Talking Bank Oversight; `Open' Banking; Gensler Speaks; Bitcoin ETFs Coming Soon?
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For a few hours this week, there was some momentum to put Financial Services Committee Chairman Patrick McHenry into the House speaker’s chair for a couple of months. But that sputtered out, shifting our focus back to less chaotic issues like the new CFPB rule on “open banking” and Bitcoin exchange traded funds. We also covered the SEC’s latest market structure proposal, which would eliminate volume discounts that the stock exchanges give their biggest customers. The plan is likely to put the SEC back in the middle of another industry fight. We spoke with Chair Gary Gensler after the 3-2 vote, held on his 66th birthday. For our Friday interview, we sat down with a professor who looks at financial regulation from the progressive side of the debate.
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Friday Q and A: With the end of the year approaching and the election on the horizon, the Biden administration’s financial regulators seem to be cranking it up a notch. That, of course, has sent industry opponents into overdrive. Whether it’s new capital requirements for banks or disclosure rules for hedge funds and private equity, the lobbying is getting more intense – and the lawsuits are mounting.
To help sort this all out, we sat down with one of the more knowledgeable experts on the progressive side of the debate. Todd Phillips may be best known for his time at the Center for American Progress where he was director of financial regulation and corporate governance. His specialties at the liberal think tank ran the gamut from digital assets to bank regulation to administrative law. He’s also been a senior attorney at the FDIC and worked on Capitol Hill.
More recently, however, Phillips made a bit of a career shift – moving from the world of D.C. policy wonks to academia. He’s now in his first semester teaching at Georgia State’s Robinson College of Business. Read on to learn more about Phillips’ job change and get his thoughts on how progressives view the Fed’s top bank overseer and the head of the CFPB. What follows is our (lightly edited and condensed) discussion.
Capitol Account: You’ve recently become a professor. How did that come about?
Todd Phillips: I got here through a very circuitous path. I spent time on Capitol Hill, I spent time in federal agencies, I spent time in think tanks. I really came to realize that what I enjoy doing is academic research and writing, and really digging into the nitty gritty of the issues…I have a lot of freedom to think and write about what I think is important, rather than really being constrained by the two-year election cycle, which is what happens in D.C. I’ve got to say, I'm loving this.
CA: Tell us about some of your research. One paper you’ve been working on argues that the CFPB should use its powers to regulate crypto lenders. They’ve already faced scrutiny by the SEC, CFTC and the FTC. What is the proper agency to deal with digital assets?
TP: The scams and fraud and everything we've seen from the crypto industry really requires an all of the above [approach]. If there is a regulator that has authority to protect consumers and investors, they should use it here. With regards to these crypto lenders like Voyager, like Celsius, the SEC is alleging that they issued securities – and therefore it puts them under their jurisdiction. One of the things my co-author and I are saying in this piece is [the lending firms] also took deposits, and the CFPB has some authority over deposit taking in non-bank financial institutions. The CFPB should use this…I think that they can be more aggressive, and they should be more aggressive.
CA: You focus a lot on bank regulation. How do you think Rohit Chopra, who holds a seat on the FDIC board, has been doing?
TP: The statements that Rohit has made while in the position of FDIC director have been really fantastic. Rohit is clearly the most progressive prudential regulator that we have right now.
CA: How so?
TP: His being put on the FDIC was the impetus for the fracas [where] Jelena McWilliams resigned…That really sent a signal that the Democratic appointees are going to be much more aggressive. He has made statements about banks’ living wills not being sufficiently strong, [and said] if the living wills are not sufficient, we may have to break banks up. We have not seen other prudential regulators go as forcefully, or as far, as he has. But he's certainly pushing the envelope, and is dragging some of the other regulators with him in that direction.
CA: That’s a new development on the FDIC?
TP: Historically the CFPB director has really gone along to get along – he has his own agency to run and does not pay too much attention. Rohit has really changed that. He hired someone to focus specifically on FDIC and FSOC matters. He’s really engaged with the policy making in a way that we haven't seen.
CA: Speaking of aggressive regulators, what do you think of all the lawsuit threats that are being bandied about over the new capital plan and the Community Reinvestment Act lending regulation? Why are banks so eager to challenge rules these days?
TP: Dodd-Frank put a lot of downward pressure on the banks, forcing them to shore up their capital positions and become much safer. Because of that, they have pulled back on some lending and have more non-bank competitors in that space who are not subject to the same restrictions. These non-bank lenders are essentially engaging in a regulatory arbitrage, but there's nothing that the banking regulators can really do about that. I think [banks] are just really furious that they are subject to these regulations when their direct competitors are not.
CA: What about the courts? They’ve become more conservative.
TP: The composition of the courts has really changed, from 2010, 2012. The Fifth Circuit Court of Appeals and the Supreme Court are very open to arguments that would've been unthinkable five years ago. The banking trade [associations] really see this – and see an opening to bring lawsuits.
CA: So combine these business pressures and a favorable court system — and voila.
TP: There is this pressure cooker, and they see a way out of it. I really think that's why we're going to see a lawsuit on [Basel III] endgame. I imagine we're going to see a lawsuit on CRA as well, because it [puts] more requirements on chartered banks that their competitors don't have to comply with.
CA: Do you have sympathy for that argument?
TP: Absolutely. These non-bank lenders should be subject to the same types of regulations as banks…(Friday)
If you are in the Washington area, come to our in-person event next week on bank capital. We promise a lively discussion:
Open Banking: It’s a rare occasion when the CFPB proposes a new rule and the banking industry doesn’t lose its (collective) mind. Thursday was one of those days.
Director Rohit Chopra even did his best to provoke his banking opponents, rolling out the proposal to promote the sharing of customers’ account data on a press call where he characterized the effort as a way to help consumers “escape junk fees.” The plan, he added, will give Americans “the power to walk away from bad service and choose the financial institutions that offer the best products and prices.” Chopra also brought along NEC Director Lael Brainard, another leading critic of financial firms, for support.
Banks, however, were willing to look the other way – at least for the time being – because they, too, are grappling with data issues, a problem sparked by the explosion of payment apps and other financial technology now embraced by consumers. The result: a chaotic marketplace where customer information is sloshing around with few protections.
The situation has put traditional lenders in a tough spot, and they would like the CFPB to step in with some rules of the road. Plus, these fintech firms (and even huge companies like Apple) are often competitors that aren’t saddled with the same regulatory obligations. Adding an additional wrinkle, banks may also benefit from easier data sharing because it can help them poach customers.
So call the banking industry cautiously optimistic about the CFPB plan. Executives and lawyers, of course, are still poring over the details of the nearly 300-page proposal, and none of them trust Chopra all that much. Some are already pointing out that the rule seems to push the limits of the Dodd-Frank Act, which was passed in 2010. For the fast moving world of fintech, the law doesn’t really address today’s marketplace. Still, nobody is pondering a lawsuit at this point…(Thursday)
SEC Chief Speaks: As is his custom, Gensler headed to the back of the SEC auditorium after Wednesday’s public meeting to take questions from the media. What follows are a few of his more interesting comments.
Digital assets: Gensler was asked about his thoughts on shoring up crypto policy in the wake of reports that Hamas used tokens to raise funds for its attack on Israel. “How much time do you have?” the chair asked, clearly relishing the question. He continued:
“It's a very real challenge. And you say what are the gaps? The gaps are these crypto intermediaries, sometimes called crypto exchanges, but others that are not fully compliant with the law – with the securities law, the Bank Secrecy Act, other laws…If you and I wanted to move U.S. Treasuries, we do that in electronic form, and we can only do that within the laws. This is an electronic instrument that one of its major use cases around the globe is to be off the grid. What we're doing here at the U.S. Securities and Exchange Commission is about trying to protect investors in this market and build trust…to instill trust in a marketplace that is so rife with fraud and abuse – the use of the underlying tokens for money laundering or for illicit activity or gun running. That's not a market that the public really wants.”
CAT lawsuit: Asked about the case filed this week by Citadel Securities and the American Securities Association challenging the funding plan for the consolidated audit trail, Gensler declined to comment. “I think it's only a couple of page[s]...but we'll take a look at it, and be responsive to it in the courts,” he said.
On the broader issue of the costs for the database, which tracks trading in U.S. markets, Gensler said he was supportive of how the SEC plan distributes the charges between brokers, the exchanges and Finra. Robert Cook, the self-regulator’s president, told firms last week they could likely pass on some of the tab to investors. The chair was asked if he was ok with that:
“I think that what investors benefit from is the trust in the market. Ultimately, it comes down to trust. Are there costs of a regulatory system? Yes there are. Whether it's the funding for the SEC, which is based on transaction fees that ultimately are paid for by the marketplace, or it's the consolidated audit trail…That helps build confidence and trust in the market, and that helps investors, that helps issuers. If the stock exchanges, which are self-regulatory organizations, can monitor the markets, can see the flow [it helps] protect you, the investing public.”
Staying on the job? Gensler also made clear he is going nowhere – and he took a bit of a poke at some of his critics in the markets as well:
“This is a great job…This is an incredible privilege to be in this job…to ensure that the markets work for investors and issuers…It's not about the intermediaries, it's not about the stock exchanges. Ultimately, it's not about the asset managers or private funds or hedge fund managers. It's about those investors and issuers accessing the market…That's why I'm ginned up to be here.”
…(Wednesday)
Gaining Steam: As much as Gensler may dislike crypto, the agency’s decision to not appeal its loss in the Grayscale Investments case sends a pretty strong signal that the commission is getting closer to approving a Bitcoin ETF – and it could happen as soon as early next year.
Questions about when a Bitcoin fund will come to market have been swirling, of course, since August when the D.C. federal appeals court found that the regulator had unlawfully denied Grayscale’s application for a spot Bitcoin exchange traded fund. The lapsing of the deadline for an appeal, which came late last week, has only added to the frenzy.
Though the SEC’s refusal to challenge the Grayscale ruling may have surprised those who listen to Gensler regularly opine about the “hucksters and scam artists” in the crypto industry, inside the agency it has been a different story. There’s been a growing realization that the court’s decision put the regulator in a legal box that isn’t easy to get out of, according to people familiar with the matter.
A key plank of the D.C. Circuit’s ruling was that the SEC had failed to offer a justification for why it had signed off on Bitcoin futures ETFs, but rejected Grayscale’s spot fund. The court noted that the products are essentially the same and stressed that “agencies must treat like cases alike.” The panel, which included two judges appointed by Democratic presidents and one Republican, was unanimous.
That in itself was a bad sign for the SEC, since Democratic jurists can usually be counted on to give federal agencies some deference. But the decision, officials concluded, also didn’t leave the SEC much wiggle room to deny Grayscale on other grounds. It was pretty clear, the sources said, that the commission would have to account for why it allowed the futures products. That led some SEC officials to argue that even if it once again refused Grayscale, the agency would only be postponing the inevitable.
There is now a long line of companies – including big, traditional asset managers – that have petitioned for their own Bitcoin ETFs. And adding another wrinkle, the agency approved Ether futures ETFs earlier this month. So it’s only a matter of time before it will have to confront questions about Ether spot funds, as well.
Also on the mind of some: The regulator’s setbacks in crypto cases are starting to pile up, including a partial loss in its high-profile lawsuit asserting that Ripple is a security. “The SEC’s recent performance in court on these crypto matters hasn’t been good,” says V. Gerard Comizio, a former agency official who’s now associate director of the business law program at American University. “It’s like having a pitcher on the mound who keeps getting shelled. Not appealing is probably a pretty good sign that they don’t want to keep losing before figuring out their longer-term strategy.”
One silver lining for Gensler, at least on the political side of the equation, is that the court ruling essentially gives him a get-out-of-jail-free card. If anti-crypto Democrats (think Sens. Sherrod Brown and Elizabeth Warren) blast him for opening up Bitcoin trading to a much larger universe of investors, he can at least say that his hands were tied.
An SEC spokesperson declined to comment…(Monday)
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