By Kiran Krishnamurthy
Two years after the Dodd-Frank Act was signed, the law has resulted in new responsibilities for the Richmond Fed’s Supervision, Regulation and Credit (SRC) department. In this article, we take a look at how the legislation aimed at blunting the impact of future financial stresses has affected some of the work across SRC, as well as what’s ahead.
Small banks, big concerns
Like the communities they serve, some small and community banks were hit hard by the financial crisis and continue to struggle in this slowly recovering economy.
“As cost pressures and the cost of compliance increase, some banks look to other avenues for revenue. That raises risk profiles, which affects the work we do,” said Gene Johnson, vice president in SRC’s Community and Regional division at the Federal Reserve Bank of Richmond.
Community banks are concerned that Dodd-Frank provisions for larger banks, such as stress testing, could potentially be applied to them, added SRC Community and Regional Vice President Joan Garton.
“Dodd-Frank has raised a lot of concerns among community banks in terms of trickle-down effects and this could impact how smaller banks compete,” said Garton, who hears directly from bankers at Community Banker Forums that the Richmond Fed holds around the Fifth District. “There’s a lot of uncertainty for them.”
Community bankers, who already wear multiple hats in their organizations, also are trying to keep pace with growing compliance issues. The new Consumer Financial Protection Bureau is exploring the impact of payday lending, overdraft protection, mortgage fees and student loans on consumers. While the Bureau is responsible for enforcing consumer protection laws and regulations at institutions with assets of $10 billion or more, new consumer protection rules written by the Bureau will most likely apply to all financial institutions, unless specifically exempted, Garton said. Consequently, SRC examiners will be responsible for enforcing these new rules at state member banks.
In addition, Dodd-Frank expanded the Fed’s authority to include supervision of savings and loan holding companies (SLHCs). This added responsibility for 30 new SLHCs to the Community and Regional division of SRC.
Eyes on big banks
SRC’s Large Complex Banking Organization (LCBO) unit and its System counterparts recently wrapped up the Comprehensive Capital Assessment Review — better known as the Fed stress test — for 2012. Results of the Systemwide review showed that 15 of the 19 bank holding companies were estimated to maintain capital ratios above all four of the regulatory minimum levels under the hypothetical stress scenario, including the three bank holding companies under Fifth District supervision. That work provided SRC with a strong base to transition into required, ongoing Dodd-Frank Act stress testing work next year.
“We have now been through a few rounds of stress testing on the capital front and are working to put together a horizontal framework to do the same for liquidity,” said Lisa White, group vice president for the Richmond Fed’s LCBO supervision program.
Dodd-Frank also has requirements for resolution planning at the largest firms — a new supervisory area for both big banks and SRC. This summer, LCBO staff is working with System colleagues and FDIC counterparts to assess the resolution plan for Bank of America Corp. The two other large organizations LCBO supervises — Capital One Financial Corp. and BB&T Corp. — are required to file their first Dodd-Frank resolution plans at the end of 2013.
Transparency at the window
Dodd-Frank affects Fed lending to institutions through the discount window, as it relates to disclosure, eligibility, emergency lending and collateral practices, said Christy Cleare, assistant vice president in SRC’s Credit Risk Management division. The discount window provides contingency liquidity to financial institutions, usually on a short-term basis. New disclosure requirements require SRC staff to ensure that borrowers are aware that discount window loan details will be publicly disclosed on a two-year lag. And the law increased oversight of the discount window by authorizing the Government Accountability Office to audit Federal Reserve credit facilities.
Under Dodd-Frank, a bank that wants to be eligible for discount window loans that is deemed to be a “swaps entity” must first spin off that activity into an uninsured affiliate. The rule, which takes effect in July 2013, aims to separate a bank’s riskier activities from its businesses that might receive government backstops, such as deposit insurance. Discount window staff is also exploring ways to reduce reliance on credit rating agencies when it comes to assessing an institution’s pledged collateral, Cleare said.
Dodd-Frank also clarified that emergency lending programs should help provide financial system liquidity, not merely aid a single company. The law expanded discount window access to systemically important financial market utilities, which will be designated by the Financial Stability Oversight Committee; Reserve Banks will develop and implement monitoring and lending standards.
Consulting, communicating, supporting
As a type of internal consulting and thought leadership group that works on Fifth District and Fed System projects, Risk & Policy is involved in several major supervisory projects related to Dodd-Frank — from involvement in building, enhancing and validating stress testing models to risk evaluation.
“Much needs to be done to enhance stress testing’s infrastructure and strengthen its focus as a macroprudential exercise that helps assess systemic risk as a whole,” said Marshal Auron, vice president in SRC’s Risk & Policy division.
Ongoing communications — with staff, financial institutions, banking associations, and state and federal regulators — are key, too. “It’s important that we’re keeping stakeholders informed and that we provide avenues for their feedback as we implement the significant changes resulting from Dodd-Frank,” said Anne Gossweiler, vice president of SRC’s Operations and Staff Development division, pointing to regular communications such as this newsletter, banker forums and events such as the annual Credit Markets Symposium.
Kiran Krishnamurthy is a writer in the Corporate Communications department of the Federal Reserve Bank of Richmond.
The analyses and conclusions set forth in this publication are those of the authors and do not necessarily indicate concurrence by the Board of Governors, the Federal Reserve Banks, or the members of their staffs. Although we strive to make the information in this publication as accurate as possible, it is made available for educational and informational purposes only. Accordingly, for purposes of determining compliance with any legal requirement, the statements and views expressed in this publication do not constitute an interpretation of any law, rule or regulation by the Board or by the officials or employees of the Federal Reserve System.
Supervision, Regulation & Credit