experience as the White House chief of staff. No one expects him to diverge from the administration’s agenda but much about his impact remains unknown.

 “Who is Jack Lew?”

It is always fun to speculate on how people will react when given the mantle of leadership. In such circumstances, even those wielding swords may decide that the best approach is to turn them into plowshares. Having said that, however, the appointment of Jack Lew to replace Tim Geithner cannot be viewed as a positive for the banking industry. Although Tim Geithner was far from an industry advocate (despite Sheila Bair’s assertions otherwise), he did seem to have a concern about the effect of regulation on the economy. In contrast, Jack Lew appears to be a person firmly committed to the president’s populist agenda. Accordingly, even the ability to have a conversation with people in power on the excesses of the rulemaking process may no longer be there.

— Peter Weinstock, Hunton & Williams, LLP

Critics of Dodd-Frank, and of regulatory reform in general, are likely to find little daylight between Jack Lew and his predecessor on the need to timely and thoughtfully implement the reforms that were proposed by the Obama Administration during the financial crisis and ultimately adopted by Congress in 2010. And so for the administration’s current approach to bank regulation, it appears safe to say that Lew’s appointment signifies a continuation, not a shift. Then again, if Lew’s unique signature is any indicator,a series of loops that will grace the U.S. dollar if he is appointed, perhaps he will surprise us all.

— Mark Chorazak, Simpson Thacher & Bartlett LLP

The appointment of Jack Lew?who is a lawyer rather that a capital markets person?will have only marginal impact in the near term on bank regulation. Since bank regulation has not been a principal focus of Lew, it is likely that he will rely heavily on staff at the U.S. Treasury and the bank regulators appointed by President Obama. That said, he is a quick study and financially savvy, so he will develop his own policies on bank regulatory matters as he confronts the issues that come at him. Some of those may be implemented through the Financial Stability Oversight Council (FSOC), which he will chair. But again, our experience with FSOC suggests that its very competent staff will continue the processes that are under way to reach Systemically Important Financial Institution (SIFI) designations in due course.

— Thomas Vartanian, Dechert LLP

While Jack Lew’s positions on the broad range of current issues including the Volcker Rule and Basel III are as yet uncharted territory, his first-hand experience in political maneuvering and negotiating will stand him in good stead as the new chair of FSOC. With Geithner as chair, FSOC did not accomplish much. With a surer and more politically savvy hand on the tiller, however, we can expect increased activity (including, at the outset, designation of certain nonbank entities as SIFIs and the establishment of new rules for money market mutual funds). Traditionally, the bank regulators, like the Office of the Comptroller of the Currency (OCC) and the now-defunct Office of Thrift Supervision, have been known to engage in turf wars to expand their own authority, and the Treasury secretary has not typically been able to wield much influence. The politicization of the regulatory framework wrought by Dodd-Frank, however, may significantly redraw the landscape of agency territoriality. Thus, the Securities and Exchange Commission may not so readily be able to ignore Lew if, as FSOC chair, he pushes strongly for money market reforms.

— Keith Fisher, Ballard Spahr LLP

Lew has banking experience, but Geithner had unparalleled exposure to bank regulation before he became secretary. I expect that Lew will continue the administration’s program and positions with respect to bank regulation, as reflected in Dodd-Frank.  

— Donald Lamson, Shearman & Sterling LLP

A Postcard from AOBA 2013

Bank Director recently completed its 19th annual Acquired or Be Acquired (AOBA) conference in Scottsdale, Arizona, and I would describe the mood — not just about the bank mergers and acquisition market, but about banking in general — as generally upbeat. I think the dark clouds that have hung over the industry since 2008 have begun to part and the future looks a little brighter.

We drew a record crowd of 700-plus attendees to the fabled Phoenician resort (once owned, temporarily, by the Federal Deposit Insurance Corp. when the former publisher of Bank Director magazine, the late Bill Seidman, was the agency’s chairman) for four days of peer group discussions, general sessions and breakouts on a wide variety of topics relating to M&A, capital and strategy.  Most of the attendees at this conference are bank chief executive officers and outside directors, so it’s almost impossible to spend a couple of days here and not come away with a strong sense of how the industry’s leadership feels about things. 

Jack_2-6-13.jpg(Unfortunately, the weather was not particularly cooperative during our stay. It rained the first couple of days — which is quite unusual for the Sonoran Desert this time of year — and in an effort to coax out the sun our managing director and executive vice president, Al Dominick, and I opened the conference by walking on stage with opened umbrellas. Our little voodoo trick was marginally successful — the sun finally appeared to stay on the final day of the event.)

If there was general consensus among the attendees about the future of the bank M&A market, it was this: We should see more deals this year than we saw in 2012 — when there were 230 acquisitions of healthy banks totaling $13.6 billion, according to SNL Financial. And one of the primary drivers will be the Federal Reserve’s ongoing monetary policy of keeping interest rates low, which has had the unhappy effect for most banks of squeezing their net interest margins. Remember, most banks make most of their money on the spread between their cost of funds and the interest rates they charge on loans. And even though deposits are dirt cheap at the moment, weak loan demand and intense competition for whatever good loans can be found have driven down loan pricing as well. Several speakers at this year’s conference predicted that the industry’s margin pressure — one might even call it a margin crisis—could last well into 2014.

A second driver could turn out to be the pending Basel III capital requirements, which in their current form apply equally to all sizes of institutions — and would force many community banks to raise capital. More than one speaker said that institutional investors are wary of putting their money into any bank that doesn’t have a compelling growth story to tell. Unless the U.S. regulators decide to apply a less stringent version of the requirements to small banks — let’s call it “Basel III Lite” — many such institutions could find themselves in the unenviable position of needing to raise capital from an unfriendly market. For them, selling out to a more strongly capitalized competitor might be their only option.

A third factor in the M&A market’s anticipated resurgence this year is the oppressive weight of banking regulation, including (but certainly not limited to) the Dodd-Frank Act. Smaller institutions will have a harder time affording the rising cost of compliance, and I’ve even heard some people suggest that banks will need to grow to $1 billion in assets before they begin to achieve what one might call “economies of compliance scale.” Although there are exceptions (including some provisions of Dodd-Frank), most regulations apply equally to all banks regardless of their size, which means it costs small banks disproportionately more as a percentage of revenue to comply than it does bigger banks with larger revenue bases. Will a large number of banks sell out solely because of the rising compliance burden? Probably not. But for an institution that is struggling with intense margin compression and needs to raise capital to meet yet another regulatory mandate, the higher cost of regulatory compliance could be the final straw.

Next year’s AOBA — set for Jan. 26 through Jan. 28 at the Arizona Biltmore resort in Scottsdale — will be the conference’s 20th anniversary and it will be interesting to see how well these predictions held up. Until then, ciao.

The Good Side of Dodd-Frank: How the Law Will Benefit the Banking Industry

Dodd-Frank_1-23-12.pngDodd-Frank, the regulatory behemoth signed into law in 2010, is undoubtedly a big burden that banks must bear. Clocking in at 2,300 pages and counting, the legislation can be overwhelming. Many in the industry believe its regulations will hurt community banks and force consolidation that will limit the number of small banks in this country.

Philip Ellis, senior counsel at Manufacturers Bank, a $2.1-billion asset institution headquartered in Los Angeles, California, thinks the law is not only harmful to community banks, but to the customers they serve.

He cites new rules on consumer foreign wire transfers as an example, saying that the rules will force out smaller banks, resulting in only larger banks and non-bank players like Western Union wanting to offer these services to consumers.

“It’s going to limit their choices,” says Ellis.

However, is there anything good to be said about Dodd-Frank’s impact on the banking industry? When all the dust from the 2,300 pages has settled in a big heap of regulations, what will be good about Dodd-Frank for banking?

“In the short term, these changes can test staff and operations,” says Simon Fish, executive vice president and general counsel of BMO Financial Group, a $525-billion asset financial services company based in Toronto, Canada, and operating in the United States through BMO Harris Bank.

New Consumer Focus

But Dodd-Frank’s supervisory focus on the consumer is beneficial, and will help the banking industry win back consumer trust, says Fish.

Tom Feltner, director of financial services at the Consumer Federation of America, an association of non-profit consumer organizations supportive of Dodd-Frank and the Consumer Financial Protection Bureau, echoes this thought.

“The industry stands to gain a lot of clarity,” says Feltner, adding that Dodd-Frank “stands to strengthen the industry by making sure that consumers are aware of their credit options, [and] that those credit options are safe and sustainable.” Creating a marketplace where consumer options are more transparent, and uncertainty, caused by abusive products, is removed, will further strengthen the financial sector, he says.

Level Playing Field

Dodd-Frank, through the Consumer Financial Protection Bureau, “creates a level playing field in terms of supervision and regulation of the industry,” says Feltner, as nonbank competitors such as pay day lenders have to follow many of the same rules as banks, posing “real benefits for the financial services sector.”

Joel Brickman, general counsel at The Cape Cod Five Cents Savings Bank, a $2.3-billion asset bank based in Cape Cod, Massachusetts points out that Dodd-Frank regulates community banks differently than the big banks.

“Dodd-Frank recognized that community banks are a different segment of the industry,” says Brickman, “and do not warrant all the same regulations as the large banks.” For example, banks and thrifts with less than $10 billion in assets don’t have to comply with the Durbin amendment, which limits fees on debit cards.

Increased Safety and Soundness

Wayne Abernathy, executive vice president for financial institutions policy and regulatory affairs with the American Bankers Association, sees additional benefits when it comes to the safety and soundness of the financial system.  He supports the creation of the Financial Stability Oversight Council (FSOC), established by Dodd-Frank and chaired by the secretary of the U.S. Treasury.

“One of the duties given to the FSOC was that they keep an eye on the systemic consequences of the accounting rules put forward by FASB (Financial Accounting Standards Board),” says Abernathy. “We believe that some of the accounting rules accelerated the crisis.”

In the past, he says, problems occurred as rules developed that did not look at the big picture. FSOC evaluates accounting rules to determine if they have systemic consequences. Additionally, FSOC enhances coordination among regulators.

Do these positives outweigh the negatives? Abernathy doesn’t think so, largely as the legislation takes discretion from bankers, and redirects it to Washington bureaucrats. 

“When you do that, then the bank’s number one concern is not meeting the needs of customers,” he says. “It’s meeting the needs of regulators.”

U.S. Basel III Proposals: Infographic

U.S. bank regulators have proposed to apply the Basel III capital rules to virtually all U.S. banking organizations. If adopted, the U.S. Basel III proposals would represent the most comprehensive revision to U.S. bank capital standards in over two decades. We have created some visuals that highlight certain key aspects of the U.S. Basel III proposals. An overview of the U.S. Basel III proposals and Davis Polk’s summaries of related Dodd-Frank bank regulatory rulemakings is available here.

View Davis Polk’s full-size visuals in pdf format including a timeline of U.S. Basel III implementation as proposed in June 2012.

A Five-Pronged Approach to Dealing with the New Regulatory Landscape

bsns-maze.jpgWhen it comes to compliance, the first step in preparing for the year ahead is to look at the immediate past. Regulators now have higher expectations. There is very low tolerance, if any, for regulatory infractions. Banks face a high degree of pressure to keep residual risk in check while still conducting business profitably. There will likely be mistakes, but the mistakes must be kept to manageable ones that do not fundamentally affect consumer rights. Examinations are tougher. The supervisory focus is on fairness to consumers. Regulators scrutinize data for accuracy and meaning.

The consequences of noncompliance are severe.  In 2011 and 2012, we saw financial institutions reach settlements with the Consumer Financial Protection Bureau (CFPB), the Department of Justice, and the prudential bank regulators for violations of consumer protection and other laws in excess of $1 billion. Not only are the settlements larger than ever, but they include refunds to affected customers as well as penalties. Even more than in the past, the reputational damage from enforcement actions can take years to recover from.

The Year Ahead

The year 2013 will bring continued concern about the daunting challenges posed by regulatory change for U.S. financial institutions. Of the nearly 400 rules required by the Dodd-Frank Act, only about one-third have been finalized, and another third have yet to be proposed, according to Davis Polk & Wardell LLP.  The new requirements are likely to trickle out for years to come. They, along with the adjustments financial institutions must make to accommodate the newly-formed CFPB, will surely test the mettle of even the strongest companies and keep continued pressure on the bottom line. During the year ahead, this consumer-focused scrutiny will take the form of not only deeper and more probing examinations, but more expensive penalties for noncompliance. 

High Risk Areas with Increased Vulnerability

Indications are this trend of focusing on consumer risk will continue in 2013.  We will continue to see supervisory interest in a number of key areas, such as:

  • Fair and responsible products and services
  • Mortgage origination and servicing
  • Treatment of consumer complaints
  • Data integrity
  • Servicemembers Civil Relief Act issues
  • Lender compensation
  • Overdraft protection programs
  • Student lending
  • Reverse mortgage lending
  • Compliance management systems

Governance Guidance for 2013

Successfully navigating the consumer-focused scrutiny in 2013 will depend on whether your institution adopts an integrated, proactive approach to compliance risk management.  To get started, directors must set the tone. First, take responsibility and ownership of your bank’s risks. Know where your bank’s risks are. Understand what your data says about you—including consumer complaints. Wherever possible, control and prevent problems; be confident that you will know where the next problem will surface. And we can’t emphasize this point strongly enough: Manage risks on an integrated basis across the enterprise.

Five Prong Approach to Preparing for 2013

There are a number of actions institutions can take to prepare themselves for 2013 and the regulatory and supervisory deluge to come. We recommend a five-prong strategy for preparing your institution to successfully meet these challenges.

One: Compliance Culture.  Instill a culture that embraces a consumer-centric, principles-based regulatory model. 

Two: Compliance Management System.  Build an integrated system of compliance management with board oversight, a comprehensive program, complaint management, and compliance audit.  

Three: Risk Assessments. Assess risk to the institution as well as the impact of products and services on the consumer.

Four: Fair Lending Risk Assessments. Subject lending data to in-depth statistical analysis, and give products and practices intensified review.

Five: Enterprise Reporting.  Implement a system of compiling information across the risk spectrum on an integrated basis and reporting the right level of detail to the right audience.

Understanding risk is an essential component of any proactive program. When it comes to predicting what will happen in 2013, we can all reasonably expect today’s trends to continue into the foreseeable future. The best strategy is to proactively prepare.

Basel III: How the New Standards Will Affect Your Bank

rules-help.jpgBasel III is bearing down upon us. The U.S. bank regulators issued their final proposals to adopt Basel III capital standards on August 30, 2012. Numerous members of Congress, the industry and even senior officials at the Federal Deposit Insurance Corp. (FDIC) and the Comptroller of the Currency have expressed concerns about these proposals.On the other hand, the Basel Committee has expressed concerns about timely, consistent implementation of Basel III around the world.  The U.S. bank regulators announced on November 9 that they would further consider the Basel III proposals, and that these would not become effective on January 1, 2013, as originally contemplated.

The Basics

The new rules will affect all depository institutions, depending upon how the Federal Reserve separately implements rules under the Dodd-Frank Act for intermediate holding companies established by commercial entities controlling thrifts. Although the Federal Reserve will not apply the Basel III capital rules to bank holding companies with less than $500 million in assets, the Collins Amendment, Section 171 of the Dodd-Frank Act, requires holding companies to maintain the same types and levels of capital as FDIC-insured depository institutions. Therefore, the proposed new rules will affect all depository institutions.

Among other things, the proposals:

  • contain specific, detailed required terms for each type of eligible capital instrument; (For example, to be eligible as “common stock,” such shares must, among other things, be the most subordinated claim in an insolvency and cannot be redeemed without prior regulatory approval, or contain any incentive for the issuer to redeem such shares.)
  • add a new common equity Tier 1 risk-based capital ratio;
  • add a capital conservation buffer of 2.5 percent, where noncompliance reduces the permissible amounts of dividends, stock buybacks and discretionary management bonuses;
  • increase capital minimums;
  • phase out trust preferred securities as Tier 1 capital for all holding companies, except those with less than $500 million in assets;
  • change risk weightings, especially the treatment of residential mortgage originations, sales and servicing, construction and development loans, deferred tax assets and nonperforming assets; (For example, higher risk weights will be assigned to non-traditional residential loans outside specified criteria such as interest-only mortgages or mortgages with balloon payments. Higher risk weights will also apply to certain “high volatility” commercial real estate loans.)
  • increase capital for off-balance sheet items such as warranties for real estate loans sold by banks to investors, and loan commitments of not more than a year; and
  • require capital be adjusted based on the current market value of held-for-sale securities.

The New Minimums

The new capital minimum ratios will be phased in over several years until they reach the following in 2019, with the 2.5 percent conservation buffer:

  • common equity Tier 1 capital – 7.00 percent (new)
  • Tier 1 capital – 8.50 percent (4-5 percent today)
  • Total capital – 10.50 percent (8 percent today)

The capital conservation buffer amounts will not be considered in determining whether depository institutions are “well capitalized” under the prompt corrective action (PCA) standards of Section 38 of the Federal Deposit Insurance Act. The PCA standards will change to reflect the proposed new capital measures, however, and will include the common equity Tier 1 capital ratio.


Banks will have to hold more equity. Common stock and perpetual, noncumulative preferred stock will be most valuable. Voting common stock must remain the majority of equity. Access to capital markets will become more essential.

Estimates of the amount of additional capital required under the proposals vary widely. The American Bankers Association anticipates that up to $60 billion of new capital will be needed. The actual amount will depend upon banks’ internally generated capital from profits, and their rates and types of asset growth. Federal Reserve actions to maintain low interest rates for an extended period will challenge interest margins and the industry’s ability to generate capital through earnings.

The proposals are complex and implementation will heavily tax smaller institutions with limited staff, which are also confronted with a deluge of Dodd-Frank Act and Consumer Financial Protection Bureau rules. Traditional banking, such as residential mortgage origination and servicing, will be especially affected by all these factors.

Banks will have to consider more carefully the returns on asset classes adjusted for the new capital levels and costs. Some lines of business may become unsustainable given the level of capital they require, and some segments of the economy may see diminished credit availability. Exactly how this will play out is hard to say.

Returns on capital, which will be less levered than currently, will be important in attracting and maintaining appropriate capital. Public companies, with greater size and access to capital, should have effective shelf registrations, and consider how to best take advantage of the new offering rules under the JOBS Act.


Basel III makes capital planning more important for banks of all sizes. All institutions should plan capital actions in light of Federal Reserve Letter SR 09-4. The Comptroller of the Currency’s Guidance for Examining Capital Planning and Adequacy, OCC 2012-16 (June 16, 2012) is also useful. Stress testing may become more prevalent as regulators seek better risk analyses, even where not mandated by the Dodd-Frank Act or Basel III. (See Community Bank Stress Testing, OCC Bulletin 2012-33, October 18, 2012.) It is unclear whether recent discussions of “reforming” the Basel III proposals will have any meaningful impact, especially given the pressures for consistent global implementation of Basel III. We suggest preparing for the proposals in their current form. The proposals, together with increased regulation, low top-line growth rates, and interest margins and profits squeezed by monetary policy, may be drivers of industry consolidation into banks that can best allocate capital to obtain growth with attractive risk-adjusted returns.

Old is New Again: Independence vs. Independent Judgment

thinking.jpgBankers are routinely inundated with “alerts” and “updates” from advisors setting forth current developments in the law as it applies to banks and their business.  As authors and recipients of such updates, we understand your pain, but also believe the information conveyed is critical to making informed decisions. However, every so often (now for instance), it’s important to reevaluate established practices and procedures to make sure we’re not forgetting something important.

As we approach year-end, it’s time to focus on compensation-related matters (yes, it’s that time of year already). In just a few weeks, many of us will be gathering in Chicago for Bank Director’s annual Bank Executive & Board Compensation Conference. No doubt, there will be much discussion surrounding the ever-increasing depth and breadth of laws, rules and regulations applicable to the banking industry generally and, in particular, compensation arrangements for directors and executives. But after a few years of focusing on the concept of risk, in all its glory, it’s likely there will be a fair amount of focus on independence this year. Over the summer, the Securities and Exchange Commission (SEC) announced its rules under the Dodd-Frank Act relating to compensation committee independence and, within the last few weeks, the New York Stock Exchange and NASDAQ OMX issued their own rules on independence as required by the SEC.

Independence and Dodd-Frank

The concept of independence for compensation committees—which underlies Dodd-Frank Act §952—is not a new one. The specific Dodd-Frank Act rules might be new, and will require study and may result in changes to your existing practices and procedures, but the concept of independence is familiar and worth revisiting. The rules will require that compensation committee members be independent and have access to independent advisors. What is left unsaid is that the information garnered from those independent advisors should be the basis for—not the end of—independent thought by independent directors. Independent advisors are not a substitute for independent judgment.

Sarbanes-Oxley Act of 2002 (SOX)

This year marks the 10-year anniversary of the SOX. It was enacted in response to the corporate and accounting scandals that came to light around 2002 (Enron, Tyco and WorldCom, just to note a few).  SOX focused on corporate responsibility and oversight of the accounting industry. At its root, however, were a few familiar ideas, that a public company have an audit committee, all members should be independent, should have access to independent advisors (auditors should be independent) and should exercise independent judgment.

Global Financial Crisis of 2008 & Risk Assessment

Six years after SOX, the world experienced the global financial crisis. One of the congressional reactions to this crisis was the enactment of the Dodd-Frank Act. The Dodd-Frank Act put the focus squarely on risk assessment of compensation plans. Bank regulators and the SEC reminded us that risk assessment in connection with compensation plans was not a new concept. Banks (and other entities) were directed to mitigate unreasonable risk in compensation programs wherever it was found. There was a focus on risk itself, risk mitigation, risk policies, claw-back of incentive compensation (incentive compensation that may have led to excessive risk-taking) and so on.

Lack of independence on the compensation committee was rightly perceived as a potential risk. To mandate the mitigation of this risk, the Dodd-Frank Act directed the SEC to enact rules, through the exchanges, that would require public companies to ensure their compensation committees are independent with uninhibited access to independent advisors to assist them in the discharge of their duties. Again, the rules may be new, but they are focused on a familiar concept—independence.

This brings us back to the alerts, updates, conferences, seminars and the seemingly infinite sources of industry information. All of the information you obtain, regardless of the source, is of no use unless it’s put to work in an independent decision-making process. Advisors will help to educate you, but it’s up to your board members to exercise independent judgment.

Dodd-Frank, Basel III and the Age of Uncertainty

SC-dodd-frank-wp.pngThe two-year anniversary of the passage of the Dodd-Frank Act is a good occasion to consider where we stand with respect to the proposals adopted in response to the financial crisis. Moreover, we do so in an environment of continued turmoil in the financial markets and banking industry. 

It is a restatement of the obvious to observe that the 2007 to 2009 financial crisis has led to a fundamental re-ordering of the regulatory landscape for large banking institutions. Just like the Great Depression was the impetus behind the passage of landmark legislation, including the Glass-Steagall Act and the Securities Act of 1933, the perceived lessons of the recent financial crisis have provided the inexorable impetus behind the passage of the Dodd-Frank Act.

While sweeping, however, the Dodd-Frank Act is but one component of this re-ordering of the U.S. and international bank regulatory environment. Aspects of these fundamental reforms include: the international adoption of significantly enhanced capital requirements and the implementation of mandated liquidity ratios; the introduction of effective floating, minimum capital requirements under stressed scenarios in the U.S.; increased efforts towards “ring-fencing” the local operations of internationally active banks; and the imposition of new analytical frameworks that seek to discourage the buildup of systemic risks through additional capital surcharges and limits on growth through acquisitions.

The emerging regulatory landscape is certainly more stringent and less forgiving. In many ways, this is rightly so—the crisis revealed deficiencies that needed to be fixed (although in the case of the Volcker Rule, one cannot readily identify a need for it in the 2007 to 2009 experience). One may debate the relative merits of some of the specific changes being made, at least in the case of measures that are in final enough form to permit evaluation. More crucially, however, it is proving very difficult to analyze how this new regulatory landscape will operate in practice to shape the very nature of the U.S. and international banking industry as a whole. Thus, in the short term at least, a dominant characteristic of the regulatory landscape emerging in the wake of the financial crisis is:

  • uncertainty arising out of specific rules that require important clarifications, or actually remain to be written; and
  • uncertainty as to how exactly all the rules will work (or not) together.

Dodd-Frank Round-Up: Where We Are and What Needs to Be Done

future-signs.jpgIt’s been two years since the Dodd-Frank Act was passed, and regulators have published 8,800 pages of regulations ironing out the details of the law. Many rules still have not been written, leaving huge portions of the Act in limbo. This article takes a look at the status of major pieces of the legislation with an eye towards the impact on commercial banks and the banking system.


About: The recent financial crisis highlighted risks taken by individual companies in a highly interconnected financial sector. Dodd-Frank established a framework for monitoring and regulating this systemic risk. 

Past Developments: The newly created Financial Services Oversight Council released its final rule for designating nonbank systemically important institutions. The top banking firms recently released their “living wills,” or plans to unwind themselves in the event of failure without government or taxpayer assistance. 

Future Developments: The Federal Reserve will finalize capital requirements for large institutions as well as the specific rules for implementation of Basel III, an international agreement that strengthens capital requirements and adds new regulations on bank liquidity and leverage.

—From: Weil, Gotshal & Manges LLP, “The Dodd-Frank Act: Two Years Later,”  For access to their full report, click here.



About:  The Durbin Amendment part of Dodd-Frank, which caps debit card interchange fees for banks above $10 billion in assets, has likely had the greatest immediate impact on the banking industry, as it went into effect in October of last year.

Past Developments:  The impact on banking revenues has been swift. The industry reported a $1.44 billion loss of revenue in the fourth quarter of 2011, resulting in an annualized $5.75 billion loss if this pattern holds, according to Novantas LLC, a New York City-based consulting firm.

Future Developments:  It is still uncertain whether banks under $10 billion in assets will be able to charge more for debit card interchange than bigger banks in the long term, but so far, the smaller banks haven’t reported a loss of income in aggregate.


About: Dodd-Frank requires institutions to show that their incentive arrangements are consistently safe and do not expose their firms to imprudent risk. 

Past Developments: The Securities and Exchange Commission implemented rules last year requiring publicly traded companies to take advisory shareholders votes on executive compensation, also known as “say on pay.” It also implemented rules on the independence of compensation committees and compensation advisors, as well as on “golden parachute” payments to executives.

Future Developments: Dodd-Frank included a provision that instructed agencies to issue guidelines on incentive compensation. Although proposed more than a year ago, they have not been finalized.

—From the Securities and Exchange Commission and Deloitte LLP’s “Dodd-Frank Act Two-Year Anniversary: Seven Takeaways on Dodd-Frank’s Impact on Compensation.”  For access to their full report, click here.


About:  The CFPB is the first federal agency focused solely on consumer financial protection, and it holds responsibilities previously managed by several other regulators.  The CFPB has examination authority over banks, thrifts and credit unions with $10 billion or more in assets, as well as some large nonbank financial service companies that previously escaped federal regulation, such as payday lenders.

Past Developments: With a new director in place, the CFPB has not simply been implementing rules it inherited from other regulators, but promulgating many new, substantive rules. 

Future Developments: Further rulemaking may help illuminate the meaning of “unfair, deceptive and abusive” acts and practices, which the CFPB is tasked with eliminating, especially in the context of mortgage servicing and origination. New mortgage disclosure documents are in the process of being finalized.

—From Weil, Gotshal & Manges LLP,  “The Dodd-Frank Act:Two Years Later.”  For access to their full report, click here.


About: Dodd-Frank amends the residential mortgage portions of several federal housing statutes. Among other things, mortgage originators now owe a duty of care to borrowers.  

Past Developments: Creditors are now required to make a reasonable and good faith determination that a consumer has a reasonable ability to repay a residential mortgage.

Future Developments: The CFPB is considering rules to implement provisions of Dodd-Frank that would address mortgage loan originator qualifications and compensation. 

—From Morrison & Foerster’s “Dodd-Frank at Two.”  For access to the full report, click here.


About:  The Dodd-Frank Act is designed to provide a comprehensive framework for the regulation of the over-the-counter derivatives market to provide greater transparency and reduce risk between counterparties.

Past Developments: The Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) have both been missing statutory deadlines.

Future Developments: It is yet to be determined specifically how these provisions will be applied across borders and to what extent they will cover U.S. operations of foreign firms. 

—From Deloitte LLP’s “Dodd-Frank Act Two-Year Anniversary: Five Takeaways on Dodd-Frank’s Impact on Derivatives.”  For access to their full report, click here.


About: The Volcker rule prohibits banks and bank holding companies from engaging in proprietary trading or owning private equity and hedge funds, with some exceptions. It is considered one of the most controversial aspects of Dodd-Frank.

Past Developments: The Fed, FDIC, OCC, and SEC jointly issued the proposed rule, which further defined key terms such as “banking entity,” “proprietary trading,” and “covered fund,” as well as outlining exceptions to the rule’s prohibitions.  If proposed in its present form, many investment products having nothing to do with private equity or hedge funds will be prohibited.

Future Developments: Lawmakers and regulators are pushing for the final rule by the end of the year, but affected financial institutions will have until at least July 21, 2012 to conform to the rule.

—From Weil, Gotshal & Manges LLP, “The Dodd-Frank Act: Two Years Later.”  For access to their full report, click here.


 About: Based on “lessons learned” from the financial crisis, regulators are examining more critically the quality of capital held by U.S. banking organizations as well as credit risks. 

Past Developments: In early June 2012, the U.S. banking agencies published for comment a series of three regulatory capital rulemakings in accordance with the international Basel III agreement, two of which would substantially revise the current regulatory framework. Comments on the proposals are due September 7.

Future Developments: Many of the new capital guidelines and rules haven’t gone into effect and will be gradually phased in over a period of a year or up to a decade, depending on the size of the bank and the rule.

—From Morrison & Foerster’s “Dodd-Frank at Two.”  For access to their full report, click here.

Dodd-Frank Enters Its Terrible Twos

two-yrs-old.jpgI’ve been writing about the banking and financial services industry since the mid-1980s and during that time, only the Federal Deposit Insurance Improvement Act of 1991, which was enacted after an earlier banking crisis, and the Sarbanes-Oxley Act of 2002, which was a byproduct of corporate accounting scandals such as Enron, come close. But those reform laws were much narrower in their focus, and much less ambitious. I don’t believe that even the Glass-Steagall Act of 1933, the historic Depression-era law that separated commercial and investment banking, was nearly as broad in scope as Dodd-Frank, although banking and the capital markets in the 1930s obviously weren’t as large and sophisticated as they are today.

And that might be why the federal regulatory agencies that were tasked to write nearly 250 new rules have fallen well off the pace that Congress set for them when it passed Dodd-Frank. According to a recent analysis by the Davis Polk law firm, approximately 63 percent of the required rules whose deadlines have passed have either not been proposed or not finalized. “The deadlines were always ridiculously unrealistic, which is something I tried to say at the time,” says former Comptroller of the Currency John Dugan, now a law partner at Covington & Burling in Washington.

“Some of the regulatory agencies just don’t have the staff resources” that are required to write a blizzard of new rules, adds Brian Gardner, senior vice president for Washington research at the investment banking firm Keefe, Bruyette & Woods. Gardner says that in particular the Commodity Futures Trading Commission has struggled to write new rules for how the derivatives market will be regulated going forward, although it has made progress.

Dugan, who finished his five-year tenure at the Office of the Comptroller of the Currency just three weeks after President Barack Obama signed Dodd-Frank into law, believes its greatest impact has been the Durbin Amendment—which allows the Federal Reserve to regulate the amount of debit card interchange fees that banks may charge—and the establishment of the Consumer Financial Protection Bureau (CFPB).

I would concur with Dugan’s assessment. According to the consulting firm Novantas LLC, Durbin-inspired restrictions on debit card income will cost the industry upwards of $5.75 billion in annualized revenue—and this at a time when many banks are struggling to grow their top lines because of poor loan demand. And by creating the CFPB, Congress established a new regulatory regime for the consumer financial services marketplace. This new regulator, which I wrote about in our second quarter issue, potentially could have an enormous impact on the banking industry over time.

Interestingly, Gardner says the bureau has moved more slowly to exercise its enforcement and rule making authority than he would have expected at the two year mark. He also believes the presidential election could have a significant impact on the bureau’s future. You’ll recall that CFPB Director Richard Cordray received a recess appointment from Obama when Senate Republicans blocked his confirmation over their displeasure with how the bureau was structured.  Should Obama lose to Mitt Romney and the Republicans also take control of the Senate, a President Romney would be able to appoint a director more to his liking—presumably, one less inclined to meddle in the industry’s business. “You could see the bureau taking a different direction,” Gardner says.

There is still a lot of work ahead for all those beleaguered federal regulators, including the writing of the hotly debated Volcker Rule—which would severely restrict the proprietary trading activities of commercial banks. Also yet to be finalized or in some cases even proposed are new rules on securitization, new capital requirements for banks and several very important initiatives in the mortgage area. The CFPB has been tasked by Dodd-Frank to develop a qualified means test to determine whether a borrower has the ability to repay a loan. A group of federal regulators has also been working on a new risk retention rule that would require lenders to retain 5 percent of the loans they sell into the securitization market, although an initial proposal would have exempted securitizations made up of qualified mortgage, commercial or auto loans from the requirement. These rules have not been finalized yet and until they are, mortgage originators who sell their loans to third parties that securitize them won’t know how much capital (if any) they will have to set aside to meet the requirement.

The House Committee on Financial Services will be holding hearings this week on Dodd-Frank, and if you didn’t already know how House Republicans feel about it, all you have to do is go to the committee’s website (http://financialservices.house.gov/), where you’ll see a full throated attack on the law. Repealing Dodd-Frank is a dream that many Congressional Republicans have, but that’s as unlikely as the country going back on the gold standard. Even if Romney beats Obama and Republicans hold the House and regain the Senate, Congressional Democrats might still have enough strength to frustrate their plans. “I think it would be very difficult to get a full repeal of Dodd-Frank,” says Dugan.

And that means, like it or not, the most detested financial reform law of all time will probably be around to celebrate many more birthdays.