United States: Federal Agencies Seek Additional Limits On Permissible Banking Activities

Last Updated: September 13 2016
Article by Scott A. Cammarn

Most Read Contributor in United States, September 2017

The Board of Governors of the Federal Reserve System (the "FRB"), the FDIC and the Office of the Comptroller of the Currency ("OCC") (collectively, the "Agencies") conducted a study of the kinds of activities and investments that are permissible for banking entities, the associated risks of the activities, and how the risks are mitigated by those entities. The joint Report, mandated by Dodd-Frank Act, Section 620, was prepared for the Financial Services Committee, the U.S. Senate Committee on Banking, Housing and Urban Affairs, and the Financial Stability Oversight Council ("FSOC").

The FRB prepared the first section, which covers state member banks, depository institution holding companies, the Edge Act and agreement corporations, and the U.S. operations of foreign banking organizations. The FRB recommended, among other things, that Congress repeal:

  • the authority of Financial Holding Companies ("FHCs") to engage in merchant banking activities;
  • the grandfathered authority of certain FHCs to engage in commodities activities under section 4(o) of the Bank Holding Company Act;
  • the exemption that permits corporate owners of industrial loan companies to operate outside of the regulatory and supervisory framework that is applicable to other corporate owners of insured depository institutions; and
  • an exemption for Grandfathered Unitary Savings and Loan Holding Companies ("SLHCs") from the activities restrictions applicable to all other SLHCs.

The FDIC prepared the second section, which includes a "comprehensive review of the activities and investments in which state banks and state savings associations may engage." The FDIC emphasized that as a result of its findings, it intends to:

  • review activities related to investments in other financial institutions and equity investments in order to evaluate the interaction of existing FDIC regulations and certain supervisory approvals and conditions under part 362, along with more recent regulatory and statutory rules governing such investments, in order to determine whether changes to part 362 or related procedures with regard to such investments are needed; and
  • determine whether the prudential conditions and standards under which the FDIC will evaluate part 362 filings with respect to mineral rights, commodities or other non-traditional activities need to be clarified and, if so, consider issuing a statement of policy pursuant to its determination.

The OCC prepared the third section, which covers national banks, federal savings associations, and the federal branches and agencies of foreign banks. The OCC stated that, based on its findings, it intends to:

  • issue a proposed rule prohibiting federal banking entities from holding asset-backed securities that hold bank-impermissible assets;
  • address concentrations of mark-to-model assets and liabilities with a rulemaking or guidance;
  • clarify minimum prudential standards for certain national bank swap-dealing activities;
  • consider providing guidance on clearinghouse memberships;
  • clarify regulatory limits on physical hedging;
  • address national banks' authority to hold and trade copper; and
  • incorporate the Volcker Rule into the OCC's investment securities regulations.

Commentary / Scott Cammarn

The long-delinquent Joint Report under Dodd-Frank Section 620 – the report was due in January 2012 - recommends a handful of changes that may have varying impact on banking entities, but in all cases represent rollback of existing authority. The Fed's suggestion to repeal merchant banking authority - originally granted in 1999 - has the most widespread impact, and could affect the more than 500 financial holding companies (including foreign financial holding companies) across the U.S. The remaining Fed recommendations have a more isolated impact. For example, the proposed repeal of grandfathered commodity authority - also granted in 1999 – would impact only Goldman Sachs and Morgan Stanley. In that regard, it is interesting to note that the Fed's proposal did not indicate changes to the more limited physical commodity powers of financial holding companies granted under "complementary" authority relied on by 14 other financial holding companies. Complementary commodities authority - along with merchant banking and grandfathered commodities authority - was the subject to a 2014 advanced notice of proposed rulemaking by the Fed; yesterday's report seems to suggest that the Fed may be inclined to allow complementary physical commodities authority to survive in some fashion. Also interesting is the Fed's recommendation to close off the nonbank bank exemption for industrial loan companies – first created in 1986. This illustrates the agencies' continued disfavor for nonbank bank charters and perhaps signals that marketplace lenders may have difficulty garnering federal support for a non-traditional federal bank charter for internet lending. The above changes regarding merchant banking, grandfathered commodity authority and the ILC loophole – all will require legislation by Congress and thus may be slow in coming.

The changes proposed by the OCC can be accomplished by rulemaking and thus may occur more swiftly. Regarding the OCC's proposed changes, such as the narrowing of the investment securities authority and repeal of copper trading authority, will indirectly affect state banks and state branches of foreign banks, too, since their authority is indirectly derived from the National Bank Act.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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