Financial Services Update – Issue 1

January 15, 2010

Authored by: Matt Jessee

Obama Unveils Proposal on Bank Taxes

President Barack Obama unveiled a “Financial Crisis Responsibility Fee” yesterday, which, if approved by lawmakers, would go into effect June 30, 2010, and last at least 10 years. It would amount to 0.15% of total assets, minus high-quality capital such as common stock and disclosed and retained earnings. Insurance policy reserves and deposits covered by the Federal Deposit Insurance Corporation (FDIC) would not be taxed because such assets are already subject to federal fees. The tax would hit approximately 50 banks, insurance companies and large broker-dealers. Of those, approximately 35 would be U.S. companies, and 10 to 15 would be U.S. subsidiaries of foreign financial firms.

The tax is expected to raise $117 billion over 12 years, and $90 billion over the following 10 years. Approximately 60 percent of the revenue will come from the 10 largest financial firms. The White House plan excludes small banks and auto makers that accepted funds from the government’s Troubled Asset Relief Program. The banking industry strongly opposes the White House fee, calling it a political exercise that will stifle the economic recovery, force it to pay for the auto sector’s bailout, and ultimately burden consumers.

House Democrats Introduce 50% Tax on Bonuses

On Thursday, House Democratic lawmakers introduced a bill to slap a 50% tax on bonuses paid in 2010 by banks that took federal bailout funds. Rep. Peter Welch (D., Vt.) said the bonus tax proposal is “complementary” to the fee proposed by Mr. Obama.

Regulatory Reform

House of Representatives

On Friday December 11, 2009 the House passed the most ambitious restructuring of federal financial regulations since the New Deal. The legislation would give the government new powers to break up companies that pose a systemic threat to the U.S. economy, creates a new agency to oversee consumer banking transactions, and regulates previously unregulated financial entities.

The vote was a party-line 223-202. No Republicans voted for the bill; 27 Democrats voted against it.

The House legislation includes the following key provisions:

  • Creates the Consumer Financial Protection Agency (CFPA), a new, independent federal agency, devoted solely to regulating financial products and services.
  • Creates an inter-agency oversight council that will identify and regulate financial firms that pose a systemic risk.
  • Establishes a “resolution authority” for dismantling large, failing financial institutions like AIG or Lehman Brothers.
  • Gives shareholders a “say on pay” advisory vote on pay practices including executive compensation and golden parachutes. It also allows regulators to ban what they deem to be “inappropriate or imprudently risky” compensation practices, and requires financial firms to disclose any compensation structures that include incentive-based elements.
  • Regulates the over-the-counter (OTC) derivatives marketplace forcing all standardized swap transactions between dealers and “major swap participants” to be cleared and traded on an exchange or electronic platform. The bill defines a “major swap participant” as “anyone that maintains a substantial net position in swaps, exclusive of hedging for commercial risk, or whose positions create such significant exposure to others that it requires monitoring.”
  • Incorporates the mortgage reform and anti-predatory lending bills that the House passed earlier this year into this bill.
  • Reregulates and imposes new liability standards on the credit rating agencies.
  • Requires almost all advisers to private pools of capital (such as hedge funds) to register with the SEC.
  • Creates a Federal Insurance Office that will monitor all aspects of the insurance industry.

Senate

With last week’s announcement that Senate Banking Committee Chairman Chris Dodd (D-CT) will be retiring rather than running for reelection, the prospects for passage of a bipartisan financial reform bill in the Senate increased. Dodd and Richard Shelby, the top Republican on the Senate Banking Committee, have said they hope to reach a deal on financial reform before the Senate reconvenes on January 20. The largest point of contention between the parties is over the CFPA, which Republicans strongly oppose.

Committee Members Mark Warner (D-VA) and Bob Corker (R-TN) are working to forge a compromise on the issue of systematic risk, in which they are proposing to create a special bankruptcy court for “too-big-to-fail” banks. The proposal would allow the FDIC to use taxpayer funds to make payouts to counterparties and creditors of the failing institution, and also allow the court to decide whether the institution should go through a traditional bankruptcy process or be subjected to the FDIC’s resolution process. Such an approach, however, would also need to be worked out with the Senate Judiciary Committee, which has jurisdiction over bankruptcy code legislation.

The Senate Agriculture Committee has jurisdiction over futures markets, which are used to determine commodity prices and manage business risks. Sources expect Chairman Blanche Lincoln (D-AR) to move her own bill simultaneously with Dodd’s committee.

Administration – Crisis Commission

On Wednesday the Financial Crisis Inquiry Commission, the 10-member panel appointed by Congress to look into the causes of the financial crisis, held its first public hearing, featuring the nation’s top bank executives – Lloyd Blankfein of Goldman Sachs, Jamie Dimon of JPMorgan Chase, John Mack of Morgan Stanley, and Brian Moynihan of Bank of America.

The Commission is co-chaired by Democrat Phil Angelides, former California treasurer, and Republican Bill Thomas, a former congressman who chaired the House Ways and Means Committee. Together they lead a 10-member bipartisan commission with an ambitious mandate and limited time.

Despite their different party labels, both men say that because they aim to explain the crises – not issue recommendations on how to avoid the next one – their work should be fairly nonpartisan. The commission is modeled on the 9/11 panel that examined the causes of the September 11, 2001, terrorist attacks. But its prototype could be the so-called Pecora Commission, the Senate committee that investigated Wall Street abuses in 1933-34. That commission was named after Ferdinand Pecora, the committee’s chief lawyer.

Congress instructed the new commission to explore 22 issues, ranging from the effect of monetary policy on terms of credit and government fiscal imbalances to bank compensation structures. Thomas said the commission’s inquiry should include a look at the consequences of the 1999 repeal of the Depression-era Glass-Steagall Act that forced the separation of commercial and investment banks. While Angelides said the commission’s job was not to re-debate the merits of the $700 billion bank bailout, he nonetheless noted that the commission’s inquiry does not end at the height of the crisis in fall 2008.

On Thursday, the Commission heard testimony from FDIC Chairman Sheila Bair and Securities & Exchange Commission (SEC) Chairman Mary Schapiro, and Attorney General Eric Holder. In his testimony, Attorney General Holder urged policymakers to undertake a broad reconsideration of the regulatory and economic policies affecting Wall Street firms in order to avoid a repeat of the financial crisis. Holder also noted that U.S. law enforcement officials are currently investigating more than 2,800 cases of possible mortgage fraud, a figure that could grow to be much larger. Ms. Schapiro, who is nearing her one-year anniversary as head of the SEC, testified that financial firms need to be prevented from taking advantage of gaps in regulation.

Commodity Futures Trading Commission

During their hearing Thursday, the Commodity Futures Trading Commissioners said that they would impose hard limits on energy futures contracts held by commodity traders, part of a move to curb excessive speculation and avoid a repeat of the 2008 run-up in oil prices. The plan would be to restore position limits that existed before 2001, when they were scrapped in a wide-ranging deregulation of financial markets. The limits will be imposed on futures and options open interest across all contract months on both the New York Mercantile Exchange and the Intercontinental Exchange, and set according to a percentage based on open interest. The combined position limit for all-months contracts is being set at 10 percent of the first 25,000 contracts of open interest and 2.5 percent of open interest beyond that. The single-month position limit, in turn, will be set at two-thirds of the combined position limit for the all-months holdings.

The agency is attempting to quell lawmakers’ anger about unregulated financial markets, but also hopes to avoid tightening the regulatory screws too much, fearing that overregulation could send commodity trading overseas or into unregulated over-the-counter markets. Setting up trading limits is a high priority for the agency’s chairman, Gary Gensler, a former executive at Goldman Sachs who also served as a senior Treasury official in the Clinton administration.