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S. HRG. 113–3 

WALL STREET REFORM: OVERSIGHT OF FINANCIAL STABILITY AND CONSUMER AND INVESTOR PROTECTIONS 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED THIRTEENTH CONGRESS 

FIRST SESSION 

ON 

EXAMINING THE AGENCIES’ OVERALL IMPLEMENTATION OF THE 

DODD-FRANK WALL STREET REFORM AND CONSUMER PROTECTION 

ACT 

FEBRUARY 14, 2013 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.fdsys.gov/ 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

TIM JOHNSON, South Dakota, Chairman 

JACK REED, Rhode Island 

CHARLES E. SCHUMER, New York 

ROBERT MENENDEZ, New Jersey 

SHERROD BROWN, Ohio 

JON TESTER, Montana 

MARK R. WARNER, Virginia 

JEFF MERKLEY, Oregon 

KAY HAGAN, North Carolina 

JOE MANCHIN III, West Virginia 

ELIZABETH WARREN, Massachusetts 

HEIDI HEITKAMP, North Dakota 

MIKE CRAPO, Idaho 

RICHARD C. SHELBY, Alabama 

BOB CORKER, Tennessee 

DAVID VITTER, Louisiana 

MIKE JOHANNS, Nebraska 

PATRICK J. TOOMEY, Pennsylvania 

MARK KIRK, Illinois 

JERRY MORAN, Kansas 

TOM COBURN, Oklahoma 

DEAN HELLER, Nevada 

CHARLES YI, Staff Director 

GREGG RICHARD, Republican Staff Director 

LAURA SWANSON, Deputy Staff Director 

JEANETTE QUICK, OCC Detailee 

GREG DEAN, Republican Chief Counsel 

JELENA MCWILLIAMS, Republican Senior Counsel 

DAWN RATLIFF, Chief Clerk 

RIKER VERMILYE, Hearing Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 

(II)

C O N T E N T S 

THURSDAY, FEBRUARY 14, 2013 

Page 

Opening statement of Chairman Johnson ............................................................. 1 

Opening statements, comments, or prepared statements of: 

Senator Crapo ................................................................................................... 2 

Senator Heitkamp 

Prepared statement ................................................................................... 37 

WITNESSES 

Mary J. Miller, Under Secretary for Domestic Finance, Department of the 

Treasury ................................................................................................................ 4 

Prepared statement .......................................................................................... 37 

Responses to written questions of: 

Senator Crapo ............................................................................................ 89 

Senator Schumer ....................................................................................... 90 

Senator Warner ......................................................................................... 93 

Senator Warren ......................................................................................... 94 

Senator Johanns ........................................................................................ 97 

Senator Toomey ......................................................................................... 99 

Daniel K. Tarullo, Governor, Board of Governors of the Federal Reserve 

System ................................................................................................................... 6 

Prepared statement .......................................................................................... 41 

Responses to written questions of: 

Senator Crapo ............................................................................................ 102 

Senator Warner ......................................................................................... 107 

Senator Warren ......................................................................................... 111 

Senator Toomey ......................................................................................... 116 

Martin J. Gruenberg, Chairman, Federal Deposit Insurance Corporation ......... 7 

Prepared statement .......................................................................................... 45 

Responses to written questions of: 

Senator Crapo ............................................................................................ 118 

Senator Warner ......................................................................................... 126 

Senator Heitkamp ..................................................................................... 130 

Senator Toomey ......................................................................................... 132 

Thomas J. Curry, Comptroller, Office of the Comptroller of the Currency ........ 9 

Prepared statement .......................................................................................... 51 

Responses to written questions of: 

Senator Crapo ............................................................................................ 133 

Senator Warren ......................................................................................... 137 

Senator Heitkamp ..................................................................................... 141 

Senator Toomey ......................................................................................... 142 

Richard Cordray, Director, Consumer Financial Protection Bureau ................... 10 

Prepared statement .......................................................................................... 58 

Responses to written questions of: 

Senator Warner ......................................................................................... 142 

Senator Heitkamp ..................................................................................... 143 

Elisse B. Walter, Chairman, Securities and Exchange Commission ................... 12 

Prepared statement .......................................................................................... 63 

Responses to written questions of: 

Senator Crapo ............................................................................................ 145 

Senator Warner ......................................................................................... 147 

Senator Warren ......................................................................................... 148 

Senator Toomey ......................................................................................... 154 

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Page

IV 

Gary Gensler, Chairman, Commodity Futures Trading Commission ................. 14 

Prepared statement .......................................................................................... 82 

Responses to written questions of: 

Senator Crapo ............................................................................................ 156 

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

Highlights of GAO-13-180: Financial Crisis Losses and Potential Impacts 

of the Dodd-Frank Act, January 2013 ................................................................ 158 

Submitted written testimony of Christy Romero, Special Inspector General 

for the Troubled Asset Relief Program (SIGTARP) ........................................... 159 

(1) 

WALL STREET REFORM: OVERSIGHT OF FINANCIAL STABILITY AND CONSUMER AND 

INVESTOR PROTECTIONS 

THURSDAY, FEBRUARY 14, 2013 

U.S. SENATE, 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, 

Washington, DC. 

The Committee met at 10:33 a.m., in room SD–538, Dirksen Senate Office Building, Hon. Tim Johnson, Chairman of the Committee, presiding. 

OPENING STATEMENT OF CHAIRMAN TIM JOHNSON 

Chairman JOHNSON. This Committee is called to order. 

Before we begin, I would like to extend a warm welcome to Senator Crapo as Ranking Member and to Senator Manchin, Senator 

Warren, Senator Heitkamp, Senator Coburn, and Senator Heller 

who are joining us this Congress. I would also like to welcome back 

my friend Senator Kirk. 

Earlier this week I released my agenda for this Congress, and I 

look forward to this Committee’s continued productivity. I am optimistic that we can work together on a bipartisan basis. To that 

end, Ranking Member Crapo and I sent a letter yesterday to the 

banking regulators on the importance of carefully implementing 

Basel III, and I look forward to hearing from each of you, and 

working with the Ranking Member, on this issue. 

Today, this Committee continues a top priority—oversight of 

Wall Street Reform implementation. Wall Street reform was enacted to make the financial system more resilient, minimize risk of 

another financial crisis, better protect consumers from abusive financial practices, and ensure American taxpayers will never again 

be called upon to bail out a failing financial firm. This morning, we 

will hear from the regulators on how their agencies are carrying 

out these mandates of Wall Street reform. 

Many of the law’s remaining rulemakings, like QRM and the 

Volcker Rule, require careful consideration of complex issues as 

well as interagency and international coordination. I appreciate 

your efforts to finalize these rules. To date, the regulators have 

proposed or finalized over three-fourths of the rules required by 

Wall Street reform. These include rules that have recently gone 

‘‘live’’ in the market, such as the data reporting and registration 

rules for derivatives that mark new oversight of a previously unregulated market. But there is still more work to do. 

2 

That is why I have asked each of our witnesses to provide a 

progress report to the Committee, both on rulemakings that your 

agency has completed and those that your agency has yet to finalize. I ask that you craft these rules in a manner that is effective 

for smaller firms, like community banks, so that they can continue 

to meet the needs of their customers and communities. 

The work does not end when the final rules go out the door. Regulators must enforce the rules, and I ask that each agency inform 

us how they intend to better supervise the financial system. While 

concerns have been raised about whether a few firms remain ‘‘too 

big to fail,’’ Wall Street reform provides regulators with new tools 

to address the issue head on. This is one of the many reasons why 

full implementation of the law remains important, not just for our 

constituents but for future generations. 

As we approach the 5-year anniversary of the failure of Bear 

Stearns, we must not lose sight of why we passed Wall Street reform. Congress enacted the law in the wake of the most severe financial crisis in the lifetime of most Americans. How costly was it? 

I asked the GAO to study this question to better understand the 

impact the crisis had on our Nation. In a report released today, 

which I am entering in the record, the GAO concluded that while 

the precise cost of the crisis is difficult to calculate, the total damage to the economy may be as high as $13 trillion. I say again, 13 

trillion—with a ‘‘T’’—dollars. Thus, I urge you to consider the benefits of avoiding another costly, devastating crisis as you continue 

implementing Wall Street reform. 

I would like to make one final comment on Director Cordray and 

the CFPB. Since he was appointed as the head of the CFPB last 

year, Director Cordray and the CFPB have worked tirelessly to finalize many rules and policies to protect consumers in areas such 

as mortgages, student lending, servicemembers’ rights, and credit 

cards. He has done good work, and I urge my colleagues to confirm 

Director Cordray to a full term without delay and allow the CFPB 

to continue its important work protecting consumers. 

I now turn to Ranking Member Crapo. 

STATEMENT OF SENATOR MIKE CRAPO 

Senator CRAPO. Thank you very much, Mr. Chairman. You and 

I have a very good personal friendship and have had a good working relationship over the years, and I look forward to building on 

that and working with you as the Ranking Member of the Committee this year, this Congress. 

One of my objectives and hopes would be to work together on the 

kind of commonsense bipartisan solutions that we can achieve before this Committee in a number of areas that I think various 

Members of the Committee have already identified and discussed 

among ourselves. 

We, you and I, as you indicated, have already sent a joint letter 

to inform the regulators of our concerns about the impact of the 

proposed Basel III requirements on community banks, insurance 

companies, and the mortgage market, and so we are off to a good 

start. I look forward to building on that. 

I also want to join with you in welcoming the new Members of 

our Committee: on our side, Senators Coburn and Heller; and on 

3 

your side, also Senators Manchin, Warren, and Heitkamp. We welcome you to the Committee. 

Today, the Committee will hear about the ongoing implementation of Dodd-Frank. Academic researchers estimate that when 

Dodd-Frank is fully implemented, there will be more than 13,000 

new regulatory restrictions in the Code of Federal Regulations. 

Over 10,000 pages of regulations have already been proposed, requiring, as is estimated, over 24 million compliance hours each 

year, and that is just the tip of the iceberg. Of some 400 rules required by Dodd-Frank, roughly one-third have been finalized, about 

one-third have been proposed but not finalized, and roughly onethird have not even yet been proposed. Together, the hundreds of 

Dodd-Frank proposed rules are far too complex, offering confusing 

and often contradictory standards and regulatory requirements. 

I am concerned that the regulators do not understand and are 

not focusing aggressively enough on the cumulative effect of the 

hundreds of proposed rules and that there is a lack of coordination 

among the agencies, both domestically and internationally. That is 

why it is important for the regulators to perform meaningful cost/ 

benefit analysis so that we can understand how these rules will affect the economy as a whole, interact with one another, and impact 

our global competitiveness. 

An enormous number of new rules are slated to be finalized this 

year as a result of Dodd-Frank, Basel III, and other regulatory initiatives. And at this important juncture, we need answers to critical questions. 

First, what are the anticipated cumulative effects of these new 

rules to credit, liquidity, borrowing costs, and the overall economy? 

Ultimately, we need rules that are strong enough to make our financial system safer and sounder, but that can adapt to changing 

market conditions and promote credit availability and spur job 

growth for millions of Americans. 

Second, what have the agencies done to assess how these complicated rules will interact with each other and the existing regulatory framework? I am hearing a lot of concern about how the 

interaction of some rules will reduce mortgage credit through the 

qualified mortgage rule, the proposed qualified residential mortgage rule, and the proposed international Basel III risk weights for 

mortgages, as an example. 

And, third, what steps are being taken to fix the lack of coordination and harmonization of rules among the United States and 

international regulators on cross-border issues? For example, the 

CFTC has issued a number of so-called guidance letters and related 

orders on cross-border issues. The CFTC’s initial proposal received 

widespread criticism from foreign regulators that the guidance is 

confusing, expansive, and harmful. Meanwhile, the SEC has not 

yet issued its cross-border proposal. 

There is bipartisan concern that some of the Dodd-Frank rules 

go too far and need to be fixed. A good starting point would be to 

fulfill congressional intent by providing an explicit exemption from 

the margin requirements for nonfinancial end users that qualify for 

the clearing exemption. Similar language to this passed the House 

last year by a vote of 370–24. Federal Reserve Chairman Bernanke 

has confirmed that, regardless of congressional intent, the banking 

4 

regulators view the plain language of the statute as requiring them 

to impose some kind of margin requirement on nonfinancial end 

users unless Congress changes the statute. 

Unless Congress acts, new regulations will make it more expensive for farmers, manufacturers, energy producers, and many small 

business owners across the country to manage their unique business risks associated with their day-to-day operations. An end user 

fix is just one example of the kind of bipartisan actions that we can 

take to improve the safety and soundness of our financial system 

without unnecessarily inhibiting economic growth. 

It is my hope that today’s hearing is going to provide us a starting point to address these critical issues and identify the needed 

reforms that we must undertake. 

Thank you, Mr. Chairman, again for holding this hearing. 

Chairman JOHNSON. Thank you, Senator Crapo. 

This morning, opening statements will be limited to the Chairman and Ranking Member to allow more time for questions from 

the Committee Members. I want to remind my colleagues that the 

record will be open for the next 7 days for opening statements and 

any other materials you would like to submit. 

Now I would like to introduce our witnesses. 

Mary Miller is the Under Secretary for Domestic Finance of the 

U.S. Department of the Treasury. 

Dan Tarullo is a member of the Board of Governors of the Federal Reserve System. 

Martin Gruenberg is the Chairman of the Federal Deposit Insurance Corporation. 

Tom Curry is the Comptroller of the Currency. 

Richard Cordray is the Director of the Consumer Financial Protection Bureau. 

Elisse Walter is the Chairman of the Securities and Exchange 

Commission. 

And Gary Gensler is the Chairman of the Commodity Futures 

Trading Commission. 

I thank all of you again for being here today. 

I would like to ask the witnesses to please keep your remarks to 

5 minutes. Your full written statements will be included in the 

hearing record. 

Under Secretary Miller, you may begin your testimony. 

STATEMENT OF MARY J. MILLER, UNDER SECRETARY FOR 

DOMESTIC FINANCE, DEPARTMENT OF THE TREASURY 

Ms. MILLER. Chairman Johnson, Ranking Member Crapo, and 

Members of the Committee, thank you so much for the opportunity 

to be here today. 

The Dodd-Frank Wall Street Reform and Consumer Protection 

Act represents the most comprehensive set of reforms to the financial system since the Great Depression. Americans are already beginning to see benefits from these reforms reflected in a safer and 

stronger financial system. 

Although the financial markets have recovered more vigorously 

than the overall economy, the economic recovery is also gaining 

traction. The financial regulators represented here today have been 

making significant progress implementing Dodd-Frank Act reforms. 

5 

Treasury’s specific responsibilities under the Dodd-Frank Act include standing up new organizations to strengthen coordination of 

financial regulation both domestically and internationally, improve 

information sharing, and better address potential risks to the financial system. 

Over the past 30 months, we have focused considerable effort on 

creating the Financial Stability Oversight Council, the Office of Financial Research, and the Federal Insurance Office. 

The Financial Stability Oversight Council, known as FSOC, has 

become a valuable forum for collaboration among financial regulators. Through frank discussion and early identification of areas of 

common interests, the financial regulatory community is now better able to identify issues that would benefit from enhanced coordination. Although FSOC members are required to meet only quarterly, the FSOC met 12 times last year to conduct its regular business and respond to specific market developments. Much additional 

work takes place at the staff level with regular and substantive engagement to inform FSOC leaders. 

While Treasury is not a rule-writing agency, the Treasury Secretary has a statutory coordination role for the Volcker Rule and 

risk retention rule by virtue of his chairmanship of the FSOC. We 

take that role very seriously and will continue to work with the respective rulemaking agencies as they finalize these rules. 

In addition to the FSOC’s coordination role, it has certain authority to make recommendations to the responsible regulatory 

agencies where a financial stability concern calls for further action. 

An example along these lines is a concern about risks in the shortterm funding markets. The FSOC’s focus on this ultimately led the 

Council to issue proposed recommendations on money market fund 

reforms for public comment. 

The FSOC has also taken significant steps to designate and increase oversight of financial companies whose failure or distress 

could negatively impact financial markets or the financial stability 

of the United States. Treasury has made significant progress in establishing the Office of Financial Research and the Federal Insurance Office. The OFR provides important data and analytical support for the FSOC and is developing new financial stability metrics 

and indicators. It also plays a leadership role in the international 

initiative to establish a Legal Entity Identifier, a code that uniquely identifies parties to financial transactions. The planned launch 

of the LEI next month will provide financial companies and regulators worldwide a better view of companies’ exposures and 

counterparty risks. 

With the establishment of the Federal Insurance Office, the 

United States has gained a Federal voice on insurance issues, domestically and internationally. For example, in 2012, FIO was 

elected to serve on the Executive Committee of the International 

Association of Insurance Supervisors and is now providing important leadership in developing international insurance policy. 

We are also working internationally to support efforts to make 

financial regulations more consistent worldwide. By moving early 

with the passage and implementation of the Dodd-Frank Act, we 

are leading from a position of strength in setting the international 

reform agenda. This comprehensive agenda spans global bank capVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00009 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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ital and liquidity requirements, resolution plans for large multinational financial institutions, and derivatives markets. We will 

continue to work with our partners around the world to achieve 

global regulatory convergence. 

As we move forward, it is critical to strike the appropriate balance of measures to protect the strength and stability of the U.S. 

financial system while preserving liquid and efficient markets that 

promote access to capital and economic growth. Completion of these 

reforms provides the best path to achieving continued economic 

growth and prosperity grounded in financial stability. 

Thank you for the opportunity to testify today. I would welcome 

any questions the Committee may have. 

Chairman JOHNSON. Thank you. 

Governor Tarullo, please proceed. 

STATEMENT OF DANIEL K. TARULLO, GOVERNOR, BOARD OF 

GOVERNORS OF THE FEDERAL RESERVE SYSTEM 

Mr. TARULLO. Thank you, Mr. Chairman, Senator Crapo, and 

other Members of the Committee. It is a pleasure to be with all of 

you here on this Valentine’s Day. I just wanted to make two points 

in these oral remarks. 

First, I hope that 2013 will be the beginning of the end of the 

major portion of rulemakings implementing Dodd-Frank and 

strengthening capital rules. The rulemaking process has been very 

time-consuming. In some cases, it has run beyond the deadline set 

by Congress, though there have been some good reasons for that. 

Joint rulemaking just takes a lot of time, and for many of the rules, 

that process involves three to five independent agencies, representing between 12 and 22 individuals who have votes at those 

agencies. Also, some of the rules involve subjects that are complicated, controversial, or both. 

I think there was wide agreement that it was incumbent on the 

regulators to take the time to understand the issues and to give 

full consideration to the many thousands of comments that were 

submitted on some of the proposals. 

But it is also important to get to the point where we can provide 

clarity to financial firms as to what regulatory environment they 

can expect in some of these important areas so that they can get 

on with planning their businesses accordingly. 

So it is my hope and my expectation that, with respect to the 

Volcker Rule, the capital rules, Section 716, and many of the special prudential requirements for systemically important firms, we 

will publish final rules this year. 

On Volcker, and on the standardized capital rules in particular, 

I think the agencies have learned a good deal from the formal comments and public commentaries addressed to these proposals. Both 

required a difficult balance between the aims of comprehensiveness 

on the one hand and administrability at firms and at regulators on 

the other. I think it is pretty clear that both proposals lean too far 

in the direction of complexity, and I would expect a good bit of 

change in the final rulemakings on these subjects. 

Indeed, these examples prove the wisdom of those who drafted 

the Administrative Procedures Act many years ago whereby they 

set up a process that agencies issue proposals for notice and comVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00010 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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ment, receive comments, consider the comments, modify the regulations, and then finally put those regulations into place. 

We should also get out proposals this year to implement two arrangements agreed internationally: the capital surcharge for systemically important banks and the liquidity coverage ratio. 

One exception where we will be slowing down a little—and here 

‘‘we’’ as in the Federal Reserve, not our fellow agencies—is the Section 165 requirement for counterparty credit risk limits. Based on 

the comments received and ongoing internal staff analysis, we concluded that a quantitative impact study was needed to help us assess better the optimal structure of a rule that is breaking new 

ground in an area for which there is a lot of hard, but heretofore 

uncollected, data. So we are going to need some more time on this 

one. 

The second point I want to make is that the feature of the financial system that is in most need of further attention and regulatory 

action is that of nondeposit short-term financing. My greatest concern is with those parts of the so-called shadow banking system 

that are susceptible to destabilizing funding runs, something that 

is more likely where the recipients of the short-term funding are 

highly leveraged, engaged in substantial maturity transformation, 

or both. It was just these kinds of runs that precipitated the most 

acute phase of the financial crisis that the Chairman referred to a 

few moments ago. 

We need to continue to assess the vulnerabilities posed by this 

kind of funding while recognizing that many forms of short-term 

funding play important roles in credit intermediation and productive capital market activities. 

But we should not wait for the emergence of a consensus on comprehensive measures to address these kinds of funding channels. 

That is why I suggest in my written testimony more immediate action in three areas: the transparency of securities financing, money 

market mutual funds, and triparty repo markets. 

Thank you all for your attention. 

Chairman JOHNSON. Thank you. 

Chairman Gruenberg, please proceed. 

STATEMENT OF MARTIN J. GRUENBERG, CHAIRMAN, 

FEDERAL DEPOSIT INSURANCE CORPORATION 

Mr. GRUENBERG. Thank you, Mr. Chairman. Chairman Johnson, 

Ranking Member Crapo, and Members of the Committee, thank 

you for the opportunity to testify today on the FDIC’s efforts to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act. While my prepared testimony addresses a range of issues, 

I will focus my oral remarks on three areas of responsibility specific to the FDIC: deposit insurance, systemic resolution, and community banks. 

With regard to the deposit insurance program, the Dodd-Frank 

Act raised the minimum reserve ratio for the Deposit Insurance 

Fund to 1.35 percent and required that the reserve ratio reach this 

level by September 30, 2020. The FDIC is currently operating 

under a DIF Restoration Plan that is designed to meet this deadline, and the DIF reserve ratio is recovering at a pace that remains 

on track to achieve the plan. As of September 30, 2012, the reserve 

8 

ratio stood at 0.35 percent of estimated insured deposits. That is 

up from 0.12 percent a year earlier. The fund balance has now 

grown for 11 consecutive quarters, increasing to $25.2 billion at the 

end of the third quarter of 2012. 

The FDIC has also made significant progress on the rulemaking 

and planning for the resolution of systemically important financial 

institutions, so-called SIFIs. The FDIC and the Federal Reserve 

Board have jointly issued the basic rulemaking regarding resolution plans that SIFIs are required to prepare. These are the socalled living wills. The rule requires bank holding companies with 

total consolidated assets of $50 billion or more to develop, maintain, and periodically submit resolution plans that are credible and 

that would enable these entities to be resolved under the Bankruptcy Code. On July 1, 2012, the first group of living will filings 

by the nine largest institutions with nonbank assets over $250 billion was received, with the second group to follow by July 1st of 

this year, and the rest by December 31st. The Federal Reserve and 

the FDIC are currently in the process of reviewing the first group 

of plan submissions. 

The FDIC has also largely completed the rulemaking necessary 

to carry out its systemic resolution responsibilities under Title II 

of the Dodd-Frank Act. The final rule approved by the FDIC board 

addressed, among other things, the priority of claims and the treatment of similarly situated creditors. 

Section 210 of the Dodd-Frank Act expressly requires the FDIC 

to coordinate, to the maximum extent possible, with appropriate 

foreign regulatory authorities in the event of the resolution of a 

systemic financial company with cross-border operations. 

In this regard, the FDIC and the Bank of England, in conjunction with the prudential regulators in our respective jurisdictions, 

have been working to develop contingency plans for the failure of 

SIFIs that have operations in both the U.S. and the U.K. In December, the FDIC and the Bank of England released a joint paper, 

providing an overview of the work we have been doing together. 

In addition, the FDIC and the European Commission have 

agreed to establish a joint working group to discuss resolution and 

deposit insurance issues common to our respective jurisdictions. 

The first meeting of the working group will take place here in 

Washington next week. 

Finally, in light of concerns raised about the future of community 

banking in the aftermath of the financial crisis, as well as the potential impact of the various rulemakings under the Dodd-Frank 

Act, the FDIC engaged in a series of initiatives during 2012 focusing on the challenges and opportunities facing community banks in 

the United States. In December of last year, the FDIC released the 

FDIC Community Banking Study, a comprehensive review of the 

U.S. community banking sector covering the past 27 years of data. 

Our research confirms the important role that community banks 

play in the U.S. financial system. Although these institutions account for just 14 percent of the banking assets in the United 

States, they hold 46 percent of all the small loans to businesses 

and farms made by FDIC-insured institutions. The study found 

that for over 20 percent of the counties in the United States, comVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00012 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
9 

munity banks are the only FDIC-insured institutions with an actual physical presence. 

Importantly, the study also found that community banks that 

stayed with their basic business model—careful relationship lending funded by stable core deposits—exhibited relatively strong and 

stable performance over this period and during the recent financial 

crisis, and should remain an important part of the U.S. financial 

system going forward. 

Mr. Chairman, that concludes my oral remarks. I would be glad 

to respond to your questions. 

Chairman JOHNSON. Thank you. 

Comptroller Curry, please proceed. 

STATEMENT OF THOMAS J. CURRY, COMPTROLLER, OFFICE 

OF THE COMPTROLLER OF THE CURRENCY 

Mr. CURRY. Chairman Johnson, Ranking Member Crapo, and 

Members of the Committee, it is a pleasure to appear before you 

today for this panel’s first hearing of the new Congress. I want to 

thank Chairman Johnson for his leadership in holding this hearing, and I would also like to congratulate Senator Crapo on his new 

role as the Ranking Member of this Committee. I look forward to 

working with both of you on many issues facing the banking system. There are also a number of new Members on the Committee, 

and I look forward to getting to know each of you better this session. 

It has been nearly 3 years since the Dodd-Frank Act was enacted, and both the financial condition of the banking industry and 

the Federal regulatory framework have changed significantly. The 

OCC supervises more than 1,800 national banks and Federal savings associations, which together hold more than 69 percent of all 

commercial bank and thrift assets. They range in size from very 

small community banks with less than $100 million in assets to the 

Nation’s largest financial institutions with assets exceeding $1 trillion. More than 1,600 of the banks and thrifts we supervise are 

small institutions with less than $1 billion in assets, and they play 

a vital role in meeting the financial needs of communities across 

the Nation. 

I am pleased to report that Federal banks and thrifts have made 

significant strides since the financial crisis in repairing their balance sheets through stronger capital, improved liquidity, and timely recognition and resolution of problem loans. 

While these are encouraging developments, banks and thrifts 

continue to face significant challenges, and our examiners continue 

to stress the need for these institutions to remain vigilant in monitoring the risks they take on in this environment. 

We are also mindful that we cannot let the progress that has 

been made in repairing the economy and in strengthening the 

banking system lessen our sense of urgency in addressing the 

weaknesses and flaws that were revealed by the financial crisis. 

The Dodd-Frank Act addresses major gaps in the regulatory landscape, tackles systemic issues that contributed to and amplified the 

effects of the financial crisis, and lays the groundwork for a stronger financial system. 

10 

Like my colleagues at the table, we at the OCC are currently engaged in numerous rulemakings, from appraisals to Volcker and 

from risk retention to swaps. My written statement provides details on each of these efforts and provides a flavor of some of the 

public comments that have been submitted. 

The OCC is committed to implementing fully those provisions 

where we have sole rule-writing authority as quickly as possible. 

We are equally committed to working cooperatively with our colleagues on those rules that require coordinated or joint action. I remain very hopeful that we will soon have in place final regulations 

in several areas to provide the clarity the industry needs. 

Throughout this process, I have been keenly aware of the critical 

role that community banks play in providing consumers and small 

businesses in communities across the Nation with essential financial services and access to credit. As the OCC undertakes every one 

of these critical rulemakings, we are very focused on ensuring that 

we put standards in place that promote safety and soundness without adding unnecessary burden to community banks. 

I would like to highlight one of the most significant milestones 

of the Dodd-Frank Act for the OCC, which is the successful integration of the mission and most of the employees from the Office of 

Thrift Supervision into the OCC. The integration was accomplished 

smoothly and professionally, reflecting the merger of experience 

with a strong vision for the future. The final stage of this process 

is underway with the integration of rules of applicable to Federal 

thrifts with those that apply to national banks consistent with the 

statutory differences between the two charter types. An integrated 

set of rules will benefit both banks and thrifts. 

In the vast majority of the rulemaking activities, the OCC is one 

of several participants. The success of those rulemakings depends 

on interagency cooperation, and I want to acknowledge the work of 

my colleagues at this table and their staff for approaching these efforts thoughtfully and productively, giving careful consideration to 

all issues. Working together, I believe we will be able to develop 

rules that will be good for the financial system, the entities we regulate, and the communities they serve going forward. 

Thank you for your attention, and I look forward to answering 

any questions you may have. 

Chairman JOHNSON. Thank you. 

Director Cordray, please proceed. 

STATEMENT OF RICHARD CORDRAY, DIRECTOR, CONSUMER 

FINANCIAL PROTECTION BUREAU 

Mr. CORDRAY. Thank you, Chairman Johnson, Ranking Member 

Crapo, and Members of the Committee, for inviting me back today. 

My colleagues and I at the Consumer Financial Protection Bureau 

are always happy to testify before the Congress, something we 

have done now 30 times. 

Today we are here to talk about the implementation of the DoddFrank Wall Street Reform and Consumer Protection Act, the signature legislation that created this new consumer agency. 

Since the Bureau opened for business in 2011, our team has been 

hard at work. We are examining both banks and nonbank financial 

institutions for compliance with the law, and we have addressed 

11 

and resolved many issues through these efforts to date. In addition, 

for consumers who have been mistreated by credit card companies, 

we are, in coordinated enforcement actions with our fellow regulators, returning roughly $425 million to their pockets. For those 

consumers who need information or want help in understanding financial products and services, we have developed AskCFPB, a data 

base of hundreds of answers to questions frequently asked of us by 

consumers. And our Consumer Response center has helped more 

than 100,000 consumers with their individual problems related to 

their credit cards, mortgages, student loans, and bank accounts. 

In addition, we have been working hard to understand, address, 

and resolve some of the special consumer financial issues affecting 

specific populations: students, servicemembers, older Americans, 

and those are unbanked or under-banked. And we are planning a 

strong push in the future for broader and more effective financial 

literacy in this country. We need to change the fact that we send 

many thousands of our young people out into the world every year 

to manage their own affairs with little or no grounding in personal 

finance education. We want to work with each of you on these 

issues on behalf of your constituents. 

We have also faithfully carried out the law that Congress enacted by writing rules designed to help consumers throughout their 

mortgage experience—from signing up for a loan to paying it back. 

We have written rules dealing with loan originator compensation, 

giving consumers better access to their appraisal reports, and addressing escrow and appraisal requirements for higher-priced mortgage loans. 

Just last month, we released our Ability-to-Repay rule, which 

protects consumers shopping for a loan by requiring lenders to 

make a good faith, reasonable determination that consumers can 

actually afford to pay back their mortgages. The rule outlaws socalled and very irresponsible ‘‘NINJA’’ loans—even with no income, 

no job, and no assets, you could still get a loan—that were all too 

common in the lead-up to the financial crisis. Our rule also strikes 

a careful balance on access-to-credit issues that are so prevalent in 

the market today by enabling safer lending and providing greater 

certainty to the mortgage market. 

Finally, the Bureau also recently adopted mortgage servicing 

rules to protect borrowers from practices that have plagued the industry like failing to answer phone calls, routinely losing paperwork, and mishandling accounts. I am sure that each of you has 

heard from constituents in your States who have these kinds of stories to tell. 

We know the new protections afforded by the Dodd-Frank Act 

and our rules will no doubt bring great changes to the mortgage 

market. We are committed to doing what we can to achieve effective, efficient, complete implementation by engaging with all stakeholders, especially industry, in the coming year. We know that it 

is in the best interests of the consumer for the industry to understand these rules—because if they cannot understand, they cannot 

properly implement. 

To this end, we have announced an implementation plan. We will 

publish plain-English summaries. We will publish readiness guides 

to give industry a broad checklist of things to do to prepare for the 

12 

rules taking effect next January—like updating their policies and 

procedures and providing training for staff. We are working with 

our fellow regulators to ensure consistency and examinations of 

mortgage lenders under the new rules and to clarify issues as needed. We also are working to finalize further proposals in these rules 

to recognize that, as my colleagues have said, the traditional lending practices of smaller community banks and credit unions are 

worthy of respect and protection. 

So thank you again for the opportunity to appear before you 

today and speak about the progress we are making at the Consumer Financial Protection Bureau. We always welcome your 

thoughts about our work, and I look forward to your questions. 

Thank you. 

Chairman JOHNSON. Thank you. 

Chairman Walter, please proceed. 

STATEMENT OF ELISSE B. WALTER, CHAIRMAN, SECURITIES 

AND EXCHANGE COMMISSION 

Ms. WALTER. Chairman Johnson, Ranking Member Crapo, and 

Members of the Committee, Thank you for inviting me to testify on 

behalf of the Securities and Exchange Commission regarding our 

ongoing implementation of the Dodd-Frank Act. 

As you know, the act required the SEC to undertake the largest 

and most complex rulemaking agenda in the history of the agency. 

We have made substantial progress writing the huge volume of 

new rules mandated by the act. We have proposed or adopted over 

80 percent of the more than 90 required rules, and we have finalized almost all of the studies and reports Congress directed us to 

write. 

Since the law’s enactment, our staff has worked closely with 

other regulatory agencies and has carefully reviewed the thousands 

of comments we received to ensure that we not only get the rules 

done but that we get them done right. And I am committed to 

doing both. Indeed, as long as I serve a Chairman, I will continue 

to push the agency forward to implement Dodd-Frank. 

While my written testimony describes in greater detail what we 

have achieved, I wanted to touch briefly on just a few of the items. 

Today, as a result of new rules jointly adopted with the CFTC, 

systemic risk information is now being periodically reported by registered investment advisers who manage at least $150 million in 

private fund assets. This information is providing FSOC and the 

Commission with a broader view of the industry than we had in 

the past. Additionally, because of our registration rules, we now 

have a much more comprehensive view of the hedge fund and private fund industry. 

We also adopted rules creating a new whistleblower program, 

and last year our program produced its first award. We expect future payments to further increase the visibility of the program and 

lead to even more valuable tips. The program is pulling in the type 

of high-quality information that reduces the length of investigations and saves resources. 

With respect to the new oversight regime Dodd-Frank mandated 

for over-the-counter derivatives, we have proposed substantially all 

of the core rules to regulate security-based swaps. Last year in parVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00016 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
13 

ticular, we finalized rules regarding product and party definitions, 

adopted rules relating to clearing and reporting, and issued a road 

map outlining how we plan to implement the new regime. Soon we 

plan to propose how this regime will be applied in the cross-border 

context. The Commission has chosen to address cross-border issues 

in a single proposing release rather than through individual 

rulemakings. We believe this approach will provide all interested 

parties with the opportunity to consider as an integrated whole the 

Commission’s proposed approach to cross-border security-based 

swap oversight. 

Last year, the Commission, working with the CFTC and the Fed, 

adopted rules requiring registered clearing agencies to maintain 

certain risk management standards and also established record 

keeping and financial disclosure requirements. These rules will 

strengthen oversight of securities clearing agencies and help to ensure that clearing agency regulation reduces systemic risk in the 

financial markets. 

Although tremendous progress has been made, work remains in 

areas such as credit rating agencies, asset-backed securities, executive compensation, and the Volcker Rule. With respect to the 

Volcker Rule, the issues raised are complex, and the nearly 19,000 

comment letters received in response to the proposal speak to the 

multitude of viewpoints that exist. We are actively working with 

the Federal banking agencies, the CFTC, and the Treasury in an 

effort to expeditiously finalize this important rule. 

With respect to all of our rules, economic analysis is critical. 

While certain costs or benefits may be difficult to quantify or value 

with precision, we continue to be committed to meeting these challenges and to ensuring that the Commission engages in sound, robust economic analysis in its rulemaking. 

It also has been clear to me from the outset that the act’s significant expansion of the SEC’s responsibilities cannot be handled appropriately with the agency’s current resource levels. With Congress’ support, the SEC’s fiscal year 2012 appropriation permitted 

us to begin hiring some of the new positions needed to fulfill these 

responsibilities. 

Despite this, the SEC does not yet have all the resources necessary to fully implement the law. Enactment of the President’s fiscal year 2013 budget would help us to fill the remaining gaps by 

hiring needed employees for frontline positions and also would permit us, importantly, to continue investing in technology initiatives 

that substantially and cost-effectively allow us to improve our ability to police the markets. 

As you know, regardless of the amount appropriated, our budget 

will be fully offset by fees we collect and will not impact the Nation’s budget deficit. 

As the Commission strives to complete our remaining tasks, we 

look forward to working with this Committee and others to adopt 

rules that fulfill our mission of protecting investors, maintaining 

fair, orderly, and efficient markets, and facilitating capital formation. 

Thank you again for inviting me to share with you our progress 

to date and our plans going forward. I look forward to answering 

your questions. 

14 

Chairman JOHNSON. Thank you. 

Chairman Gensler, please proceed. 

STATEMENT OF GARY GENSLER, CHAIRMAN, COMMODITY 

FUTURES TRADING COMMISSION 

Mr. GENSLER. Thank you, Chairman Johnson, Ranking Member 

Crapo, and Members of the Committee. I want to first just associate myself with Governor Tarullo’s comments about wishing you 

well on this Valentine’s Day, but also his comments about the Administrative Procedures Act. I think we have all benefited at the 

CFTC by the 39,000 comments that we have gotten on our various 

rules. 

This hearing is occurring at a very historic time in the markets 

because, with your direction, the CFTC now oversees the derivatives marketplace—not only the futures marketplace that we had 

overseen for decades, but also this thing called the swaps marketplace that, through Dodd-Frank, you asked us to oversee. 

Our agency has actually completed 80 percent, not just proposed 

but completed 80 percent of the rules you asked us to do. And the 

marketplace is increasingly shifting to implementation of these 

commonsense rules of the road. 

So what does it mean? Three key things: 

For the first time, the public is benefiting from seeing the price 

and volume of each swap transaction. This is free of charge on a 

Web site. It is like a modern-day ticker tape. 

Second, for the first time, the public will benefit from greater access to the market that comes from centralized clearing and the 

risk reduction that comes from that centralized clearing. This will 

be phased throughout 2013, but we are not needed to do any new 

rules. It is all in place. 

And, third, for the first time, the public is benefiting from the 

oversight of swap dealers—we have 71 of them that registered—for 

sales practices and business conduct to help lower risk to the overall economy. 

Now, these swaps market reforms ultimately benefit end users. 

The end users in our economy, the nonfinancial side, employs 94 

percent of private sector jobs, and these benefit those end users 

through greater transparency. Greater transparency starts to shift 

some information advantage from Wall Street to Main Street, but 

also lowering risk. And we have completed our rules ensuring, as 

Congress directed, that the nonfinancial end users are not required 

to participate in central clearing. And as Ranking Member Crapo 

said, at the CFTC we have proposed margin rules that provide that 

end users will not have to post margin for those uncleared swaps. 

To smooth the market’s transition to the reform, the Commission 

has consistently been committed to phasing in compliance based 

upon the input from the market participants. I would like to highlight two areas in 2013 that we still need to finish up the rules. 

One is completing the pretrade transparency reforms. This is so 

buyers and sellers meet, compete in the marketplace, just as in the 

securities and futures marketplace. We have yet to complete those 

rules on the swap execution facilities and block rules. 

Second, ensuring that cross-border application of swaps market 

reform appropriately covers the risk of U.S. affiliates operating offVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00018 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
15 

shore. We have been coordinating greatly with our international 

colleagues and the SEC and the regulators at this table, but I 

think in enacting financial reform, Congress recognized a basic lesson of modern finance and the crisis. That basic lesson is that during a crisis, during a default, risk knows no geographic border. If 

a run starts in one part of a modern financial institution, whether 

it is here or offshore, it comes back to hurt us. That was true in 

AIG, which ran most of its swaps business out of Mayfair—that is 

a part of London—but it was also true at Lehman Brothers, 

Citigroup, Bear Stearns, and Long-Term Capital Management. I 

think failing to incorporate this basic lesson of modern finance into 

our oversight of the swaps market would not only fall short of your 

direction to the CFTC and Dodd-Frank, but I also think it would 

leave the public at risk. I believe Dodd-Frank reform does apply, 

and we have to complete the rules to apply to transactions entered 

into branches of U.S. institutions offshore, or their guaranteed affiliates offshore transacting with each other, or even if it is a hedge 

fund that happens to be incorporated in an island or offshore but 

it is really operated here. 

I would like just to turn with the remaining minute to these 

cases the CFTC brought on LIBOR because it is so much of our 

2013 agenda. 

Now, the U.S. Treasury collected $2 billion from the Justice Department and CFTC fines, but that is not the key part of this. 

What is really important is ensuring financial market integrity. 

And when a reference rate such as LIBOR, central to borrowing, 

lending, and hedging in our economy, has so readily and pervasively been rigged, I think the public is just shortchanged. I do not 

know any other way to put it. We must ensure that reference rates 

are honest and reliable reflections of observable transactions in 

real markets and that they cannot be so vulnerable to misconduct. 

I will close by mentioning, the same way as Chairman Walter 

did, the need for resources. I would say the CFTC has been asked 

to take on a market that is vast in size and much larger than the 

futures market we once oversaw, and that without sufficient funding, I think the Nation cannot be assured that we can effectively 

oversee these markets. 

I thank you and look forward to your questions. 

Chairman JOHNSON. Thank you, and thank you all for your testimony. 

As we begin questions, I will ask the clerk to put 5 minutes on 

the clock for each Member. 

Ms. Miller, what steps is the U.S. taking both at home and 

abroad to complete reforms in a way that makes the financial system safer, ends too-big-to-fail bailouts, and promotes stable economic growth? And what are the challenges to accomplish this? 

Ms. MILLER. Thank you for the question. I think the most important thing that we can do is to restore confidence in our financial 

markets and our financial system, and I think the work that has 

gone on, post the Dodd-Frank reforms, has been incredibly important in strengthening our financial institutions, making sure that 

they are better capitalized, that they are more liquid, and that they 

have a good plan for failure should they not succeed. 

16 

I do not think that our reforms are intended to prevent failure, 

but I think they are intended to make us much better prepared and 

to make sure that our financial institutions and the activities that 

they engage in are much safer and sounder. 

So we have been working very hard, I think, in the U.S. and 

abroad with our international counterparts to make sure that we 

have put in place the necessary rules of the road to make sure 

these things can happen. 

So it is happening at many levels in the U.S. You have heard of 

all of the activities that these financial regulators are engaged in. 

But it is also happening in international forums where we are 

working with our counterparts to make sure that we have a level 

playing field. 

As far as the challenges, this is a very comprehensive law. It is 

one that addresses many parts of our financial system. I think the 

number of rulemaking activities, definitions, studies, and work that 

were laid out by Dodd-Frank is quite a big workload. When I work 

with these regulators here, I see the same people in many instances working on a wide range of rules. They are working very 

hard. But they have a pretty big agenda to accomplish. But I think 

that the spirit of cooperation is good. I think entities like the Financial Stability Oversight Council provide a good forum for working on these things. 

Chairman JOHNSON. Mr. Cordray, congratulations on issuing a 

final QM rule that was well received by both consumer advocates 

and the industry. What approach did you take to design a final 

rule to strike the right balance? 

Mr. CORDRAY. Thank you, Mr. Chairman, and I appreciate those 

observations. I think we tried to do three things. 

The first is that we were very accessible to all parties with all 

ranges of viewpoints on the issues. The issues were difficult. It is 

not easy to write rules for the mortgage market right now because 

we are in an unnaturally tight period, and the data from a few 

years before was from an unnaturally loose period, and we have 

some significant issues unresolved in terms of public policy. We listened very carefully and attentively to what people had to say to 

us and the great deal of comments that we received. 

Secondly we did go back and try to develop additional data so 

that we could work through the numbers on our own and understand what kind of effects different potential approaches would 

have. 

Third and this was quite meaningful—we consulted very closely 

with our fellow agencies. They have a lot of expertise and a lot of 

insight on the kinds of problems we were addressing, and we will 

ultimately be examining these institutions in parallel to one another. And the rules need to work for everyone. 

We will continue to work with the other agencies on implementation, and I do think that that helped us tremendously. I could point 

to any number of provisions in the rules that were made better by 

that process. 

Chairman JOHNSON. This question is for Mr. Gruenberg, Mr. 

Curry, and Mr. Tarullo. First, I want to thank Senator Hagan for 

all her hard work on QRM. Is there anything in the law that would 

prohibit QRM from being defined the same as QM? And is that 

17 

something you are considering now that the QM rule is finalized, 

as Mr. Cordray just described? Mr. Gruenberg, let us begin with 

you. 

Mr. GRUENBERG. Thank you, Mr. Chairman. I do not believe 

there is any prohibition in the law with regard to conforming QRM 

with QM. We actually delayed consideration of the rulemaking on 

QRM pending the completion of the QM rules, and I think we will 

now have the ability to consider the final rulemaking on QRM in 

light of that QM rulemaking. 

Chairman JOHNSON. Mr. Tarullo and Mr. Curry, do you agree? 

Mr. TARULLO. Certainly, Mr. Chairman, I agree with Chairman 

Gruenberg that there is no legal bar. And I would just say further 

that, as you know, the two provisions had somewhat different motivations. The QM rule was motivated toward protecting the individual who buys the house, and the QRM rule was motivated toward the risk retention associated with that mortgage and, thus, 

presumably trying to protect the investment for the intermediary. 

Having said that, I think given the state of the mortgage market 

right now—and both you and Senator Crapo have alluded to it— 

we want to be careful here about the incremental rulemaking that 

we are doing not beginning to constrict credit to middle- and lowermiddle-class people who might be priced out of the housing market 

if there is too much in the way of duplicate or multiple kinds of 

requirements at the less than highly creditworthy end. 

So I think it is definitely the case that on the table should be 

consideration of making QRM more or less congruent with QM. 

Chairman JOHNSON. Mr. Curry. 

Mr. CURRY. I share the views of both Governor Tarullo and 

Chairman Gruenberg with respect to the definition. I also would 

concur with Governor Tarullo that it is important to look at the cumulative effect, the issue that Senator Crapo mentioned, when we 

are talking about the mortgage market and issues of competition, 

and the ability to have the widest number of financial institutions, 

regardless of size, participating in it is something that we are very 

concerned about and paying close attention to. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman. Senator Corker has 

a need to get to another meeting, and I am going to yield to him. 

Senator CORKER. Thank you. Thank you very much. I will do this 

rarely, and I will be very brief, just three questions. 

Mr. Gruenberg, we talked extensively, I think, about orderly liquidation in Title II, and I know most people thought orderly liquidation meant that these institutions would be out of business and 

gone. I think as you have gotten into it, you have decided that you 

are only going to eliminate the holding company level. And what 

that means is that creditors, candidly, could issue debt to all the 

subsidiaries and know that they are never going to be at a loss. 

And I am just wondering if you have figured out a way to solve 

that, because obviously that was not what was intended. 

Mr. GRUENBERG. I agree with you, Senator, and as you know, the 

approach we have been looking at would impose losses—actually 

wiping out shareholders, imposing losses on creditors, and replacing culpable management. In regard to creditors, it would be important to have a sufficient amount of unsecured debt at the holdVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00021 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
18 

ing company level in order to make this approach work. We have 

been working closely with the Federal Reserve on this issue. Actually, Governor Tarullo in his testimony makes reference to it, and 

I am hopeful we can achieve an outcome that will allow us to impose that kind of accountability on creditors. 

Senator CORKER. It seems like you would want all of your longterm debt at the holding company level, so I just hope that you all 

will work something out that is very different than the way it is 

right now, because creditors could easily be held harmless by just 

making those loans at the sub-level, and that is not what anybody 

intended. 

Second, with the FSOC, Ms. Miller and Mr. Tarullo, I know that 

you are to identify and to respond to threats in the financial system, any kind of systemic threat, and I would just ask the two of 

you: Is there any institution in America today that, if it failed, 

would pose a systemic risk? Any institution. 

Ms. MILLER. Well, I think we learned from the financial crisis 

that the failure of a large institution can create some systemic risk, 

so I—— 

Senator CORKER. But you all are to eliminate that, so I am just 

wondering if any institution in America failed, would that create 

systemic risk? Because your job is to ensure that that is not the 

case. 

Ms. MILLER. I believe that all the work that we have done and 

continue to do is designed to prevent that effect and to make sure 

that we have in place rules and regulations that keep firms from 

engaging in activities or building their business models in ways 

that are going to transmit that type of financial distress. 

Senator CORKER. Mr. Tarullo. 

Mr. TARULLO. I think, Senator, that it is a journey and not a single point where you can say we have addressed the too-big-to-fail 

issue. I do think a lot of progress has been made. But I would also 

distinguish between, if I can put it this way, resolvability without 

a disorderly, major disruption to the financial system on the one 

hand, and on the other the failure of a firm that entails substantial 

negative externalities. So it is the difference between bringing the 

whole system into crisis on the one hand, not doing so on the other, 

but still imposing lots of costs. 

And I do think that there is complementarity between the capital 

rules, the FDIC resolution process, and the other rules in trying to 

make sure that we are dealing both with resolvability and negative 

externality. 

Senator CORKER. I hear what you are both saying. I would assume, though, that a big part of your role is to ensure that there 

is no institution—I know that you guys have regulatory regimes 

that try to keep them healthy. But I assume—and if I am wrong— 

that you want to ensure that there is no institution in America 

that is operating, that operates that can fail and create systemic 

risk. I assume that is part of your role, and if not, I would like a 

follow-up after the meeting, and maybe we will ask that again in 

written testimony. I know my time is short. 

Let me just close with this. I know the Basel III rules are really 

complicated as it relates to capital, and some people, Mr. Tarullo, 

have come out and said that we would be much better off with a 

19 

much stronger capital ratio—some people have said 8 percent—and 

do away with all the complexities that exist, because many of the 

schemes, if you will, that lay out risk really do not work so well. 

I am just wondering if that would not be a better solution to Basel 

III, and that is, just have much better ratios, much stronger ratios, 

and much less complexity with all of these rules that so many people are having difficulty understanding. 

Mr. TARULLO. Well, Senator, I guess I would say—and I know 

you are not making the observation I am about to respond to, but 

it has been heard as well—the idea that if you somehow do not 

completely like Basel III or think maybe more should have been 

done, that we should not be for Basel III. Basel III is an enormous 

advancement in improving the quantity and the quality of capital, 

and those pieces of it are actually not all that complicated. You 

know, making sure that the equity that is held is real equity that 

can be loss absorbing and getting it up to a 7-percent level, effectively, rather than as low as 2 percent, which that level was 

precrisis. I think those are pretty straightforward. 

Whether more should be done, whether as Chairman Gruenberg 

was just saying, for some of the largest institutions we need some 

complementary measures, we certainly think with systemic risk 

you do. I agree with that. But I actually think it is pretty straightforward, and I would also say that in the U.S., at least, with the 

Collins amendment, we are now in a position to have a standardized floor with standardized risk weights, not model-driven risk 

weights but standardized risk weights, which applies to everybody, 

and my hope would be that other countries actually see there is 

substantial merit in this, in having a much simpler floor and then 

above that for the biggest institutions, that is where you have the 

model-driven supplemental capital requirement, not displacing the 

simple one, just supplemental. 

Senator CORKER. Thank you. Thank you very much. 

Chairman JOHNSON. Senator Reed. 

Senator REED. Thank you very much, Mr. Chairman. 

Chairman Gensler, I understand that you recently had a roundtable on the futurization of swaps, and one of the participants indicated that because the rulemaking process has not been fully completed, many people are moving away to avoid uncertainty in the 

futures markets. Can you tell us what risks might be posed by that 

and also how you are going to respond to finalizing these rules? 

And I know you indicated your budget issue is probably a critical 

factor in that. You might even comment on that again. 

Mr. GENSLER. Thank you, Senator. I think what we are seeing 

in the derivatives marketplace is somewhat natural. The futures 

marketplace has been regulated for seven or eight decades and for 

transparency and risk reduction through clearing. The swaps marketplace developed about 30 years ago and, in fact, is between 80 

and 90 percent of the market share in a sense of the outstanding 

derivatives. 

So as Congress dictated, as we bring transparency and central 

clearing to the unregulated market, there has been some relabeling, some reshifting. As you say, some people call this 

futurization. 

20 

The good news is whether it is a future or a swap, we have 

transparency after the transaction and in futures before the transaction occurs. We have central clearing to lower the risk and ensure access. 

We do need to finish the rules in the swaps marketplace around 

these things called swap execution facilities and the block rule. We 

also in the futures world have to ensure that we do not lose something, that what was once swaps moves over and calls itself futures 

and somehow the exchanges lower the transparency. We would not 

want to see that happen. 

But I think whether it is called a future or a swap, we are in 

better shape than we were before 2008. I thank you for asking 

about resources. We desperately need more resources. It is a hard 

ask when Congress is grappling with the budget deficits, I know. 

Senator REED. Commissioner Walter, this is a related question 

because it is an international market, and both you and Chairman 

Gensler are working on the issue of cross-border swaps. And in 

order to coordinate with international regulators so that there is a 

consistent rule—and it sort of harkens back to what Governor 

Tarullo said about it would be great if there was a Collins rule 

across the board. Uniformity, simple uniformity helps sometimes. 

Can you comment upon what both you and Chairman Gensler 

are doing with respect to these coordination efforts with respect to 

the cross-border swaps? 

Ms. WALTER. Absolutely. Thank you, Senator Reed. It is a tremendously important issue, perhaps more important in this market 

than any other, because this market is truly a global marketplace. 

Unlike other markets that we regulate which only have certain 

cross-border aspects, the majority of what goes on in this marketplace really does cross national lines. 

We have worked very closely not only with the standard multinational bodies such as IOSCO, the International Organization of 

Securities Commissions, but both the CFTC and the SEC are working very actively with the regulators around the globe who are in 

the process of writing the same rules. They are at somewhat different stages than we are. Some are still at the legislative stage. 

Some are just entering the rule-writing stage. But we all acknowledge the importance of making sure that the business can take 

place across national boundaries and that we remove unnecessary 

barricades. 

First of all, we want no incompatibility or conflict, but then we 

also want to look at ways that we can make our rules more consonant. And we are both looking at techniques such as what we 

call substituted compliance, where you could have an entity that is 

registered in the United States but complies with its U.S. obligations by complying with its home-country laws. We think this will 

really ease the burdens, and we are looking at all of it very carefully. 

Senator REED. Chairman Gensler, any comments? 

Mr. GENSLER. I think we are in far better shape than we were 

2 years ago if we had this hearing, or even 1 year ago, because Europe, the European Union, now has a law called AMIR. Canada 

and Japan and we, so four very significant jurisdictions between 

21 

which we probably have 85 or 90 percent of this worldwide swaps 

marketplace. 

We are ahead of them in the rule-writing stage, but with some 

developments last week, even Europe now got their rules through 

a very important process through the European Parliament. So I 

think that we are starting to align better. 

Senator REED. Let me just make a final comment because my 

time is expiring. One of the Dodd-Frank initiatives was to take bilateral derivative trades and make them—put them on clearing 

platforms so that they are multilateral. That helps, but it also engenders the possibility of systemic risk from the large concentration. That means that the collateral rules, all the rules have to be. 

I just want to leave that thought with you, that you have—you 

know, that is something that should be of concern to both CFTC 

and SEC, that these central clearing platforms are so grounded 

with capital, collateral, however you want to describe it, lack of leverage, that they do not pose systemic risk. I think you understand 

that. 

Mr. GENSLER. We do, and we take that very seriously, and we 

consult actively with the Federal Reserve and international regulators as well on that. 

Senator REED. Thank you very much. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you very much, Mr. Chairman. I first 

want to get into the issue of economic analysis. As I know you are 

all aware, the President has issued two Executive orders requiring 

the agencies to conduct economic analysis, and the Office of Management and Budget has issued directives and guidance on how to 

implement that. But, ironically, independent agencies such as 

yours are not subject to those requirements or to those Executive 

orders. And I know that each of your agencies has said that you 

are going to follow the spirit of those orders, but in December of 

2011, the GAO found that, in fact, in the rulemaking under DoddFrank the agencies were not following the guidances put out by 

OMB. And in its December report of this year, it found that the 

OCC and the SEC were getting there, but that the remaining agencies still a year later were not following the key guidances that the 

OMB has put out for economic analysis. 

The GAO, frankly, I think was quite critical about that, as well 

as the fact that it found some coordination among the agencies, but 

that the coordination was very informal in nature, and almost none 

of the coordination looks at the cumulative burden of all the new 

rules, regulations, and requirements. 

So my first question, or really ask, is of all of you: Can I have 

your commitment that each of your agencies will act on GAO’s recommendation to incorporate OMB’s guidance on cost/benefit analysis into your proposed and final rules as well as your interpretive 

guidance? I guess I would not necessarily go through and ask each 

one of you for an answer, but if there is any agency here who will 

not commit to comply with the GAO’s recommendation, could you 

speak up? 

Mr. TARULLO. I am sorry. I will confess not being familiar with 

the December 2012 recommendations, Senator. Certainly we do 

economic analysis both on a rule-by-rule basis and more generally, 

22 

and to that we are committed. I do not know that we are committed to everything that might be in there, and I just would not 

want to leave you with that impression. So I would prefer to be 

able to get back to you after the hearing. 

Senator CRAPO. OK. Well, I have got the report here. I am sure 

you can get a copy of it. And what the GAO is saying is that it is 

the OMB guidances implementing the President’s Executive orders 

on this issue, and each of the agencies tells the GAO that they are 

doing what you just said to me, that you are doing economic analysis. The GAO is saying that you are not doing economic analysis 

the way that the OMB has directed that it be done, according to 

the guidance. 

So the request is that you commit that you will follow the GAO 

recommendation that you simply comply with the OMB guidances. 

All right. I am going to take that as an agreement that you will 

do that. 

Mr. GENSLER. Could I just, because I do not want to leave it—— 

Senator CRAPO. I guess maybe not. 

Mr. GENSLER. Well, no. I just want to make sure, just as Governor Tarullo, that we did not leave you with anything but the best 

impressions. 

Our general counsel and our chief economist issued guidance to 

the staff on all our rulemakings to ensure that our final rules do 

what you are saying. I think the GAO report also is looking at 

some proposals that came before, so we had to sort of, you know, 

address what the recommendations were, and there were proposals 

before that. 

We are also in a circumstance where our statute has explicit language about cost/benefit considerations, and that language we have 

is a little different than other agencies. So we look to Section 15(a), 

I think, of the Commodity Exchange Act for our guidance on cost/ 

benefit. But I believe and I understand that our guidance to the 

staff is consistent with the OMB, but recognizing we have to comply with the statute that we have. 

Senator CRAPO. I do not think that the statute you have, though, 

stops you from honoring and meeting the OMB guidances. GAO, as 

I understand it, looked at 66 rulemakings altogether that happened 

among the agencies law year, and that is a pretty significant 

amount of the rulemakings that were there. 

Let me get at this in another way. Can each of you commit that 

you will provide the Committee with a description of the specific 

steps your agency is taking to understand and quantify the anticipated cumulative effect of the Dodd-Frank rules? Any problem with 

that one? 

Mr. TARULLO. We are using data that is available, and where the 

quantification possibility exists, absolutely. 

Senator CRAPO. All right. I see my time is up. I have some other 

issues to get into with you, but I appreciate this. And I just want 

to conclude by a statement. I think GAO’s report was very clear 

that the kind of economic analysis that we need is not happening, 

and that is why I am raising this. So although you explained that 

you have other regimes or statutory mandates, the issue here is 

getting at proper economic analysis as we implement these rules. 

23 

And I think GAO’s report is pretty damning in terms of the results 

they found on the 66 rules that they identified. 

Chairman JOHNSON. Senator Menendez. 

Senator MENENDEZ. Thank you, Mr. Chairman. Thank you to all 

for your testimony. 

Mr. Curry, I wanted to discuss the botched foreclosure review 

process that I held a hearing on more than a year ago in the Housing Subcommittee, and in fairness, let me start off by saying that 

I realize that you were not the Comptroller when the foreclosure 

review program was designed. But as the follow-on to that period 

of time, you are, nevertheless, tasked with cleaning up what I consider to be a mess. 

Basically what was done here is that we replaced the process with an $8.5 billion settlement that will not really determine which 

borrowers were wronged or not, and despite keeping their legal 

rights to sue the banks, most borrowers do not have the financial 

means to litigate their cases if they feel that the compensation was 

inadequate. 

So considering this point, isn’t it unfair to not review the files of 

those turning in packages if they still want a review? And would 

you consider mailing each borrower a check but giving them the option to return that check in favor of a full review of their file? And 

as part of the answer—I will just give you the third part of it— 

how is it fair to tell a borrower who had, for example, $10,000 in 

improper fees charged to them that they are going to get $1,000 because that is the amount that all borrowers in the improper fee category will get? 

I have been at this for over a year, and I am concerned about 

how we are coming to the conclusion here. So give me some insight. 

Mr. CURRY. Thank you, Senator Menendez. I share your concerns 

about the entire process and its ability to meet its original stated 

objectives. 

What happened here is that the complexity of the review process 

was much larger than was anticipated in the beginning. It consumed a considerable amount of time with very little in terms of 

results. And our concern was that having over almost $2 billion 

being spent as of November of this year without being able to even 

issue the first checks, that the process was flawed and that the 

best equitable result was to estimate an appropriate amount of settlement and to make as equitable a decision as possible, taking into 

account the level of harm and the borrower characteristics. The settlement is not perfect, but we believe it is the best possible outcome 

under the circumstances. 

Senator MENENDEZ. On the specific questions that I asked you, 

though, is it possible for those who want a review of their files to 

get a review if they are willing to forgo or at least the check? 

Mr. CURRY. That is not an element of the settlement that we 

reached. 

Senator MENENDEZ. So the bottom line is that they will be foreclosed from a review? 

Mr. CURRY. No. Part of the settlement is—and this was the impe- tus for having the $5.7 billion worth of assistance for foreclosure 

relief as part of the settlement. We have made it clear that those 

funds should be prioritized and that they should be directed toward 

24 

the in-scope population and toward those individuals with the 

greatest risk of foreclosure. We want people to stay in their homes. 

Senator MENENDEZ. Well, we want people to stay in their homes, 

too. The question is: What recourse do they have here other than 

pursuing their own litigation? They have none through your process. That is what I want to get to. 

Mr. CURRY. The way the settlement is structured, we will try to 

allocate the payments to the most grievous situations. We have 

made—— 

Senator MENENDEZ. But you will not know that without a review 

of their files. 

Mr. CURRY. We have done an analysis, a preliminary analysis of 

the level of harm in the total in-scope population. We think we 

have a fair estimate of overall who would be harmed. But we do 

recognize, as you stated, that certain individuals may not get fully 

compensated for financial harm. 

Senator MENENDEZ. Well, we look forward to reviewing that with 

you further. 

Last, Secretary Miller, the President called for something that 

both Senator Boxer and I have promoted and offered, the Responsibility Homeowners Refinancing Act and said it is past time to do 

it. Could you tell the Committee the value to individuals as well 

as to the economy of permitting refinancing at this time? 

Ms. MILLER. Thank you for that question. The population of 

homeowners who today are underwater on their mortgages—we 

know that is about 20 percent of all homeowners—who have not 

been able to refinance in a low- interest-rate environment is a 

missed opportunity, we think, to reach homeowners who should be 

able to benefit from the spread of a high- interest-rate loan that 

they may hold versus where rates are today. So we would very 

much support any assistance that you can provide to help reach 

that population. 

We do have a program that is reaching homeowners whose mortgages happen to be held or guaranteed by the GSEs. It is called 

HARP. And we have seen very good take-up in the refinancing assistance we are providing to underwater loan holders in that population. But it is the other group of homeowners who do not have 

a mortgage held at the GSEs that have not been able to take advantage of this. So we think that it is a priority. It would be good 

for homeowners. It would be good for the mortgage market. It 

would be good for the economy. 

Senator MENENDEZ. Thank you. 

Chairman JOHNSON. Senator Coburn. 

Senator COBURN. Mr. Chairman, thank you. I am glad to be on 

this Committee. I just one question. I will submit the rest of my 

questions for the record. 

This is to Mr. Cordray. You mentioned in your testimony financial literacy and that needs to be approved. I wonder if you are 

aware of how many financial literacy programs the Congress has 

running right now. 

Mr. CORDRAY. I could not tell you exactly, but I can tell you that, 

by law, I am the Vice Chair of the Financial Literacy Education 

Commission, and we are coordinating with other agencies. There 

are 15 or 20 other agencies, and it does feel to me that one of the 

25 

issues has been a sort of piecemeal approach to this problem. We 

have been given substantial responsibilities as a new consumer 

agency in this area, and I would like to work both with the Congress and with our fellow agencies as we are doing through what 

is called the FLEC that I mentioned, and also with State and local 

officials. 

When I was a county treasurer and then State treasurer in Ohio, 

we were able to get the legislature to change the law such that 

every high school student in Ohio now has to have personal finance 

education before they can graduate. That is something we used to 

do years ago through the home economics curriculum and like. I 

have seen mathematics textbooks from the teens and twenties 

where a lot of the questions asked were put in terms of household 

budgeting and the types of financial issues that were around particularly farming and other communities. I think that is something 

that we have lost. It is something that has weakened our society, 

and it is something that we need to focus on. 

But I would agree with you. There is a very scattered and disparate approach right now, and it has not been optimal. 

Senator COBURN. It is pretty ironic the Federal Government is 

teaching Americans about financial literacy given the state of our 

economic situation. 

There are 56 different Federal Government programs for financial literacy, and so what I would hope you would do in your position is really analyze this and make a recommendation to Congress 

after looking at the GAO report on this and tell us to get rid of 

them or get one, but not 56 sets of administrators, offices, rules, 

and complications and requirements that have to be fulfilled by 

people to actually implement financial literacy. 

Mr. CORDRAY. I appreciate the comment. I would be glad to follow up with you and work and think about this. As we coordinate 

with one another, that helps minimize some of the problem. We 

have worked with the FDIC, particularly on their Money Smart 

curriculum, which is a terrific curriculum. We do not need to be reinventing the wheel. We are working with them now on creating 

a new module for older Americans and seniors who face some specific issues. I am sure your office hears about them quite a bit, and 

I would be happy to work with you on that. And I agree with the 

thrust of your question. 

Senator COBURN. My only point is that with 56, if we start another one or another two or three and do not change those, we are 

throwing money out the door. 

Mr. CORDRAY. I would agree with that. 

Senator COBURN. Thank you. 

Chairman JOHNSON. Senator Brown. 

Senator BROWN. Thank you, Chairman Johnson. 

Governor Tarullo, I would like to talk to you for a moment. Three 

or four years ago, in 2009, you said, and I quote, ‘‘Limiting the size 

or interconnectedness of financial institutions was more a provocative idea than a proposal.’’ And you said that in the context that 

there were not particularly any well-developed ideas out there. And 

since then, as we have talked, I have introduced legislation to limit 

the nondeposit liabilities of any single institution relative to domesVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00029 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
26 

tic GDP. I have worked with Senator Vitter on that proposal, and 

we are considering to see, I think, more bipartisan support. 

Tell me how your thinking has evolved—your more recent statement seems like it has. Tell me how your thinking has evolved 

from 2009 and why that is. 

Mr. TARULLO. You are absolutely right, Senator Brown. My observation back in 2009 was that people would say something like, 

‘‘Break up the banks.’’ But there was not a plan behind it that allowed people to make a judgment as to whether it would address 

the kind of problems in too big to fail and others we saw in the 

crisis, and what the costs associated with it would be. 

As you say, since then a lot of people have generated a lot of 

plans, and I think they probably fall into three categories. The first 

category is really a variant on things we already do: strengthen the 

barriers between insured depository institutions and other parts of 

bank holding companies; make sure that some activities are not 

taking place in the banks; make sure that there is enough capital 

in the rest of the holding company, even if they get into trouble 

independently, do not just think in terms of protecting the IDI 

itself. 

Interestingly, those are a big part of some of the European proposals like the Liikanen and Vickers proposals. As I say, to a considerable extent, the U.S. has already gone down that road, and indeed Dodd-Frank strengthened some of those provisions. 

The second set of proposals is what I would characterize as a 

functional split, so saying that there are certain kinds of functions 

that cannot be done within a bank holding company. Obviously 

Glass-Steagall was exactly that kind of approach. It separated investment banking from commercial banking. And there are some 

proposals out like this now. They sort of vary. Some of them would 

allow underwriting but not market making. Others might say nothing at all other than commercial banking. 

There are issues on both sides. On the one hand, we have to ask 

ourselves, if we did that, would it actually address the problem 

that led to the crisis. As Senator Johnson was indicating in his introductory remarks, it was the failure of Bear Stearns, a brokerdealer, not a bunch of IDIs or relationships with IDIs, that precipitated the acute phase of the crisis. 

The second issue, obviously, is what would be lost. Are there valuable roles played when, for example, an underwriter also makes 

market in the securities which it underwrites? I think most people 

would conclude that there are. 

The third kind of example is embodied in your legislation, and 

I think in some other proposals, which focuses on the point that I 

tried to make at the close of my introductory oral remarks—what 

I would think of as the unaddressed set of issues, the unaddressed 

set of issues of large amounts of short-term, nondeposit, runnable 

funding. And I think here—and speaking personally now—my view 

is that is the problem we need to address. I think your legislation 

takes one approach to addressing it, which is to try to cap the 

amount that any individual firm can have and thereby try to contain the risk of the amplification of a run. 

27 

There are other complementary ideas such as restricting the 

amounts based on different kinds of duration risk or having higher 

requirements if you have more than a certain amount. 

There are even broader ideas such as placing uniform margins 

on any kind of securities lending, no matter who participates in 

them. 

From my point of view, the importance of what you have done 

is to draw attention to that issue of short-term, nondeposit, 

runnable funding, and that is the one I think we should be debating in the context of too big to fail and in the context of our financial system more generally. 

Senator BROWN. Thank you. 

Mr. Chairman, if I could just make a couple of quick comments. 

One, we have seen since—and thank you for that evolution in your 

thinking and the way you explained it. 

When Senator Kaufman and I first introduced that amendment 

on the floor in 2010, it had bipartisan support, but it obviously fell 

short. We have seen from columnists like George Will and a Wall 

Street Journal op-ed columnist and a number of others sort of 

across the political spectrum, including colleagues that are, you 

know, way more conservative than I am on this in this body come 

around to looking at this pretty favorably. So we have seen a lot 

of momentum, and I appreciate your thinking. 

Second, I wanted to bring up really quickly, Mr. Chairman—and 

I will not end with a question. But last week, Governor, I received 

the Fed’s response to a letter regarding the imposition of Basel III 

on insurance companies. Senator Johanns and I sent, with 22 of 

our colleagues last years, Senators Johnson and Crapo sent a letter 

yesterday to the Fed on the insurance issue. And you and other 

Fed officials have stated several times you believe the proposed 

rule adequately accommodates the business of insurance. We respectfully disagree. I will not ask for a response now, but we will 

work with you on that, if we could. Thank you. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Heller. And welcome to the Committee. 

Senator HELLER. Thank you very much, Mr. Chairman, and to 

the Ranking Member, it will be a pleasure to serve with you, and 

thanks for making me part of this team. And I want to thank those 

who have testified today. I have a lot to learn. I guess there are 

two messages. This takes a team to solve these problems that we 

have today. And, two, I do have a lot to learn. 

I want to concentrate my comments today more on consolidation. 

We have had massive consolidation in the banking industry in Nevada. I come from the State with the highest unemployment, highest foreclosures, highest bankruptcies, and I think the health of the 

banking industry reflects the health of the State in its current position. 

From about a 30,000-feet level looking down at this, we only 

have 14 community banks left in Nevada. We only have 23 credit 

unions left in Nevada. Eighty-five percent of all deposits are now 

concentrated in large banks, and 31 percent of Nevadans are 

unbanked or under-banked, which is the highest percentage in the 

country. Our housing, as, Ms. Miller, you mentioned, underwater 

28 

mortgages are about 20 percent nationwide; it is about 60 percent 

in Nevada. So we are in a tough situation here, and I am concerned 

about consolidation. 

My question—I see a lot of you writing notes, and I appreciate 

that, but what does this consolidation do? How does it help Nevadans get these loans? If the small banks—one of you testified—I 

cannot remember which one it was—that 50 percent of the small 

loans to businesses, to home mortgages, to car loans come from 

these community banks. With the loss of community banks—and 

let me make one more point before I raise the question, and that 

is, the Banking Association feels in Nevada that if you have deposits of less than $1 billion, you are probably going away. Less than 

$1 billion. Do you agree with that statement? And, two, how does 

it help Nevada to have this lack of financial opportunities and to 

consolidate in this manner? Mr. Gruenberg. 

Mr. GRUENBERG. Yes, thank you, Senator. Just on the final point 

you made in terms of needing a certain level of deposits or assets 

to be viable in the banking system, this is actually one of the issues 

we did look at in the study we did looking at the experience of community banks over the past 27 years. And we tried to look closely 

at that particular issue because there is a lot of talk about that 

issue. And for what it is worth, based on the data that we analyzed, we could not find any significant economies of scale once you 

get over $300 million in assets. So the notion that a community 

bank has to be at least $1 billion in assets, for example, in order 

to be viable in the banking market was not proved out by the analysis we did. 

You raise important points in regard to Nevada’s particular situation. Nationally, Nevada had rapid expansion in commercial real 

estate, and that is what really, I think, drove a lot of the developments there. Hopefully Nevada has worked through the worst of 

that. That was not typical of the rest of the country, so I think it 

is fair to say Nevada was particularly impacted there. 

I think for the surviving banks, one, it is a tribute to the work 

they did to manage their way through this, and I think it is fair 

to say they are deserving of particular attention and support going 

forward, given the role that community banks play in terms of 

credit availability. That was the point I made earlier. That is important because the particular niche for small banks, as you know, 

is small business lending, which tends to be labor intensive and 

highly customized. It is the sort of lending that the large institutions—who are interested in standardized products that they can 

offer in volume—are not necessarily interested in providing. So the 

community banks really have a critical role in filling that niche in 

the financial system. 

Senator HELLER. Do you have a comment, Mr. Curry? 

Mr. CURRY. Yes. I have been a community bank supervisor at the 

State and Federal level for 25 years, over 25 years, and I saw firsthand in New England the importance of community banks and 

their ability to help dig out of a severe recession. So I share your 

concerns and also your commitment to community banks. 

I think as supervisors we can play a role in whether it is rulemaking or in the manner in which we actually supervise and examine these banks to eliminate unnecessary burden. It is something 

29 

that we are committed to doing at the OCC where we have over 

1,600 institutions. And the supervisory process I think for smaller 

banks, when the examiners talk to CEOs and lending officers, 

there is an actually an ability to share best practices and help improve the performance of community banks. 

Senator HELLER. Thank you. 

Mr. Chairman, thank you very much. 

Chairman JOHNSON. Senator Warren. 

Senator WARREN. Thank you very much, Mr. Chairman. Thank 

you, Ranking Member. It is good to be here. And thank you all for 

appearing. I have sat where you sit. It is harder than it looks. I 

appreciate your being here. 

I want to ask a question about supervising big banks when they 

break the law, including the mortgage foreclosures but others as 

well. You know, we all understand why settlements are important, 

that trials are expensive and we cannot dedicate huge resources to 

them. But we also understand that if a party is unwilling to go to 

trial, either because they are too timid or because they lack resources, the consequence is they have a lot less leverage in all the 

settlements that occur. 

Now, I know there have been some landmark settlements, but we 

face some very special issues with big financial institutions. If they 

can break the law and drag in billions in profits and then turn 

around and settle, paying out of those profits, they do not have 

much incentive to follow the law. 

It is also the case that every time there is a settlement and not 

a trial, it means that we did not have those days and days and 

days of testimony about what those financial institutions had been 

up to. 

So the question I really want to ask is about how tough you are 

about how much leverage you really have in these settlements. And 

what I would like to know is tell me a little bit about the last few 

times you have taken the biggest financial institutions on Wall 

Street all the way to a trial. 

[Applause.] 

Senator WARREN. Anybody? Chairman Curry? 

Mr. CURRY. I would like to offer my perspective as a bank supervisor. 

Senator WARREN. Sure. 

Mr. CURRY. We primarily view the tools that we have as mechanisms for correcting deficiencies, so the primary motive for our enforcement actions is really to identify the problem and then demand a solution to it on an ongoing basis. 

Senator WARREN. That is right. And then you set a price for that. 

I am sorry to interrupt, but I just want to move this along. It is 

effectively a settlement. And what I am asking is: When did you 

last take—and I know you have not been there forever, so I am 

really asking about the OCC—a large financial institution, a Wall 

Street bank to trial? 

Mr. CURRY. Well, the institutions I supervise, national banks and 

Federal thrifts, we have actually had a fair number of consent orders. We do not have to bring people to trial or—— 

30 

Senator WARREN. Well, I appreciate that you say you do not have 

to bring them to trial. My question is: When did you bring them 

to trial? 

Mr. CURRY. We have not had to do it as a practical matter to 

achieve our supervisory goals. 

Senator WARREN. Ms. Walter. 

Ms. WALTER. Thank you, Senator. As you know, among our remedies are penalties, but the penalties we can get are limited, and 

my predecessor actually asked for additional authority to raise penalties. When we look at these issues—and we truly believe that we 

have a very vigorous enforcement program—we look at the distinction between what we could get if we go to trial and what we could 

get if we do not. 

Senator WARREN. I appreciate that. That is what everybody does. 

And so the question I am really asking is: Can you identify when 

you last took the Wall Street banks to trial? 

Ms. WALTER. I will have to get back to you with the specific information, but we do litigate, and we do have settlements that are 

either rejected by the Commission or not put forward for approval. 

Senator WARREN. OK. We have got multiple people here. Anyone 

else want to tell me about the last time you took a Wall Street 

bank to trial? 

You know, I just want to note on this, there are district attorneys 

and U.S. Attorneys who are out there every day squeezing ordinary 

citizens on sometimes very thin grounds and taking them to trial 

in order to ‘‘make an example,’’ as they put it. I am really concerned that ‘‘too big to fail’’ has become ‘‘too big for trial.’’ That just 

seems wrong to me. 

[Applause.] 

Senator WARREN. If I can—and I will go quickly, Chairman Johnson—I have one more question I would like to ask, and that is a 

question about why the large banks are trading at below book 

value. We all understand that book value is just what the assets 

are listed for, what the liabilities are and that most big corporations trade well above book value. But many of the Wall Street 

banks right now are trading below book value, and I can only think 

of two reasons why that would be so. 

One would be because nobody believes that the banks’ books are 

honest, or the second would be that nobody believes that the banks 

are really manageable—that is, that they are too complex either for 

their own institutions to manage them or for the regulators to 

manage them. 

And so the question I have is: What reassurance can you give 

that these large Wall Street banks that are trading for below book 

value, in fact, are adequately transparent and adequately managed? Governor Tarullo or Ms. Miller. 

Mr. TARULLO. There is certainly another reason we might add to 

your list, Senator Warren, which is investor skepticism as to 

whether a firm is going to make a return on equity that is in excess of what the investor regards as the value of the individual 

parts. And so I think what you would hear analysts say is that in 

the wake of the crisis, there have been issues on just that point 

surrounding, first, what the regulatory environment is going to be, 

31 

how much capital is going to be required, what activities are going 

to be restricted, what are not going to be restricted. 

Two, for some time there have been questions about the franchise value of some of these institutions. You know, the crisis 

showed that some of the so-called synergies were not very synergistic at all and, in fact, there really was not the potential, at least 

on a sustainable basis, to make a lot of money. 

Part of it is probably just the environment of economic uncertainty. 

In some cases, we have seen some effort to get rid of large 

amounts of assets at some of the large institutions. It is indirectly 

in response to just this point that some of them have concluded 

that they are not in a position to have a viable, manageable, profitable franchise if they have got all of the entities that they had before. And so a couple of them, as I say, have actually reduced or 

are in the process of reducing their balance sheets. 

The other thing I would note is you are absolutely right about 

the difference there. The difference actually is that the economy 

has been improving and some of the firms have built up their capital. You have seen that difference actually narrowing in a number 

of cases as they seem to have a better position in the view of the 

market from which to proceed in a more feasible fashion. 

Senator WARREN. Good. Well, I appreciate it, and I apologize for 

going over, Mr. Chairman. Thank you. 

Chairman JOHNSON. Senator Hagan. 

Senator HAGAN. Thank you, Mr. Chairman. Chairman Johnson, 

I appreciate your comments on QRM earlier. 

For the U.S. housing market to continue on its path to recovery, 

consumers, lenders, and investors need clarity regarding the 

boundaries of mortgage lending. The recent action by the Consumer Financial Protection Bureau to finalize rules implementing 

the ability to repay provisions of Dodd-Frank was, I think, an important step toward certainty and access. Now that the CFPB has 

successfully finalized its work on the qualified mortgage definition, 

I urge you to work quickly to finalize the QRM definition in a way 

that ensures responsible borrowers have ongoing access to prudent, 

sustainable mortgages that for decades have been the cornerstone 

of a stable and strong U.S. housing market. 

Earlier this week, we saw data showing that home loans that 

would be exempt from the ability-to-repay requirements and the 

proposed risk retention standard, even with a 10-percent downpayment requirement, made up less than half the market in 2010. Importantly, it should be noted that these loans rarely went into default. 

Now that QM is finalized, can you assure me that your agencies 

will work diligently to complete a QRM rule in a manner consistent 

with that legislative intent? I would love your thoughts. 

Mr. CURRY. Senator Hagan, we view the QRM rulemaking, the 

risk retention rulemaking process as an important one. With QM 

in place, we are looking forward to adopt an appropriate regulation 

as quickly as possible. 

Senator HAGAN. ‘‘As quickly as possible’’ is defined as when? 

Mr. CURRY. I think Governor Tarullo mentioned earlier we expect to wrap up most of the Dodd-Frank rulemaking this year. 

32 

Mr. TARULLO. Oh, I would hope on that one it would be sooner 

than the end of the year. 

Senator HAGAN. The sooner the better. 

Mr. TARULLO. Because the QM coming out, Senator, really now 

does allow us to go and finish it. Most of the other issues—the way 

these processes work is at a staff level people go through all the 

various issues and they try to either work them through or present 

them to their commissioners or Governors for resolution. There, 

most of that process has already proceeded, so there are a couple 

of things that are going to have to be considered by the people at 

this table and our colleagues in our various agencies. But it really 

was having QM final which lets us now go to completion. 

Senator HAGAN. Under Secretary Miller, at the request of the Financial Stability Oversight Council (FSOC), the Office of Financial 

Research has been studying the asset management industry. This 

study is intended to help the FSOC to determine what risks, if any, 

this industry might pose to the U.S. financial system and whether 

any such risks are best addressed through designation of asset 

managers as nonbank systemically important financial institutions. 

My question is: Can you talk about the transparency of the process? Will the results of the analysis be made public? And, will interested parties be provided the opportunity to comment formally 

on the results? 

Ms. MILLER. Thank you. As you are aware, the FSOC has some 

responsibilities to designate nonbank financial institutions. In the 

course of doing that, in April of 2012 we published some criteria 

for exactly how that activity would proceed. At the time, we said 

that asset managers are large financial institutions, but they appeared different than some of the other financial institutions we 

were looking at, and we took that off the table to go off and do 

some additional work. 

So the OFR has been doing that work, has been working with the 

market participants as well as members of the FSOC to complete 

that. I expect that if there is a plan to go forward with designation 

on an asset manager or an activity of an asset manager, there 

would have to be further publication of the criteria for doing that 

and the terms on which that would be considered. So we have been 

clear that we would be transparent and public about that. 

Senator HAGAN. When you said you ‘‘took it off the table,’’ what 

did you mean by that? 

Ms. MILLER. We meant that we set it aside from the criteria that 

were established at the time for nonbank financial institutions to 

say that we wanted to study the asset management industry further to learn more about the activities and risks that they might 

present. 

Senator HAGAN. Will the FSOC provide the public with an opportunity to comment on any metrics and thresholds relating to the 

potential designation of asset management companies as nonbank 

systemically important financial institutions—if you went to the 

point—prior to any designation of such a company? 

Ms. MILLER. Well, I cannot speak for all the members of the 

FSOC and what they would want to do, but I think that that would 

be a reasonable course if we move forward in that direction. 

Senator HAGAN. Thank you, Mr. Chairman. 

33 

Chairman JOHNSON. Senator Manchin. 

Senator MANCHIN. Thank you, Mr. Chairman. First, I want to 

start by saying how excited I am about being a new Member of the 

Senate Banking Committee with all my colleagues, and I look forward to working with you all. And I want to thank both you, Chairman Johnson, and Ranking Member Crapo, my good friend, for allowing me to be part of this. 

I would like to start out by saying that in West Virginia we have 

a lot of community banks that have been basically really stable and 

done a good job, but they are caught up in this, if you will, the 

whole banking changes and regulations. And with that being said, 

I know there have been some things that have helped by the DoddFrank, but I think most of the community banks believe that it has 

been very onerous on them. 

Federal Reserve Board Governor Elizabeth Duke recently gave a 

speech in favor of the community banks where she said that a onesize-fits-all regulatory environment makes it difficult for community banks and that hiring compliance experts can put an enormous burden on small banks. She also went on to say that hiring 

one additional employee would reduce the return on assets by 23 

basis points for many small banks. In other words, 13 percent of 

the banks with assets less than $50 million, these are the banks 

that did not cause this problem that we got into in 2008. But they 

have been lumped in with all the bad actors, if you will, and all 

the bad practices. 

What we are saying on that—how are you all, because you all— 

if I look across this and me being brand new to the Committee, you 

pretty much have every aspect of regulations. How are you dealing 

with that? Anybody can start. Mr. Gensler. 

Mr. GENSLER. Well, I would just say Congress gave us the authority to exempt what Congress said was small financial institutions, anything less than $10 billion in size, from the central clearing requirement. We went through a rulemaking, and we did just 

that. We exempted about 15,000 institutions from—we do not oversee the banks, but we did our share on the community banks. 

Senator MANCHIN. The only thing I could say on that is that you 

could, but they are just saying to comply with the massive amount 

of paperwork regulations and the people they would have to hire 

to do that when they were not at fault. And I think every—they 

are saying this across the board. 

Mr. GENSLER. Yes. I was just saying what the CFTC did. We just 

exempted them from the one provision that, you know, Congress 

gave us authority. 

Senator MANCHIN. Anybody else? Anybody feel like exempting 

them? 

Mr. CORDRAY. Senator, I would be happy to mention—so on the 

mortgage rules that we just completed, the qualified mortgage rule 

and our mortgage servicing rules are the most significant and substantive rules. We were convinced—as you say, and I have said it 

many times—that the smaller community banks and credit unions 

did not do the kinds of things that caused the crisis and, therefore, 

we should take account of that and protect their lending model as 

we now regulate to prevent the crisis from happening again. 

34 

On the servicing rules, we exempted smaller servicers from having to comply with big chunks of that rule in consultation with people. And on the qualified mortgage rule, we have done a reproposal 

that would allow smaller banks that keep loans in portfolios— 

many of them do—to be deemed qualified mortgages, and I think 

that that is quite important. It has been well received, and we are 

looking to finalize that proposal—— 

Senator MANCHIN. Thank you. Since my time is short, I would 

like to ask this question, and maybe the people who have not— 

Glass-Steagall was put in place in 1933 to prevent exactly what 

happened to us. It was in place, I think, for approximately 66 years 

until it was repealed. Up until the 1970s, it worked pretty well. We 

started seeing some changes and chipping away with new rules 

that took some powers away from Glass-Steagall. And then we finally repealed it in 1999, and the collapse in 2008. 

How do you all—I mean, the Volcker Rule—and I know it does 

not do what the Glass-Steagall does, but why would we have those 

protections? And if it worked so well for so many years, why do you 

all not believe it is something we should return to or look at very— 

Governor. 

Mr. TARULLO. Let me take a shot at that, Senator. I think you 

have put your finger on the time frame at which what had been 

a quite safe, pretty stable, not particularly innovative financial system began to change. One of the big reasons, though, it began to 

change was that commercial banks were facing increasing competition on both the asset and liability sides of their demand sheet— 

their balance sheet. 

You had, on the one hand—and this is essentially a good development—the growth of capital markets—— 

Senator MANCHIN. Where was the competition coming from? 

Mr. TARULLO. I was about to say the growth of public capital 

markets that were allowing more and more corporations to issue 

public debt, to issue bonds, so they did not rely as much on bank 

lending, borrowing from banks as they used to. And, on the other 

side, you saw the growth of savings vehicles like money market 

funds which provided higher returns than an insured deposit in 

one of those institutions. So the banks felt themselves squeezed on 

both sides by what in some respects were very benign, very good 

developments, which is to say more options for people. Where I 

think—— 

Senator MANCHIN. So we changed the rule basically to allow 

them to get into risky ventures. 

Mr. TARULLO. Well, in some cases it was risky ventures, that is 

right. There definitely was a deregulatory movement in bank regulation beginning in about the mid-1970s for an extended period of 

time. And I guess what I would say is that it would—if I had to 

identify a collective mistake by the country as a whole, it was not 

in trying to preserve a set of rules and structures which were just 

being eroded by everything that was going on in the unregulated 

sector. I would say the mistake lay in not substituting a new, more 

robust set of structures and measures that could take account of 

the intertwining of conventional lending with capital markets. And 

that process of pulling away old regulation but not putting in place 

35 

new modernized responsive regulation, I think that is what left us 

vulnerable. 

Senator MANCHIN. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Tester. 

Senator TESTER. Thank you, Mr. Chairman. I want to thank the 

Ranking Member and you for your service on this Committee, and 

I look forward to working with you both on issues of consequence 

here. And I want to thank everybody that is on the Committee. 

I am going to start out with some questions to Chairman Walter, 

if I might. Investor protection was clearly one of the most significant issues contemplated by Dodd-Frank, including direction to the 

SEC to examine the standards of care for broker-dealers and investor advisers in providing investor advice. The SEC released a study 

on the subject that recommended that the Commission exercise its 

rulemaking authority to implement uniform fiduciary standards 

while preserving investor choice. 

It has been 2 years since that study was released. In your testimony, you mentioned that the SEC is drafting a public request for 

information to gather more data regarding this provision. 

I guess, first of all, do you anticipate the SEC will move forward 

on this issue? And when? 

Ms. WALTER. I expect that the request for comment that is referenced in my testimony will go out in the near future, in the next 

month or two. 

Senator TESTER. OK. 

Ms. WALTER. With respect to the substance of the issue, speaking 

only for myself, I would love to move forward on this issue as soon 

as possible. Opinions at the Commission vary a great deal in terms 

of the potential costs it imposes. My own personal view is that it 

is the right thing to do and we should proceed, and that we should 

then go on or perhaps at the same time take a very hard look— 

and there is, I think, more support for this at the Commission— 

at the different rules that are applicable to the two different professions, the investment adviser and the broker-dealer professions, to 

see where they should be harmonized and where, in fact, the differences in the regulatory structures are justified. 

Senator TESTER. Well, first of all, I appreciate your position on 

this issue. I would encourage the Commissioners to make this a 

priority because I think there is absolute benefit to investors. And 

if you can help push it. I do not speak for the Chairman of Ranking 

Member, but if we find it as a priority, maybe we can help push 

it. But I think it is very, very important. 

Ms. WALTER. I appreciate that, and I agree with you completely. 

Senator TESTER. Thank you. 

Another question deals with the JOBS Act that was signed about 

10 months ago, and a few of those provisions were effective immediately. The SEC has really blown by most of the statutory deadlines for rulemaking and rules have yet to be proposed. The SEC 

I think put out one proposed rule on general solicitation in August 

with the comment period that closed in October. Since then, there 

has not been much talk about finalizing the rule or the rest of the 

rulemaking requested by that act. 

I am troubled by rumblings that I have heard suggesting that 

implementation of the portion of the bill that the Commission has 

36 

dubbed as ‘‘Regulation A Plus’’ may not be a priority for the SEC. 

And I appreciate you do have a lot on your plate—I understand 

that—in the way of rulemaking. But we need the SEC to make 

progress so that small businesses that this law was intended to 

benefit can better access capital markets. 

Can you outline the Commission’s timeline for JOBS Act implementation including Regulation A Plus, including when you anticipate the SEC staff will present draft rules to the Commissioners? 

Ms. WALTER. Our rulemaking priorities start with Dodd-Frank 

and the JOBS Act, and then beyond that we see what else we can 

accomplish at the same time. So we are looking very closely now, 

particularly in how to proceed with the general solicitation provisions of the law, which received rather interesting and divided comment. We have to make a decision as to whether to proceed with 

lifting the ban on general solicitation in a stark way or whether to 

accompany it with a number of protections that were offered by 

various commenters, including unanimously by our Investor Advisory Committee with respect to suggestions as to how to implement 

with additional investor protections. That is actively at the top of 

our plate right now. 

Following closely behind that, we are working in the next few 

months on putting together a crowdfunding proposal. I will say, although we very much regret not meeting the statutory deadlines, 

we have learned a lot by meeting with people both from this country and from abroad who have engaged actively in crowdfunding in 

the securities sphere, and I think that will help to illuminate our 

proposal and to make it the best proposal that it can be. 

Senator TESTER. Well, I just have to say, the JOBS Act was said 

by some to be the most important jobs bill that we have done in 

a while as far as actually creating jobs. I can tell you, in my State 

of Montana, which is incredibly rural, folks are hungry to get 

going. And I think we are holding the process up. And like I said, 

I know you are pushed in a lot of different directions and you are 

very, very busy, but I would certainly hope that, once again, we can 

get some things out very, very quickly, because I do not think we 

get the full benefit of the act until we do. 

And I assume since I am the last questioner I can just keep 

going, right, Mr. Chairman? 

[Laughter.] 

Chairman JOHNSON. No. 

Senator TESTER. I have more questions, but I just want to say 

thank you all for what you do, and just because I did not ask you 

a question does not mean I do not still love you. 

[Laughter.] 

Senator TESTER. Thank you. 

Chairman JOHNSON. Thank you all for your testimony and for 

being here with us today. I appreciate your hard work in implementing those implement reforms. 

Also, Senator Crapo has additional questions he would like to 

submit. 

This hearing is adjourned. 

[Whereupon, at 12:33 p.m., the hearing was adjourned.] 

[Prepared statements, responses to written questions, and additional material supplied for the record follow:] 

37 

PREPARED STATEMENT OF SENATOR HEIDI HEITKAMP 

Chairman Johnson and Ranking Member Crapo, thank you for holding this important hearing, and thank you to our many witnesses for appearing today. I look forward to working with all of you as a Member of this Committee. 

After spending the last year traveling across North Dakota and talking with community banks and credit unions across my great State, it is clear that small financial institutions are struggling. As active members in their communities, they provide crucial services in rural communities and underserved areas. Yet, burdensome 

and complicated regulation is contributing to an environment where the cost of business is overwhelming and consolidation is too often the answer. 

I applaud the efforts of some regulators to work with the community banking industry to ensure the industry is strong and their regulation is efficient and effective. 

We must encourage this trend to continue and facilitate a dialogue to ensure smaller institutions are not adversely affected by regulations targeted at large, complex 

ones. We must create a banking system that supports community banks and credit 

unions rather than stymies their ability to thrive. 

As more rules are finalized to work toward financial stability and increase investor and consumer protections, I look forward to working with the appropriate regulators to make sure our smaller financial institutions receive the consideration they 

deserve and can continue to serve the many communities in North Dakota that rely 

on their services. 

PREPARED STATEMENT OF MARY J. MILLER 

UNDER SECRETARY FOR DOMESTIC FINANCE, DEPARTMENT OF THE TREASURY

FEBRUARY 14, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, 

thank you for the opportunity to appear here today to discuss progress implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act. 

The Dodd-Frank Act represents the most comprehensive set of reforms to the financial system since the Great Depression. The package of reforms President 

Obama signed into law 21⁄2 years ago was a needed antidote for regulations that 

were too antiquated and weak to prevent or respond effectively to a financial crisis 

that inflicted devastating damage on the U.S. economy and American families. The 

inadequacy of our previous financial regulatory system was a major reason the crisis 

was so severe and why the recovery has taken so long. 

Americans are already beginning to see benefits of the reforms implemented in 

the wake of the crisis reflected in a safer and stronger financial system and a broader economic recovery. Although the financial markets have recovered more vigorously than the overall economy, with the stock market near its October 2007 alltime high, the economic recovery is gaining traction. Private-sector payrolls have increased by more than 6 million jobs from the low point in February 2010, marking 

the 35th consecutive month of private-sector job growth. The unemployment rate, 

while still too high at 7.9 percent, has fallen more than two percentage points since 

its October 2009 peak of 10.0 percent. The recovery in the housing market also still 

has further to go, but it appears to be taking firmer hold as measured by rising 

home prices, stronger sales, and declining numbers of delinquencies and defaults. 

The financial regulators represented here today have been making significant 

progress implementing Dodd-Frank Act reforms. Consumers have access to better 

information about financial products and are benefiting from new protections. Financial markets and companies have become more transparent. Regulators have become better equipped to monitor, mitigate, and respond to threats to the financial 

system. 

Our financial system has also become smaller as a share of the economy and significantly less leveraged, reducing our vulnerability to a future crisis. Capital requirements for the largest banks have increased substantially, and U.S. banks have 

raised their capital levels to approximately $1 trillion, up 75 percent from 3 years 

ago. We have a new framework in place for protecting the financial system, the 

economy, and taxpayers from the consequences of the failure of a large financial 

company. 

Eleven of the largest bank holding companies have already submitted their living 

wills to the Federal Reserve and Federal Deposit Insurance Corporation, and the 

other firms required to submit living wills will follow suit by the end of this year, 

providing their regulators with a roadmap to wind them down should they fail. The 

costs of resolving a failed financial company will not be borne by taxpayers, but by 

38 

the company’s stockholders, creditors, and culpable management—and if necessary 

by the financial services industry. 

The newly created Consumer Financial Protection Bureau (CFPB) has taken important steps to provide clarity on consumer financial products for ordinary Americans. The CFPB is cracking down on abusive practices and helping to level the playing field between banks and nonbanks, so that they play by the same rules when 

dealing with customers. 

Expanded enforcement authorities at the Securities and Exchange Commission 

(SEC) and the Commodity Futures Trading Commission (CFTC), along with their 

new whistleblower rules, are providing investors with increased protections, and the 

agencies’ vigorous enforcement efforts should serve as a greater deterrent to misconduct. Investors in thousands of publicly traded companies have exercised new 

rights to vote on executive compensation packages as a result of Dodd-Frank’s sayon-pay provisions. 

A new framework for regulatory oversight of the over-the-counter (OTC) derivatives market is largely in place. It will significantly reduce the risks associated with 

these products and will provide much-needed transparency for both market participants and regulators. As a result of trade-reporting requirements, the price and volume of certain swap transactions are now available to regulators and the public, at 

no charge, and reporting for additional asset classes will begin at the end of this 

month. Swap dealers now have to register with the CFTC and adhere to new standards for business conduct and record keeping. Beginning next month, certain types 

of financial institutions transacting in clearable interest-rate or credit-index swaps 

must move those transactions to central clearinghouses, reducing overall risk to the 

financial system. 

Treasury’s responsibilities under the Dodd-Frank Act include standing up new organizations to strengthen coordination of financial regulation both domestically and 

internationally, improve information sharing, and better identify and respond to potential risks to the financial system. Over the past 30 months, we have focused considerable effort on creating the Financial Stability Oversight Council, the Office of 

Financial Research, and the Federal Insurance Office and making them effective 

and efficient organizations that fulfill the objectives established in the Dodd-Frank 

Act. 

The Financial Stability Oversight Council 

The Financial Stability Oversight Council (FSOC) has become a valuable forum 

for collaboration among financial regulators and, despite its relative youth, has become a central figure in the implementation of financial regulatory reform and in 

addressing risks to the financial system. 

Although FSOC members by law are required to meet only quarterly, the FSOC 

has been far more active than that. In 2012, FSOC principals met 12 times to conduct their regular business and respond to specific market developments. Additionally, the FSOC facilitates significant collaboration and information-sharing at the 

staff level through regular meetings of its Deputies Committee, which meets on a 

bi-weekly basis, and its Systemic Risk Committee, which meets monthly. 

These are key forums for coordination among regulators. There is steady and understandable demand from the financial industry for enhanced regulatory coordination. Given the different statutory mandates and supervisory responsibilities of the 

various independent financial regulators, they are not always able to achieve as 

much alignment as regulated entities and market participants might desire. However, by having a regular forum available for frank discussion and early identification of areas of mutual or potentially overlapping interests, the financial regulatory 

community has been able to better identify issues that would benefit from enhanced 

coordination. On the international front, for example, the U.S. representatives to 

groups such as the Financial Stability Board and the International Association of 

Insurance Supervisors are able to use the FSOC as a means of sharing information 

and collaborating with a broader group of domestic colleagues on international efforts. 

The benefits of strengthened coordination go beyond regulatory implementation. 

One of the strongest attributes of the FSOC has been its ability to quickly bring 

the key regulators together to respond to events such as the failure of MF Global 

and the disruption to financial markets caused by Superstorm Sandy. 

In addition to the FSOC’s coordination role, it has certain authority to provide for 

more stringent regulation of a financial activity by issuing recommendations to the 

responsible regulatory agencies. An example along these lines is vulnerability in the 

short-term funding markets, which the FSOC first addressed in its 2011 annual report and then again in 2012. The focus on this exposure ultimately led to the 

FSOC’s issuance for public comment of proposed recommendations on money market 

39 

mutual fund reforms. The comment period on those proposed recommendations 

closes tomorrow, February 15. 

The FSOC has also taken significant steps to designate and increase oversight of 

financial companies whose failure or distress could negatively impact financial markets or the financial stability of the United States. In July 2012, the FSOC designated eight financial market utilities, companies that play important roles in our 

clearing, payment, and settlement systems, as systemically important. These companies are now subject to higher risk-management standards and coordinated oversight by the Federal Reserve, the SEC, and the CFTC. The FSOC is also in the final 

stages of evaluating an initial set of nonbank financial companies for potential designation, and completing that work is an important priority for 2013. Designated 

nonbank financial companies will be subject to enhanced prudential standards and 

supervision by the Federal Reserve, closing an important regulatory gap. 

The Office of Financial Research 

Treasury has made significant progress in establishing the Office of Financial Research (OFR), which has been further strengthened with the confirmation of Richard Berner early this year as its first Director. 

The OFR provides important support for the FSOC, including data for the FSOC 

annual report as well as data and analysis relating to the designation of nonbank 

financial companies. In collaboration with FSOC members, the OFR is also developing new dashboards of financial stability metrics and indicators for use by the 

FSOC’s Systemic Risk Committee. 

A key part of the OFR mission is to fill the gaps in existing data and analysis. 

The OFR has accordingly completed an initial inventory of purchased and collected 

data among FSOC member agencies and an inventory of internally developed data 

is underway. To improve the quality and scope of data available to policy makers, 

the OFR has established data-sharing agreements with a number of FSOC member 

agencies and continues to work on new ones as needed. 

The OFR plays a leadership role in the international initiative to establish a global Legal Entity Identifier (LEI), a code that uniquely identifies parties to financial 

transactions. The OFR’s chief counsel was recently named Chair of the LEI Regulatory Oversight Committee. With the planned launch of the global system next 

month, the goal of standardizing the identification of these entities will become a 

reality. Financial companies and financial regulators worldwide will gain a better 

view of true exposures and counterparty risks across the global financial system. 

In July 2012, the OFR issued its first annual report assessing the state of the 

U.S. financial system, the status of the efforts by the OFR to meet its mission, and 

key findings of the OFR’s research and analysis. We have also established the Financial Research Advisory Committee, composed of 30 distinguished professionals 

in economics, finance, financial services, data management, risk management, and 

information technology to provide advice and recommendations to the OFR. 

Federal Insurance Office 

Treasury has also worked to establish the Federal Insurance Office (FIO) and develop its ability to serve as the Federal voice on insurance issues, both domestically 

and internationally. 

FIO is responsible for monitoring all aspects of the insurance industry, including 

identifying issues or gaps in regulation that could contribute to a systemic crisis in 

the insurance industry or financial system. FIO coordinates and develops Federal 

policy on prudential aspects of international insurance matters; represents the 

United States at the International Association of Insurance Supervisors (IAIS); and, 

along with the independent insurance expert and a State insurance commissioner, 

the FIO Director contributes insurance expertise to the FSOC as a nonvoting member. FIO also monitors the accessibility and affordability of nonhealth insurance 

products to traditionally underserved communities. 

Until the establishment of FIO, the United States was not represented by a single, unified Federal voice in the development of international insurance supervisory 

standards. FIO now provides important leadership in developing international insurance policy. In 2012, FIO was elected to serve on the IAIS Executive Committee 

and as Chair of its Technical Committee. FIO is involved with the IAIS’s development of the methodology to identify global systemically important insurers and the 

policy measures to be applied to any designated firm. Apart from its work with the 

IAIS, FIO established and has provided leadership in the European Union–United 

States insurance project regarding matters such as group supervision, capital requirements, reinsurance, and financial reporting. FIO has worked and will continue 

to work closely and consult with State insurance regulators and other Federal agencies in this work. 

40 

FIO will soon release its first annual report on the insurance industry and its report on how to modernize and improve the system of insurance regulation in the 

United States. FIO is working diligently to release these and several other reports 

in the coming months. 

Coordination 

In the year ahead, Treasury will continue to build on the FSOC’s existing 

strengths as a key forum for information-sharing and collaboration among regulators and continue to develop the expertise and capacity of the OFR and FIO. 

Although we are not a rulemaking agency for either the Dodd-Frank Act’s Volcker 

Rule or risk-retention rule, the Treasury Secretary, in his capacity as Chairperson 

of the FSOC, has an explicit statutory coordination role with respect to both of those 

rulemakings. We take that role very seriously and will continue to work with the 

respective rulemaking agencies as they finalize those rules. 

Another area where we continue to engage in significant coordination with other 

agencies is with respect to the Dodd-Frank Act’s new orderly liquidation authority. 

We have participated in extensive planning exercises and preparations with the 

Federal Reserve and FDIC to be fully prepared to wind down a company whose failure could have serious adverse effects on U.S. financial stability. 

International 

Our progress on domestic implementation is mirrored by our work internationally 

to support efforts to make financial regulations more consistent worldwide through 

the G20 and the Financial Stability Board (FSB). By moving early with the passage 

and implementation of the Dodd-Frank Act, we have been able to lead from a position of strength in setting the international reform agenda and elevating the world’s 

standards to our own. We remain attentive to the inevitable inconsistencies and lags 

on implementation and continue to emphasize that successful implementation of 

global financial regulatory reforms is essential for promoting U.S. financial sector 

competitiveness; building a stable, secure, and more resilient financial system; and 

avoiding regulatory arbitrage and a race to the bottom. 

We are pursuing a comprehensive reform agenda internationally spanning bank 

capital and liquidity, resolution, and OTC derivatives markets. 

On capital and liquidity, the Basel III standards raise the quality and quantity 

of capital and strengthen liquidity requirements so that banks can better protect 

themselves against losses of the magnitude seen in the crisis. These form the bulwark of core reforms that will enhance the stability of the international banking 

system. In June 2012, the Federal banking agencies issued proposed rules and currently are working to adopt final rules to implement the Basel III standards in 

2013. It is critical that our international partners implement Basel III faithfully as 

soon as possible. In fact, the majority of the largest U.S. banks already meet Basel 

III capital targets—well ahead of schedule. 

On resolution, we have reached an important agreement that key financial jurisdictions should have the tools to resolve large cross-border financial firms without 

the risk of severe disruption or taxpayer exposure to loss. The FSB is working actively to see that this international commitment by regulators will drive major global banks to develop cross-border recovery and resolution plans; develop criteria to 

improve the ‘‘resolvability’’ of systemically important institutions; and negotiate institution-specific cross-border resolution cooperation arrangements. 

On derivatives, U.S. regulators have led with implementation of reforms to centrally clear derivatives and require transaction reporting. We have also led the call 

for the development of a global margin standard for OTC derivatives that are not 

centrally cleared, and the G20 and the FSB are making steady progress in their efforts to develop such a standard. 

We have made real progress internationally on all of these fronts and must continue to do so. As the global economy heals from the devastation of the crisis, the 

urgency for reform may wane. Progress remains uneven internationally and significant work remains. We must redouble efforts domestically and urge our partners 

internationally to continue this essential work. In particular, we must be careful to 

avoid a fragmentation in financial regulation internationally, which can lead to uneven regulation, unequal treatment, constrained capital flows, and increased uncertainty. Treasury will continue to work with our partners around the world to 

achieve global regulatory convergence. 

Conclusion 

Financial regulatory reform implementation has presented one of the most challenging sets of responsibilities for regulators in nearly 80 years. We have a highly 

complex, international financial system with many intricately linked parts. While 

the demand for simple rules has a superficial appeal, simple rules do not suffice to 

41 

address the nuances of a complex financial system. Also, as the work of regulatory 

reform implementation proceeds, issues inevitably arise such as MF Global’s failure, 

the so-called ‘‘London Whale’’ trading losses, and LIBOR manipulation that inform 

the work of regulators in important ways but that also require significant attention 

in and of themselves. 

As we move forward, it is critical to strike the appropriate balance of measures 

to protect the strength and stability of the U.S. financial system while preserving 

liquid and efficient markets that promote access to capital and economic growth. 

Rules must also be properly calibrated to risks, taking into account, for example, 

the reduced risks that community banks pose compared to large, complex financial 

institutions. 

Finally, we cannot afford to succumb to complacency now as the financial markets 

and economy slowly continue to recover. Efforts to repeal the Dodd-Frank Act in 

whole or piecemeal or to starve regulators by underfunding them will hamper 

growth, allow uncertainty to fester, and be corrosive to the strength and stability 

of our financial system. The progress we have made so far is because of the reforms 

that we are putting in place, not in spite of them. Completion of these reforms provides the best path to building a sounder foundation for continued economic growth 

and prosperity. 

PREPARED STATEMENT OF DANIEL K. TARULLO 

GOVERNOR, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

FEBRUARY 14, 2013 

Chairman Johnson, Ranking Member Crapo, and other Members of the Committee, thank you for the opportunity to testify on implementation of the DoddFrank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act). 

In today’s testimony, I will provide an update on the Federal Reserve’s recent activities pertinent to the Dodd-Frank Act and describe our regulatory and supervisory 

priorities for 2013. 

The Federal Reserve, in many cases jointly with other regulatory agencies, has 

made steady and considerable progress in implementing the Congressional mandates in the Dodd-Frank Act, though obviously some work remains. Throughout this 

effort, the Federal Reserve has maintained a focus on financial stability. In the process of rule development, we have placed particular emphasis on mitigating systemic 

risks. Thus, among other things, we have proposed varying the application of the 

Dodd-Frank Act’s special prudential rules based on the relative size and complexity 

of regulated financial firms. This focus on systemic risk is also reflected in our increasingly systematic supervision of the largest banking firms. 

Recent Regulatory Reform Milestones 

Strong bank capital requirements, while not alone sufficient to guarantee the 

safety and soundness of our banking system, are central to promoting the resiliency 

of banking firms and the financial sector as a whole. Capital provides a cushion to 

absorb a firm’s expected and unexpected losses, helping to ensure that those losses 

are borne by shareholders rather than taxpayers. The financial crisis revealed, however, that the regulatory capital requirements for banking firms were not sufficiently robust. It also confirmed that no single capital measure adequately captures 

a banking firm’s risks of credit and trading losses. A good bit of progress has now 

been made in strengthening and updating traditional capital requirements, as well 

as devising some complementary measures for larger firms. 

As you know, in December 2010 the Basel Committee on Banking Supervision 

(Basel Committee) issued the Basel III package of reforms to its framework for minimum capital requirements, supplementing an earlier set of changes that increased 

requirements for important classes of traded assets. Last summer, the Federal Reserve, the Office of the Comptroller of the Currency (OCC), and the Federal Deposit 

Insurance Corporation (FDIC) issued for comment a set of proposals to implement 

the Basel III capital standards for all large, internationally active U.S. banking 

firms. In addition, the proposals would apply risk-based and leverage capital requirements to savings and loan holding companies for the first time. The proposals 

also would modernize and harmonize the existing regulatory capital standards for 

all U.S. banking firms, which have not been comprehensively updated since their 

introduction 25 years ago, and incorporate certain new legislative provisions, including elements of sections 171 and 939A of the Dodd-Frank Act. 

To help ensure that all U.S. banking firms maintain strong capital positions, the 

Basel III proposals would introduce a new common equity capital requirement, raise 

the existing tier 1 capital minimum requirement, implement a capital conservation 

42 

buffer on top of the regulatory minimums, and introduce a more risk-sensitive 

standardized approach for calculating risk-weighted assets. Large, internationally 

active banking firms also would be subject to a supplementary leverage ratio and 

a countercyclical capital buffer and would face higher capital requirements for derivatives and certain other capital markets exposures they hold. Taken together, 

these proposals should materially reduce the probability of failure of U.S. banking 

firms—particularly the probability of failure of the largest, most complex U.S. banking firms. 

In October 2012, the Federal Reserve finalized rules implementing stress testing 

requirements under section 165 of the Dodd-Frank Act. Consistent with the statute, 

the rules require annual supervisory stress tests for bank holding companies with 

$50 billion or more in assets and any nonbank financial companies designated by 

the Financial Stability Oversight Council (Council). The rules also require companyrun stress tests for a broader set of regulated financial firms that have $10 billion 

or more in assets. The new Dodd-Frank Act supervisory stress test requirements are 

generally consistent with the stress tests that the Federal Reserve has been conducting on the largest U.S. bank holding companies since the Supervisory Capital 

Assessment Program in the spring of 2009. The stress tests allow supervisors to assess whether firms have enough capital to weather a severe economic downturn and 

contribute to the Federal Reserve’s ability to make assessments of the resilience of 

the U.S. banking system under adverse economic scenarios. The stress tests are an 

integral part of our capital plan requirement, which provides a structured way to 

make horizontal evaluations of the capital planning abilities of large banking firms. 

The Federal Reserve also issued in December of last year a proposal to implement 

enhanced prudential standards and early remediation requirements for foreign 

banks under sections 165 and 166 of the Dodd-Frank Act. The proposal is generally 

consistent with the set of standards previously proposed for large U.S. bank holding 

companies. The proposal generally would require foreign banks with a large U.S. 

presence to organize their U.S. subsidiaries under a single intermediate holding 

company that would serve as a platform for consistent supervision and regulation. 

The U.S. intermediate holding companies of foreign banks would be subject to the 

same risk-based capital and leverage requirements as U.S. bank holding companies. 

In addition, U.S. intermediate holding companies and the U.S. branches and agencies of foreign banks with a large U.S. presence would be required to meet liquidity 

requirements similar to those applicable to large U.S. bank holding companies. The 

proposals respond to fundamental changes in the scope and scale of foreign bank 

activities in the United States in the last 15 years. They would increase the resiliency and resolvability of the U.S. operations of foreign banks, help protect U.S. financial stability, and promote competitive equity for all large banking firms operating in the United States. The comment period for this proposal closes at the end 

of March. 

Priorities for 2013 

The Federal Reserve’s supervisory and regulatory program in 2013 will concentrate on four tasks: (1) continuing key Dodd-Frank Act and Basel III regulatory 

implementation work; (2) further developing systematic supervision of large banking 

firms; (3) improving the resolvability of large banking firms; and (4) reducing systemic risk in the shadow banking system. 

Carrying Forward the Key Dodd-Frank Act and Basel III Regulatory Implementation 

Work 

Capital, Liquidity, and Other Prudential Requirements for Large Banking Firms. 

Given the centrality of strong capital standards, a top priority this year will be to 

update the bank regulatory capital framework with a final rule implementing Basel 

III and the updated rules for standardized risk-weighted capital requirements. The 

banking agencies have received more than 2,000 comments on the Basel III capital 

proposal. Many of the comments have been directed at certain features of the proposed rule considered especially troubling by community and smaller regional 

banks, such as the new standardized risk weights for mortgages and the treatment 

of unrealized gains and losses on certain debt securities. These criticisms underscore 

the difficulty in fashioning standardized requirements applicable to all banks that 

balance risk sensitivity with the need to avoid excessive complexity. Here, though, 

I think there is a widespread view that the proposed rule erred on the side of too 

much complexity. The three banking agencies are carefully considering these and 

all comments received on the proposal and hope to finalize the rulemaking this 

spring. 

The Federal Reserve also intends to work this year toward finalization of its proposals to implement the enhanced prudential standards and early remediation reVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00046 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
43 

quirements for large banking firms under sections 165 and 166 of the Dodd-Frank 

Act. As part of this process, we intend to conduct shortly a quantitative impact 

study of the single-counterparty credit limits element of the proposal. Once finalized, these comprehensive standards will represent a core part of the new regulatory 

framework that mitigates risks posed by systemically important financial firms and 

offsets any benefits that these firms may gain from being perceived as ‘‘too big to 

fail.’’ 

We also anticipate issuing notices of some important proposed rulemakings this 

year. The Federal Reserve will be working to propose a risk-based capital surcharge 

applicable to systemically important banking firms. This rulemaking will implement 

for U.S. firms the approach to a systemic surcharge developed by the Basel Committee, which varies in magnitude based on the measure of each firm’s systemic 

footprint. Following the passage of the Dodd-Frank Act, which called for enhanced 

capital standards for systemically important firms, the Federal Reserve joined with 

some other key regulators from around the world in successfully urging the Basel 

Committee to adopt a requirement of this sort for all firms of global systemic importance. 

Another proposed rulemaking will cover implementation by the three Federal 

banking agencies of the recently completed Basel III quantitative liquidity requirements for large global banks. The financial crisis exposed defects in the liquidity 

risk management of large financial firms, especially those which relied heavily on 

short-term wholesale funding. These new requirements include the liquidity coverage ratio (LCR), which is designed to ensure that a firm has a sufficient amount 

of high quality liquid assets to withstand a severe standardized liquidity shock over 

a 30-day period. The Federal Reserve expects that the U.S. banking agencies will 

issue a proposal in 2013 to implement the LCR for large U.S. banking firms. The 

Basel III liquidity standards should materially improve the liquidity risk profiles of 

internationally active banks and will serve as a key element of the enhanced liquidity standards required under the Dodd-Frank Act. 

Volcker Rule, Swaps Push-out, and Risk Retention. Section 619 of the Dodd-Frank 

Act, known as the ‘‘Volcker Rule,’’ generally prohibits a banking entity from engaging in proprietary trading or acquiring an ownership interest in, sponsoring, or having certain relationships with a hedge fund or private equity fund. In October 2011, 

the Federal banking agencies and the Securities and Exchange Commission sought 

public comment on a proposal to implement the Volcker Rule. The Commodity Futures Trading Commission subsequently issued a substantially similar proposal. The 

rulemaking agencies have spent the past year carefully analyzing the nearly 19,000 

public comments on the proposal and have made significant progress in crafting a 

final rule that is faithful to the language of the statute and maximizes bank safety 

and soundness and financial stability at the least cost to the liquidity of the financial markets, credit availability, and economic growth. 

Section 716 of the Dodd-Frank Act generally prohibits the provision of Federal assistance, such as FDIC deposit insurance or Federal Reserve discount window credit, to swap dealers and major swap participants. The Federal Reserve is currently 

working with the OCC and the FDIC to develop a proposed rule that would provide 

clarity on how and when the section 716 requirements would apply to U.S. insured 

depository institutions and their affiliates and to U.S. branches of foreign banks. We 

expect to issue guidance on the implementation of section 716 before the July 21, 

2013, effective date of the provision. 

To implement the risk retention requirements in section 941 of the Dodd-Frank 

Act, the Federal Reserve, along with other Federal regulatory agencies, issued in 

March 2011 a proposal that generally would force securitization sponsors to retain 

at least 5 percent of the credit risk of the assets underlying a securitization. The 

agencies have reviewed the substantial volume of comments on the proposal and the 

definition of a qualified mortgage in the recent final ‘‘ability-to-pay’’ rule of the Consumer Financial Protection Bureau (CFPB). As you know, the CFPB’s definition of 

qualified mortgage serves as the floor for the definition of exempt qualified residential mortgages in the risk retention framework. The agencies are working closely together to determine next steps in the risk retention rulemaking process, with a view 

toward crafting a definition of a qualified residential mortgage that is consistent 

with the language and purposes of the statute and helps ensure a resilient market 

for private-label mortgage-backed securities. 

Improving Systematic Supervision of Large Banking Firms 

Given the risks to financial stability exposed by the financial crisis, the Federal 

Reserve has reoriented its supervisory focus to look more broadly at systemic risks 

and has strengthened its microprudential supervision of large, complex banking 

firms. Within the Federal Reserve, the Large Institution Supervision Coordinating 

44 

1For more information, see, www.federalreserve.gov/bankinforeg/ccar.htm. 

Committee (LISCC) was set up to centralize the supervision of large banking firms 

and to facilitate the execution of horizontal, cross-firm analysis of such firms on a 

consistent basis. The LISCC includes senior staff from various divisions of the Board 

and from the Reserve Banks. It fosters interdisciplinary coordination, using quantitative methods to evaluate each firm individually, relative to other large firms, 

and as part of the financial system as a whole. 

One major supervisory exercise conducted by the LISCC each year is a Comprehensive Capital Analysis and Review (CCAR) of the largest U.S. banking firms. 1

Building on supervisory work coming out of the crisis, CCAR was established to ensure that each of the largest U.S. bank holding companies (1) has rigorous, forwardlooking capital planning processes that effectively account for the unique risks of the 

firm and (2) maintains sufficient capital to continue operations throughout times of 

economic and financial stress. CCAR, which uses the annual stress test as a key 

input, enables the Federal Reserve to make a coordinated, horizontal assessment of 

the resilience and capital planning abilities of the largest banking firms and, in 

doing so, creates closer linkage between microprudential and macroprudential supervision. Large bank supervision at the Federal Reserve will include more of these 

systematic, horizontal exercises. 

Improving the Resolvability of Large Banking Firms 

One important goal of postcrisis financial reform has been to counter too-big-tofail perceptions by reducing the anticipated damage to the financial system and 

economy from the failure of a major financial firm. To this end, the Dodd-Frank Act 

created the Orderly Liquidation Authority (OLA), a mechanism designed to improve 

the prospects for an orderly resolution of a systemic financial firm, and required all 

large bank holding companies to develop, and submit to supervisors, resolution 

plans. Certain other countries that are home to large, globally active banking firms 

are working along roughly parallel lines. The Basel Committee and the Financial 

Stability Board have devoted considerable attention to the orderly resolution objective by developing new standards for statutory resolution frameworks, firm-specific 

resolution planning, and cross-border cooperation. Although much work remains to 

be done by all countries, the Dodd-Frank Act reforms have generally put the United 

States ahead of its global peers on the resolution front. 

Since the passage of the Dodd-Frank Act, the FDIC has been developing a singlepoint-of-entry strategy for resolving systemic financial firms under the OLA. As explained by the FDIC, this strategy is intended to effect a creditor-funded holding 

company recapitalization of the failed financial firm, in which the critical operations 

of the firm continue, but shareholders and unsecured creditors absorb the losses, 

culpable management is removed, and taxpayers are protected. Key to the ability 

of the FDIC to execute this approach is the availability of sufficient amounts of unsecured long-term debt to supplement equity in providing loss absorption in a failed 

firm. In consultation with the FDIC, the Federal Reserve is considering the merits 

of a regulatory requirement that the largest, most complex U.S. banking firms 

maintain a minimum amount of long-term unsecured debt. A minimum long-term 

debt requirement could lend greater confidence that the combination of equity owners and long-term debt holders would be sufficient to bear all losses at the consolidated firm, thereby counteracting the moral hazard associated with taxpayer bailouts while avoiding disorderly failures. 

Reducing Systemic Risk in the Shadow Banking System 

Most of the reforms I have discussed are aimed at addressing systemic risk posed 

by regulated banking organizations, and all involve action the Federal Reserve can 

take under its current authorities. Important as these measures are, however, it is 

worth recalling that the trigger for the acute phase of the financial crisis was the 

rapid unwinding of large amounts of short-term funding that had been made available to firms not subject to consolidated prudential supervision. Today, although 

some of the most fragile investment vehicles and instruments that were involved in 

the precrisis shadow banking system have disappeared, nondeposit short-term funding remains significant. In some instances it involves prudentially regulated firms, 

directly or indirectly. In others it does not. The key condition of the so-called ‘‘shadow banking system’’ that makes it of systemic concern is its susceptibility to destabilizing funding runs, something that is more likely when the recipients of the 

short-term funding are highly leveraged, engage in substantial maturity transformation, or both. 

Many of the key issues related to shadow banking and their potential solutions 

are still being debated domestically and internationally. U.S. and global regulators 

45 

2For additional information, see, www.newyorkfed.org/banking/tprlinfrlreform.html. 

need to take a hard, comprehensive look at the systemic risks present in wholesale 

short-term funding markets. Analysis of the appropriate ways to address these 

vulnerabilities continues as a priority this year for the Federal Reserve. In the short 

term, though, there are several key steps that should be taken with respect to shadow banking to improve the resilience of our financial system. 

First, the regulatory and public transparency of shadow banking markets, especially securities financing transactions, should be increased. Second, additional 

measures should be taken to reduce the risk of runs on money market mutual 

funds. The Council recently proposed a set of serious reform options to address the 

structural vulnerabilities in money market mutual funds. 

Third, we should continue to push the private sector to reduce the risks in the 

settlement process for triparty repurchase agreements. Although an industry-led 

task force made some progress on these issues, the Federal Reserve concluded that 

important problems were not likely to be successfully addressed in this process and 

has been using supervisory authority over the past year to press for further and 

faster action by the clearing banks and the dealer affiliates of bank holding companies. 2 The amount of intraday credit being provided by the clearing banks in the 

triparty repo market has been reduced and is scheduled to be reduced much further 

in the coming years as a result of these efforts. But vulnerabilities in this market 

remain a concern, and addressing these vulnerabilities will require the cooperation 

of the broad array of participants in this market and their Federal regulators. The 

Federal Reserve will continue to report to Congress and publicly on progress made 

to address the risks in the triparty repo market. 

In addition to these concrete steps to address concrete problems, regulators must 

continue to closely monitor the shadow banking sector and be wary of signs that 

excessive leverage and maturity transformation are developing outside of the banking system. 

Conclusion 

The financial regulatory architecture is stronger today than it was in the years 

leading up to the crisis, but considerable work remains to complete implementation 

of the Dodd-Frank Act and the postcrisis global financial reform program. Over the 

coming year, the Federal Reserve will be working with other U.S. financial regulatory agencies, and with foreign central banks and regulators, to propose and finalize a number of ongoing initiatives. In this endeavor, our goal is to preserve financial stability at the least cost to credit availability and economic growth. We are focused on the monitoring of emerging systemic risks, reducing the probability of failure of systemic financial firms, improving the resolvability of systemic financial 

firms, and building up buffers throughout the financial system to enable the system 

to absorb shocks. 

As we take this work forward, it is important to remember that preventing a financial crisis is not an end in itself. Financial crises are profoundly debilitating to 

the economic well-being of the Nation. 

Thank you for your attention. I would be pleased to answer any questions you 

might have. 

PREPARED STATEMENT OF MARTIN J. GRUENBERG 

CHAIRMAN, FEDERAL DEPOSIT INSURANCE CORPORATION

FEBRUARY 14, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, 

thank you for the opportunity to testify today on the Federal Deposit Insurance Corporation’s (FDIC) efforts to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act). 

The economic dislocations experienced in recent years, which far exceeded any 

since the 1930s, were the direct result of the financial crisis of 2007–08. The reforms 

enacted by Congress in the Dodd-Frank Act were aimed at addressing the causes 

of the crisis. The reforms included changes to the FDIC’s deposit insurance program, 

a series of measures to curb excessive risk-taking at large, complex banks and 

nonbank financial companies and a mechanism for orderly resolution of large, 

nonbank financial companies. 

The regulatory changes mandated by the Dodd-Frank Act require careful implementation to ensure they address the risks posed by the largest, most complex institutions while being sensitive to the impact on community banks that did not conVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00049 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
46 

tribute significantly to the crisis. As implementation moves forward, the FDIC has 

been engaged as well in an extensive effort to better understand the forces driving 

long-term change among U.S. community banks and to solicit input from community 

bankers on these trends and on the regulatory process. 

My testimony will address the impact of the Dodd-Frank Act on the restoration 

of the Deposit Insurance Fund (DIF), our efforts to carry out the requirement of the 

Act to develop the ability to resolve large, systemic financial institutions, and our 

progress on some of the key rulemakings. In addition, I will briefly discuss the results of our recent community banking initiative. 

Condition of the FDIC Deposit Insurance Fund (DIF) 

Restoring the DIF 

The Dodd-Frank Act raised the minimum reserve ratio for the DIF from 1.15 percent of estimated insured deposits to 1.35 percent, and required that the reserve 

ratio reach 1.35 percent by September 30, 2020. The FDIC is currently operating 

under a DIF Restoration Plan that is designed to meet this deadline, and the DIF 

reserve ratio is recovering at a pace that remains on track under the Plan. As of 

September 30, 2012, the DIF reserve ratio stood at 0.35 percent of estimated insured deposits, up from 0.12 percent a year earlier. The fund balance has grown for 

11 consecutive quarters, increasing to $25.2 billion at the end of the third quarter 

of 2012. Assessment revenue, fewer anticipated bank failures, and the transfer of 

fees previously set aside for the Temporary Liquidity Guarantee Program (TLGP) 

have helped to increase the fund balance. 

Expiration of the Transaction Account Guarantee (TAG) Program 

The Dodd-Frank Act provided temporary unlimited deposit insurance coverage for 

non- interest-bearing transaction accounts from December 31, 2010, through December 31, 2012. This unlimited coverage was available to all depositors, including consumers, businesses, and Government entities, as long as the accounts were truly 

non- interest bearing. As the TAG came to a conclusion, the FDIC worked closely 

with banks to ensure that they would continue to be able to meet their funding and 

liquidity needs after expiration of the program. Thus far, the transition away from 

this emergency program has proceeded smoothly. 

Expiration of the Debt Guarantee Program 

Although not established by the Dodd-Frank Act, another program created in response to the crisis, the Debt Guarantee Program (DGP), was established under 

emergency authority to provide an FDIC guarantee of certain newly issued senior 

unsecured debt. The program enabled financial institutions to meet their financing 

needs during a period of record high credit spreads and aided the successful return 

of the credit markets to near normalcy, despite the recession and slow economic recovery. By providing the ability to issue debt guaranteed by the FDIC, the DGP allowed institutions to extend maturities and obtain more stable unsecured funding. 

As with the Dodd-Frank TAG program, the DGP came to a close at the end of 

2012. One hundred twenty-two banks and other financial companies participated in 

the DGP, and the volume of guaranteed debt peaked in early 2009 at $345.8 billion. 

The FDIC collected $10.4 billion in fees and surcharges under the program. Ultimately, over $9.3 billion in fees collected under the DGP have been transferred to 

assist in the restoration of the DIF to its statutorily mandated reserve ratio of 1.35 

percent of insured deposits. 

Implementation of Title I ‘‘Living Wills’’ 

In 2011, the FDIC and the Federal Reserve Board (FRB) jointly issued the basic 

rulemaking regarding resolution plans that systemically important financial institutions (SIFIs) are required to prepare—the so-called ‘‘living wills.’’ The rule requires 

bank holding companies with total consolidated assets of $50 billion or more, and 

certain nonbank financial companies that the Financial Stability Oversight Council 

(FSOC) designates as systemic, to develop, maintain and periodically submit to the 

FDIC and the FRB resolution plans that are credible and that would enable these 

entities to be resolved under the Bankruptcy Code. Complementing this joint rulemaking, the FDIC also issued a rule requiring any FDIC-insured depository institution with assets over $50 billion to develop, maintain and periodically submit plans 

outlining how the FDIC could resolve the institution using the traditional resolution 

powers under the Federal Deposit Insurance Act. 

The two resolution plan rulemakings are designed to work in tandem by covering 

the full range of business lines, legal entities and capital-structure combinations 

within a large financial firm. The rulemakings establish a schedule for staggered 

annual filings. On July 1, 2012, the first group of living wills, generally involving 

47 

1 Reported foreign activities encompass sum of assets, the notional value of off-balance-sheet 

derivatives, and other off-balance-sheet items of foreign subsidiaries and branches. 2 ‘‘Resolving Globally Active, Systemically Important, Financial Institutions’’, http:// 

www.fdic.gov/about/srac/2012/gsifi.pdf. 

bank holding companies and foreign banking organizations with $250 billion or 

more in nonbank assets, was received. Banking organizations with less than $250 

billion, but $100 billion or more, in assets will file by July 1 of this year, and all 

other banking organizations with assets over $50 billion will file by December 31. 

The Dodd-Frank Act requires that at the end of this process these plans be credible and facilitate an orderly resolution of these firms under the Bankruptcy Code. 

In 2013, the 11 firms that submitted initial plans in 2012 will be expected to refine 

and clarify their submissions. The agencies expect the refined plans to focus on key 

issues and obstacles to an orderly resolution in bankruptcy including global cooperation and the risk of ring-fencing or other precipitous actions. To assess this potential 

risk, the firms will need to provide detailed, jurisdiction-by-jurisdiction analyses of 

the actions each would need to take in a resolution, as well as the discretionary actions or forbearances required to be taken by host authorities. Other key issues include the continuity of critical operations, particularly maintaining access to shared 

services and payment and clearing systems, the potential systemic consequences of 

counterparty actions, and global liquidity and funding with an emphasis on providing a detailed understanding of the firm’s funding operations and flows. 

Implementation of Title II Orderly Liquidation Authority 

Coordination With Foreign Resolution Authorities 

The FDIC has largely completed the rulemaking necessary to carry out its systemic resolution responsibilities under Title II of the Dodd-Frank Act. In July 2011, 

the FDIC Board approved a final rule implementing the Title II Orderly Liquidation 

Authority. This rulemaking addressed, among other things, the priority of claims 

and the treatment of similarly situated creditors. 

The experience of the financial crisis highlighted the importance of coordinating 

resolution strategies across national jurisdictions. Section 210 of the Dodd-Frank 

Act expressly requires the FDIC to ‘‘coordinate, to the maximum extent possible’’ 

with appropriate foreign regulatory authorities in the event of the resolution of a 

covered financial company with cross-border operations. As we plan internally for 

such a resolution, the FDIC has continued to work on both multilateral and bilateral bases with our foreign counterparts in supervision and resolution. The aim is 

to promote cross-border cooperation and coordination associated with planning for 

an orderly resolution of a globally active, systemically important financial institution (G–SIFIs). 

As part of our bilateral efforts, the FDIC and the Bank of England, in conjunction 

with the prudential regulators in our jurisdictions, have been working to develop 

contingency plans for the failure of G–SIFIs that have operations in both the U.S. 

and the U.K. Of the 28 G–SIFIs designated by the Financial Stability Board of the 

G20 countries, 4 are headquartered in the U.K., and another 8 are headquartered 

in the U.S. Moreover, around two-thirds of the reported foreign activities of the 8 

U.S. SIFIs emanates from the U.K. 1 The magnitude of these financial relationships 

makes the U.S.–U.K. bilateral relationship by far the most important with regard 

to global financial stability. As a result, our two countries have a strong mutual interest in ensuring that, if such an institution should fail, it can be resolved at no 

cost to taxpayers and without placing the financial system at risk. An indication of 

the close working relationship between the FDIC and U.K. authorities is the joint 

paper on resolution strategies that we released in December. 2

In addition to the close working relationship with the U.K., the FDIC and the European Commission (E.C.) have agreed to establish a joint Working Group comprised of senior staff to discuss resolution and deposit guarantee issues common to 

our respective jurisdictions. The Working Group will convene twice a year, once in 

Washington, once in Brussels, with less formal communications continuing in between. The first of these meetings will take place later this month. We expect that 

these meetings will enhance close coordination on resolution related matters between the FDIC and the E.C., as well as European Union Member States. 

While there is clearly much more work to be done in coordinating SIFI resolution 

strategies across major jurisdictions, these developments mark significant progress 

in fulfilling the mandate of section 210 of the Dodd-Frank Act and achieving the 

type of international coordination that would be needed to effectively resolve a G– 

SIFI in some future crisis situation. 

48 

3The other agencies are: the FRB, the Consumer Financial Protection Bureau, the Federal 

Housing Finance Agency, the National Credit Union Administration, and the OCC. 

Stress Testing Final Rule 

Section 165(i) of the Dodd Frank Act requires the FRB to conduct annual stress 

tests of Bank Holding Companies with assets of $50 billion or more and nonbank 

SIFIs designated by FSOC for FRB supervision. This section of the Act also requires 

financial institutions with assets greater than $10 billion, including insured depository institutions, to conduct company run stress tests in accordance with regulations 

developed by their primary Federal regulator. The FDIC views the stress tests as 

an important source of forward-looking analysis of institutions’ risk exposures that 

will enhance the supervisory process for these institutions. We also have clarified 

that these requirements apply only to institutions with assets greater than $10 billion, and not to smaller institutions. 

The FDIC issued a proposed rule to implement the requirements of section 165(i) 

in January 2012, and a final rule in October 2012. The rule, which is substantially 

similar to rules issued by the Office of the Comptroller of the Currency (OCC) and 

the FRB, tailors the timelines and requirements of the stress testing process to the 

size of the institutions, as requested by commenters on the proposed rule. 

The agencies are closely coordinating their efforts in the promulgation of scenarios 

and the review of stress testing results. The first round of stress tests, for certain 

insured institutions and Bank Holding Companies with assets of $50 billion or 

more, is underway. Institutions were asked to develop financial projections under 

defined stress scenarios provided by the agencies in November 2012, based on their 

September 30, 2012, financial data. Institutions with assets greater than $10 billion, 

but less than $50 billion, and larger institutions that have not had previous experience with stress testing, will conduct their first round of stress tests this fall. 

Other Dodd-Frank Act Rulemakings 

The Volcker Rule 

The Dodd-Frank Act requires the Securities and Exchange Commission (SEC), the 

Commodities Futures Trading Commission (CFTC), and the Federal banking agencies to adopt regulations generally prohibiting proprietary trading and certain acquisitions of interest in hedge funds or private equity funds. The FDIC, jointly with 

the FRB, OCC, and SEC, published a notice of proposed rulemaking (NPR) requesting public comment on a proposed regulation implementing the prohibition against 

proprietary trading. The CFTC separately approved the issuance of its NPR to implement the Volcker Rule, with a substantially identical proposed rule text. 

The proposed rule also requires banking entities with significant covered trading 

activities to furnish periodic reports with quantitative measurements designed to 

help differentiate permitted market-making-related activities from prohibited proprietary trading. Under the proposed rule, these requirements contain important exclusions for banking organizations with trading assets and liabilities less than $1 

billion, and reduced reporting requirements for organizations with trading assets 

and liabilities of less than $5 billion. These thresholds are designed to reduce the 

burden on smaller, less complex banking entities, which generally engage in limited 

market-making and other trading activities. 

The agencies are evaluating a large body of comments on whether the proposed 

rule represents a balanced and effective approach or whether alternative approaches 

exist that would provide greater benefits or implement the statutory requirements 

with fewer costs. The FDIC is committed to developing a final rule that meets the 

objectives of the statute while preserving the ability of banking entities to perform 

important underwriting and market-making functions, including the ability to effectively carry out these functions in less-liquid markets. Most community banks do 

not engage in trading activities that would be subject to the proposed rule. 

Appraisal-Related Provisions 

The final rule regarding appraisals for higher-risk mortgages, which implements 

section 1471 of the Dodd-Frank Act, was adopted by the FDIC and five other agencies earlier this year. 3 The final rule, which will become effective on January 18, 

2014, requires creditors making higher-risk mortgages to use a licensed or certified 

appraiser who prepares a written appraisal report based on a physical visit of the 

interior of the property. The rule also requires creditors to disclose to applicants information about the purpose of the appraisal and provide consumers with a free 

copy of any appraisal report. Finally, if the seller acquired the property for a lower 

price during the prior 6 months and the price difference exceeds certain thresholds, 

creditors will have to obtain a second appraisal at no cost to the consumer. This 

49 

4The rule was proposed by the FRB, the OCC, the FDIC, the SEC, the Federal Housing Finance Agency, and the Department of Housing and Urban Development. 5The 3,238 U.S. counties in 2010 included 694 micropolitan counties centered on an urban 

core with population between 10,000 and 50,000 people, and 1,376 rural counties with populations less than 10,000 people. 

requirement is intended to address fraudulent property flipping by seeking to ensure that the value of the property legitimately increased. Certain types of loans are 

exempted from the rule, such as qualified mortgages, and there are limited exemptions from the second appraisal requirement. By ensuring that homes secured by 

higher-risk mortgages are appraised at their true market value by a qualified appraiser, the rule will benefit both lenders and consumers. 

The agencies also are developing notices of proposed rulemaking to address other 

appraisal-related provisions of the Dodd-Frank Act. These provisions include registration and operating requirements for appraisal management companies and 

quality controls for automated valuation models. We look forward to considering the 

public comments we receive on these proposals. 

Rulemaking on Risk Retention in Mortgage Securitization 

Six agencies, 4 including the FDIC, previously issued a joint notice of proposed 

rulemaking seeking comment on a proposal to implement section 941 of the DoddFrank Act. The proposed rule would require sponsors of asset-backed securities to 

retain at least 5 percent of the credit risk of the assets underlying the securities 

and not permit sponsors to transfer or hedge that credit risk. The proposed rule 

would provide sponsors with various options for meeting the risk-retention requirements. It also provides, as required by section 941, proposed standards for a Qualified Residential Mortgage (QRM) which, if met, would result in exemption from the 

risk retention requirement. 

The interagency staff group addressing the credit risk retention rule under section 

941 of DFA has been working to address the numerous issues raised by the many 

comments received on the proposed rule. After initial discussions about QRM, in 

view of the fact that the statute provides that the definition of QRM can be no 

broader than the definition of QM, staff turned its attention to the non-QRM issues 

pending issuance by the Consumer Financial Protection Bureau (CFPB) of its QM 

rule. With the recent issuance of the QM rule by the CFPB, the interagency group 

plans to turn its attention back to issues regarding QRM. 

Community Banking Initiatives 

In light of concerns raised about the future of community banking in the aftermath of the financial crisis, as well as the potential impact of the various 

rulemakings under the Dodd-Frank Act, the FDIC engaged in a series of initiatives 

during 2012 focusing on the challenges and opportunities facing community banks 

in the United States. 

FDIC Community Banking Study 

In December 2012, the FDIC released the FDIC Community Banking Study, a 

comprehensive review of the U.S. community banking sector covering 27 years of 

data. The study set out to explore some of the important trends that have shaped 

the operating environment for community banks over this period, including: longterm industry consolidation; the geographic footprint of community banks; their 

comparative financial performance overall and by lending specialty group; efficiency 

and economies of scale; and access to capital. This research was based on a new definition of community bank that goes beyond size, and also accounts for the types 

of lending and deposit gathering activities and limited geographic scope that are 

characteristic of community banks. 

Our research confirms the crucial role that community banks play in the American financial system. As defined by the Study, community banks represented 95 

percent of all U.S. banking organizations in 2011. These institutions account for just 

14 percent of the U.S. banking assets in our Nation, but hold 46 percent of all the 

small loans to businesses and farms made by FDIC-insured institutions. While their 

share of total deposits has declined over time, community banks still hold the majority of bank deposits in rural and micropolitan counties. 5 The Study showed that in 

629 U.S. counties (or almost one-fifth of all U.S. counties), the only banking offices 

operated by FDIC-insured institutions at year-end 2011 were those operated by community banks. Without community banks, many rural areas, small towns, and even 

certain urban neighborhoods, would have little or no physical access to mainstream 

banking services. 

Our Study took an in-depth look at the long-term trend of banking industry consolidation that has reduced the number of federally insured banks and thrifts from 

50 

17,901 in 1984 to 7,357 in 2011. All of this net consolidation can be accounted for 

by an even larger decline in the number of institutions with assets less than $100 

million. But a closer look casts significant doubt on the notion that future consolidation will continue at this same pace, or that the community banking model is in 

any way obsolete. 

More than 2,500 institutions have failed since 1984, with the vast majority failing 

in the crisis periods of the 1980s and early 1990s and the period since 2007. To the 

extent that future crises can be avoided or mitigated, bank failures should contribute much less to future consolidation. In addition, about one third of the consolidation that has taken place since 1984 is the result of charter consolidation within 

bank holding companies, while just under half is the result of voluntary mergers. 

But both of these trends were greatly facilitated by the gradual relaxation of restrictions on intrastate branching at the State level in the 1980s and early 1990s, as 

well as the interstate branching that came about following enactment of the RiegleNeal Interstate Banking and Branching Efficiency Act of 1994. The pace of voluntary consolidation has indeed slowed over the past 15 years as the effects of these 

one-time changes were realized. Finally, the Study questions whether the rapid 

precrisis growth of some of the Nation’s largest banks, which came about largely 

due to mergers and acquisitions and a focus on retail lending, can continue at the 

same pace going forward. Some of the precrisis cost savings realized by large banks 

have proven to be unsustainable in the postcrisis period, and a return to precrisis 

rates of growth in consumer and mortgage lending appears, for now anyway, to be 

a questionable assumption. 

The Study finds that community banks that grew slowly and maintained diversified portfolios or otherwise stuck to their core lending competencies during the study 

period exhibited relatively strong and stable performance over time. Other institutions that pursued higher-growth strategies—frequently through commercial real estate or construction and development lending—encountered severe problems during 

real estate downturns and generally underperformed over the long run. Moreover, 

the Study finds that economies of scale play a limited role in the viability of community banks. While average costs are found to be higher for very small community 

banks, economies of scale are largely realized by the time an institution reaches 

$100 million in size, and there is no indication of any significant cost savings beyond 

$500 million in size. These results comport well with the experience of banking industry consolidation since 1984, in which the number of bank and thrift charters 

with assets less than $25 million has declined by 96 percent, while the number of 

charters with assets between $100 million and $10 billion has grown by 19 percent. 

In summary, the FDIC Study finds that despite the challenges of the current operating environment, the community banking sector remains a viable and vital component of the overall U.S. financial system. It identifies a number of issues for future research, including the role of commercial real estate lending at community 

banks, their use of new technologies, and how additional information might be obtained on regulatory compliance costs. 

Examination and Rulemaking Review 

The FDIC also reviewed examination, rulemaking, and guidance processes during 

2012 with a goal of identifying ways to make the supervisory process more efficient, 

consistent, and transparent—especially with regard to community banks—consistent 

with safe and sound banking practices. This review was informed by a series of nationwide roundtable discussions with community bankers, and with the FDIC’s Advisory Committee on Community Banking. 

Based on concerns raised, the FDIC has implemented a number of enhancements 

to our supervisory and rulemaking processes. First, the FDIC has revamped the 

preexam process to better scope examinations, define expectations and improve efficiency. Second, the FDIC is taking steps to improve communication by using Webbased tools to provide critical information regarding new or changing rules and regulations as well as comment deadlines. Finally, the FDIC has instituted a number 

of outreach and technical assistance efforts, including increased direct communication between examinations, increased opportunities for attendance at training workshops and symposiums, and current and planned conference calls and training videos on complex subjects of interest. The FDIC considers its review of examination 

and rulemaking processes ongoing, and additional enhancements and modifications 

to our processes will likely continue. 

Conclusion 

Successful implementation of the various provisions of the Dodd-Frank Act will 

provide a foundation for a financial system that is more stable and less susceptible 

to crises, and a regulatory system that is better able to respond to future crises. SigVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00054 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
51 

* Statement Required by 12 U.S.C. §250: The views expressed herein are those of the Office 

of the Comptroller of the Currency and do not necessarily represent the views of the President. 1Performance and financial data are based on September 30, 2012, Call Report information. 

nificant progress has been made in implementing these reforms. The FDIC has completed the core rulemakings for carrying out its lead responsibilities under the Act 

regarding deposit insurance and systemic resolution. As we move forward in completing this process, we will continue to rely on constructive input from the regulatory comment process and our other outreach initiatives. 

PREPARED STATEMENT OF THOMAS J. CURRY 

COMPTROLLER, OFFICE OF THE COMPTROLLER OF THE CURRENCY

FEBRUARY 14, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, 

thank you for the opportunity to report on the Office of the Comptroller of the Currency’s (OCC) progress in implementing the Dodd-Frank Wall Street Reform and 

Consumer Protection Act (Dodd-Frank Act or Act).* Before providing that progress 

report, however, I would like to begin with a brief review of current conditions in 

the portions of the banking industry that the OCC supervises. 

The OCC supervises more than 1,800 national banks and Federal savings associations, constituting approximately 26 percent of all federally insured banks and savings associations which, together, hold more than 69 percent of all commercial bank 

and thrift assets. These institutions range in size from over 1,600 community banks 

with assets of $1 billion or less to the Nation’s largest and most complex financial 

institutions with assets exceeding $1 trillion. I am pleased to report that the institutions we supervise have made significant strides since the financial crisis in repairing their balance sheets through stronger capital, improved liquidity, and timely 

recognition and resolution of problem loans. For national banks and Federal savings 

associations, Tier 1 common equity is at 12.5 percent of risk-weighted assets, up 

from its low of just over 9 percent in the fall of 2008. 1 The current capital leverage 

ratio is now about 9 percent, which is up almost a third from its recent low. Reliance on volatile funding sources has dropped from its fall 2006 peak of 46 percent 

of total liabilities to 24 percent today. Asset quality indicators are improving with 

charge-off rates declining for all major loan categories. Indeed, for all but residential 

mortgages, charge-off rates have now dropped below their post-1990 averages. Reflecting these positive trends, the number of problem institutions on the Federal Deposit Insurance Corporation’s (FDIC) problem bank list has dropped from 888 in 

March 2011 to 694 in September 2012. Problem national banks and Federal savings 

associations dropped from 192 in March 2011 to 165 in September 2012. There were 

146 problem national banks and Federal savings associations in January 2013. 

While these are encouraging developments, banks and thrifts continue to face significant challenges. Net interest margins are being squeezed for both large and 

small banks. This problem is especially acute for banks under $1 billion in asset 

size—a group that represents 90 percent of the institutions we supervise—whose 

margins are near their 20-year low point. Loan growth, while improved, is still only 

about one-half its historical average pace. We are monitoring these conditions closely and are stressing that, in this environment, institutions should be especially vigilant about monitoring the risks they are taking on. This is certainly not the time 

to let up on risk management. 

We are also mindful that we cannot let the progress that has been made lessen 

our sense of urgency in addressing the weaknesses and flaws the crisis revealed in 

our financial system. The global financial crisis was unprecedented in severity and 

duration, and the depth of the associated recession was the most severe we have 

experienced in the U.S. since the Great Depression of the 1930s. These financial and 

economic developments led to a reconsideration of the ways financial markets and 

financial firms operate and gave impetus to efforts to reform the financial system 

and its oversight. The Dodd-Frank Act addresses major gaps and flaws in the regulatory landscape, tackles systemic issues that contributed to, or accentuated and 

amplified, the effects of the recent financial crisis, and built a stronger financial system. The Act requires the Federal regulators to put in place new buffers and safeguards to protect against future financial crises and to revise and rewrite many of 

the rules governing the most complex areas of finance. Additionally, it consolidates 

authority that had been spread among multiple agencies, and it provides the Federal regulators a number of new tools that should help us avoid problems in the 

future. 

52 

2The Federal banking agencies’ June 2012 proposed capital rulemakings include provisions 

to remove references to credit ratings from the agencies’ capital regulations. 

The OCC is committed to fully implementing those provisions where we have sole 

rule-writing authority as expeditiously as possible, and to working cooperatively 

with our regulatory colleagues on those rules and provisions that require coordinated or joint action. As I testified before this Committee in June, I am keenly 

aware of the critical role that community banks play in providing consumers and 

small businesses in communities across the Nation with essential financial services 

and access to credit. As we move forward with Dodd-Frank Act implementation, I 

have directed my staff to look for ways to minimize potential burden on community 

institutions, and to organize and explain our rulemaking documents to facilitate 

community bankers’ understanding of how the rules affect their institutions. 

In response to the Committee’s letter of invitation, my testimony will focus on the 

OCC’s overall implementation of the Dodd-Frank Act by providing an update on key 

provisions of the Act where the OCC has direct rulemaking or other implementation 

responsibilities. 

OCC/OTS Integration 

General 

One of the most significant of the OCC’s milestones in implementing the DoddFrank Act has been the successful integration of former Office of Thrift Supervision 

(OTS) employees and the supervision of Federal savings associations into the OCC. 

The commitment of all involved resulted in a smooth transition, reflecting a merger 

of experience with a strong vision for the future. This combination was helped by 

the close relationship forged over the years through our work on common problems 

and issues. In this spirit of continuity, the OCC has renewed the charters of two 

advisory committees that the OTS established. I recently attended the first meeting 

of the Mutual Savings Associations Advisory Committee, where participants engaged in a robust discussion about the challenges that mutual savings associations 

confront. At next month’s Minority Depository Institutions Advisory Committee 

meeting, I look forward to a productive exchange about the issues that minorityowned depository institutions are facing. 

Integration of Regulations 

As we have reported previously to the Committee, the OCC also is engaged in a 

comprehensive effort to integrate the rules applicable to Federal savings associations with those that apply to national banks. Our objectives are, first, to develop 

a single rulebook applicable to both national banks and Federal savings associations 

(except where statutory differences between the two charter types require otherwise); and, second, for both charter types, to identify and eliminate regulatory requirements that are unnecessarily burdensome. 

As I have noted before, while we believe a single set of rules will benefit both national banks and Federal savings associations, we recognize that change can create 

uncertainty. We are aiming to begin proposing these integrated rules over the 

course of this year. As part of our proposals, we will be seeking comments on ways 

that we can make our rules easier to implement and reduce burden, and I look forward to receiving comments from interested parties on this important issue. 

Completed Rulemakings 

Final Rule To Revise OCC Regulations To Remove References to Credit Ratings 

On June 13, 2012, the OCC published in the Federal Register a final rule to implement section 939A of the Dodd-Frank Act by removing references to credit ratings from the OCC’s noncapital regulations, including the OCC’s investment securities regulation, which sets forth the types of investment securities that national 

banks and Federal savings associations may purchase, sell, deal in, underwrite, and 

hold. 2 These revisions became effective on January 1, 2013. 

Under prior OCC rules, permissible investment securities generally included 

Treasury securities, agency securities, municipal bonds, and other securities rated 

‘‘investment grade’’ by nationally recognized statistical rating organizations such as 

Moody’s, S&P, or Fitch Ratings. The OCC’s final rule revised the definition of ‘‘investment grade’’ to remove the reference to credit ratings and replaced it with a new 

nonratings based creditworthiness standard. To determine that a security is ‘‘investment grade’’ under the new standard, a bank must perform due diligence necessary 

to establish: (1) that the risk of default by the obligor is low; and (2) that full and 

timely repayment of principal and interest is expected. Generally, securities with 

good to very strong credit quality will meet this standard. 

53 

In comments on the proposed rule, banks and industry groups expressed concern 

about the amount of due diligence the OCC will require a bank to conduct to determine whether the issuer of a security has an adequate capacity to meet financial 

commitments under the security. The OCC believes that the due diligence required 

to meet the new standard is consistent with our prior due diligence requirements 

and guidance. Under the prior ratings-based standards, national banks and Federal 

savings associations of all sizes should not have relied solely on credit ratings to 

evaluate the credit risk of a security, and were advised to supplement any use of 

credit ratings with additional diligence to independently assess the credit risk of a 

particular security. Nevertheless, the OCC recognized that some national banks and 

Federal savings associations needed time to make the adjustments necessary to 

make ‘‘investment grade’’ determinations under the new standard. Therefore, the 

OCC allowed institutions nearly 6 months to come into compliance with the final 

rule. 

To aid this adjustment process, the OCC also published guidance to assist banks 

in interpreting the new standard and to clarify the steps banks can take to demonstrate that they meet their diligence requirements when purchasing investment 

securities and conducting ongoing reviews of their investment portfolios. 

Final Rule on Dodd-Frank Stress Tests 

On October 9, 2012, the OCC published a final rule that implements section 

165(i)(2) of the Dodd-Frank Act and requires certain companies to conduct annual 

stress tests pursuant to regulations prescribed by their respective primary financial 

regulator. Specifically, this rule requires national banks and Federal savings associations with total consolidated assets over $10 billion (covered institutions) to conduct an annual stress test as prescribed by the rule. 

Consistent with the requirements of section 165(i)(2), the final rule defines ‘‘stress 

test,’’ establishes methods for the conduct of the company-run stress test that must 

include at least three different scenarios (baseline, adverse, and severely adverse), 

establishes the form and content of reporting, and compels the covered institutions 

to publish a summary of the results of the stress tests. Commenters on the proposal 

expressed concern that developing robust procedures for stress testing might require 

more time at some banks, particularly those that had not participated in the Supervisory Capital Assessment Program or Comprehensive Capital Analysis and Review 

program. Therefore, the final rule provided that covered institutions with assets 

over $50 billion were required to start stress testing under the rule in 2012, while 

covered institutions with assets from $10 to $50 billion are not required to start 

stress testing until 2013. The final rules of the Board of Governors of the Federal 

Reserve System (FRB) and the FDIC adopted similar transition provisions. 

The requirements for these company-run stress tests are separate and distinct 

from the supervisory stress tests required under section 165(i)(1) that are conducted 

by the FRB. Nevertheless, we believe these efforts are complementary and as a result we are committed to working closely with the FRB and the FDIC in coordinating the timing of, and the scenarios for, these tests. 

The company-run stress tests under this rule began with the release of stress scenarios by the OCC and other regulators on November 15, 2012, with scenarios covering baseline, adverse, and severely adverse conditions as required under the rule. 

The rule required covered institutions with more than $50 billion in assets to report 

the results of the stress tests to the OCC and the FRB by January 5, 2013. The 

OCC is in the process of reviewing those results. Covered institutions are required 

to disclose a summary of the results in March of this year. 

Interim Final Rule on Lending Limits 

The OCC also recently completed a rulemaking to implement Dodd-Frank Act 

changes to the lending limit rules. Under the National Bank Act, the total loans and 

extensions of credit by a national bank to a person outstanding at one time may 

not exceed 15 percent of the unimpaired capital and unimpaired surplus of the bank 

if the loan is not fully secured plus an additional 10 percent of unimpaired capital 

and unimpaired surplus if the loan is fully secured. The Home Owners’ Loan Act 

applies this lending limits rule to savings associations, with some exceptions. 

Section 610 of the Dodd-Frank Act amended the definition of ‘‘loans and extensions of credit’’ to include any credit exposure to a person arising from a derivative 

transaction, or a repurchase agreement, reverse repurchase agreement, securities 

lending transaction, or securities borrowing transaction (securities financing transaction) between a national bank and that person. This new definition also applies 

to savings associations. This amendment was effective July 21, 2012. 

On June 21, 2012, the OCC issued an interim final rule and request for comments 

that amended the OCC’s lending limits regulation to implement section 610 of the 

54 

Dodd-Frank Act and to provide guidance on how to measure the fluctuating credit 

exposure of derivatives and securities financing transactions for purposes of the 

lending limit. This interim rule also consolidated the OCC’s lending limits rules applicable to national banks and savings associations. Specifically, the interim final 

rule provides national banks and savings associations with three methods for calculating the credit exposure of derivative transactions other than credit derivatives, 

and two methods for calculating such exposure for securities financing transactions. 

These methods vary in complexity and permit institutions to adopt compliance alternatives that fit their size and risk management requirements, consistent with safety 

and soundness and the goals of the statute. Providing these options is intended to 

reduce regulatory burden, particularly for smaller and midsize banks and savings 

associations. To permit institutions the time necessary to conform their operations 

to the amendments implementing section 610, the OCC has provided a temporary 

exception from the lending limit rules for extensions of credit arising from derivative 

transactions or securities financing transactions until July 1, 2013. The OCC expects to publish a final rule that amends and finalizes this interim rule in the near 

future. 

Final Rule on Appraisals for Higher Priced Mortgage Loans 

In the years leading up to the financial crisis, several consecutive periods of rapid 

increases in home prices put increasing pressure on the Nation’s infrastructure for 

determining the value of properties in connection with underwriting mortgages. The 

Dodd-Frank Act reflects congressional concern about appraiser independence, appraisal management companies, and alternative property valuation techniques, and 

adopts several reform measures on these and related topics. Section 1471 of the 

Dodd-Frank Act, in particular, focuses on property valuation in connection with socalled ‘‘higher priced mortgage loans,’’ (HPMLs) which are consumer mortgages 

made at interest rates that are typically indicative of subprime credit status of the 

borrower. 

Section 1471 amended the Truth in Lending Act to require the OCC, along with 

the other Federal banking agencies, the Bureau of Consumer Financial Protection 

(CFPB), and the Federal Housing Finance Agency (FHFA), to issue regulations implementing three main requirements for HPML home valuations. First, a creditor 

is prohibited from extending an HPML to any consumer without first obtaining a 

full written appraisal performed by a certified or licensed appraiser who conducts 

a physical property visit of the interior of the property. Second, the creditor must 

obtain an additional written appraisal from a different certified or licensed appraiser if the HPML finances the purchase or acquisition of a ‘‘flipped’’ property— 

that is, a property being bought from a seller at a higher price than the seller paid, 

within 180 days of the seller’s purchase or acquisition. The creditor may not charge 

the consumer for this additional appraisal. Third, the creditor must also provide the 

applicant with disclosures at the time of the initial mortgage application about the 

purpose of the appraisal, and must give the borrower a copy of each appraisal at 

least three days prior to the transaction closing date. 

The agencies issued a joint final rule to implement section 1471 on January 18, 

2013. Creditors have 1 year to come into compliance with the new rule’s requirements. Consistent with the statute, the final rule exempts all HPMLs that meet the 

CFPB’s definition of a ‘‘qualified mortgage’’ (QM) under the CFPB’s ‘‘ability to 

repay’’ mortgage rules. The CFPB has indicated that this QM exemption will cover 

a significant portion of the current mortgage market. The agencies also incorporated 

exemptions from the second appraisal requirement for a number of different types 

of transactions, including sales in rural areas, and sales by servicemembers who receive deployment or change of station orders. 

The agencies also included two key provisions in the final rule to provide creditors 

with clear guidance on their obligations under the statute. First, the rule provides 

a specific set of standards the creditor can apply in determining whether the appraiser has submitted an appraisal report that meets the requirements of the statute for an appraisal prepared in accordance with the Uniform Standards of Appraisal Practice and the banking agencies’ appraisal regulations pursuant to Title 

XI of the Financial Institutions Recovery, Reform, and Enforcement Act of 1989. 

Creditors applying these standards in connection with their review of each appraisal 

are afforded a safe harbor under the rule. Second, for HPMLs that are originated 

to fund the purchase of a dwelling, the rule provides numerous examples of the 

types of documents a creditor may rely upon in determining whether the seller is 

‘‘flipping’’ the property within the meaning of the statute. 

55 

Final Rule on Retail Foreign Exchange Transactions 

On July 14, 2011, the OCC published in the Federal Register its final retail foreign exchange transactions rule (Retail Forex Rule) for national banks and Federal 

branches and agencies of foreign banks. The Retail Forex Rule imposes a variety 

of consumer protections—including margin requirements, required disclosures, and 

business conduct standards—on foreign exchange options, futures, and futures-like 

transactions with retail customers (persons that are not eligible contract participants under the Commodity Exchange Act). To promote regulatory comparability, 

the OCC worked closely with the Commodity Futures Trading Commission (CFTC), 

Securities Exchange Commission (SEC), FDIC, and FRB in developing the OCC Retail Forex Rule and modeled the OCC Retail Forex Rule on the CFTC’s rule. 

After the transfer of regulatory authority from the OTS, the OCC updated its Retail Forex Rule to apply to Federal savings associations. This interim final rule with 

request for comments was published in the Federal Register on September 12, 2011. 

The OCC also proposed last October to update its Retail Forex Rule to incorporate 

the CFTC’s and SEC’s recent further definition of ‘‘eligible contract participant’’ and 

related guidance. The OCC is currently working to finalize that proposal. 

Ongoing Dodd-Frank Act Rulemakings 

The OCC also is continuing to work closely with other Federal financial agencies 

on a number of important regulations to implement provisions of the Dodd-Frank 

Act where we have joint rulemaking responsibility. I am committed to completing 

these rulemakings as quickly as possible while recognizing the need to carefully consider and address the important issues that commenters have raised with the proposals. 

Volcker Rule 

Section 619 of the Dodd-Frank Act added a new section 13 to the Bank Holding 

Company Act that contains certain prohibitions and limitations on the ability of a 

banking entity and a nonbank financial company supervised by the FRB to engage 

in proprietary trading and to have certain interests in, or relationships with, a 

hedge fund or private equity fund. The OCC, FDIC, FRB, and the SEC issued proposed rules implementing that section’s requirements on October 11, 2011. On January 3, 2012, the period for filing public comments on this proposal was extended for 

an additional 30 days, until February 13, 2012. On January 11, 2012, the CFTC 

issued a substantively similar proposed rule implementing section 619 and invited 

public comment through April 16, 2012. The agencies received more than 18,000 

comments regarding the proposed implementing rules and are carefully considering 

these comments as they work toward development of final rules. 

Commenters, including members of Congress, representatives of Federal and 

State agencies, foreign Governments, domestic and foreign banking entities and industry trade associations, public interest groups, academics and private citizens, offered a wide range of perspectives on nearly every aspect of the proposed rule. Overall, commenters urged the agencies to simplify the final rule, to reduce compliance 

burdens for entities that do not engage in significant trading or covered fund activities, and to address unintended consequences of the proposed rule. Some commenters urged the agencies to adopt a final rule that would set forth fairly prescriptive standards and narrowly construed exemptions as they believed this would minimize potential loopholes and the possibility of evasion. Other commenters urged the 

agencies to adopt a more flexible, principles-based approach in the final rule as they 

believed this would reduce burden and lessen possible unintended consequences. 

For example, an area that has drawn much attention from commenters is the proposed approach for distinguishing permissible market-making-related activities from 

prohibited proprietary trading. Commenters expressed concern that the proposed 

rule could have an adverse impact on financial markets, investors, and customers 

that rely on such markets for liquidity. Other commenters advocated that the market-making exemption should be narrowed. Commenters also highlighted issues 

with the proposed approach for implementing the prohibition on investing in and 

having certain relationships with a hedge fund and private equity funds, in particular with the manner in which the proposal defines what is a covered fund. Some 

commenters thought the proposed definition of covered fund was over-inclusive, 

while others felt it was under-inclusive. Finally, commenters addressed the international implications of the proposal, both in terms of competitiveness of U.S. banking entities and the extraterritorial impact of the proposal on activities of non-U.S. 

banking entities conducted solely outside of the United States. 

Section 619, by its terms, became effective on July 21, 2012. The FRB, in consultation with the other agencies, issued rules governing the period for conforming 

with Section 619 and in a statement issued on April 19, 2012, further clarified that 

56 

covered entities have a period of 2 years after the statutory effective date, which 

would be until July 21, 2014, to fully conform their activities to the statutory provisions and any final rules adopted, unless the period is extended by the FRB. The 

OCC, FDIC, SEC, and the CFTC confirmed that they plan to administer their oversight of banking entities under their respective jurisdiction in accordance with the 

FRB’s statement of April 19. 

The OCC, together with the other agencies, continues to work diligently in reviewing the comments submitted during the rulemaking process and toward the development of final rules consistent with the statutory language. To ensure, to the extent 

possible, that the rules implementing section 619 are comparable and provide for 

consistent application, the OCC has been regularly consulting with the other agencies and will continue to do so. 

Credit Risk Retention Rulemaking 

Securitization markets are an important source of credit to U.S. households, businesses, and State and local governments. When properly structured, securitization 

provides economic benefits that lower the cost of credit. However, when incentives 

are not properly aligned and there is a lack of discipline in the origination process, 

securitization can result in harm to investors, consumers, financial institutions, and 

the financial system. During the financial crisis, securitization displayed significant 

vulnerabilities, including informational asymmetries and incentive problems among 

various parties involved in the process. To address these concerns, section 941 of 

the Dodd-Frank Act requires the OCC, together with the other Federal banking 

agencies, as well as the Department of Housing and Urban Development, FHFA, 

and the SEC, to require sponsors of asset-backed securities to retain at least 5 percent of the credit risk of the assets they securitize. The purpose of this new regulatory regime is to correct adverse market incentive structures by giving securitizers 

direct financial disincentives against packaging loans that are underwritten poorly. 

Pursuant to this requirement, the agencies issued a joint proposed rulemaking in 

the Federal Register on April 29, 2011. The proposal includes a number of options 

by which securitization sponsors could satisfy the statute’s central requirement to 

retain at least 5 percent of the credit risk of securitized assets. This aspect of the 

proposal is designed to recognize that the securitization markets have evolved over 

time to foster liquidity in a wide diversity of different credit products, using different types of securitization structures and to avoid a ‘‘one size fits all’’ approach 

that would disrupt private securitization and restrict credit availability. 

The proposal would also establish certain exemptions from the risk retention requirement, most notably, an exemption for securitizations backed entirely by ‘‘qualified residential mortgages’’ (QRMs). Consistent with the statutory provision, the definition of QRM includes underwriting and product features that historical loan performance data indicate result in a low risk of default. The proposed QRM definition 

seeks to set out a conservative, verifiable set of underwriting standards that would 

provide clarity and confidence to mortgage originators, securitizers, and investors 

about the loans that would qualify for the exemption. The standards are also designed to simultaneously foster securitization of non-QRM loans, by leaving room for 

a liquid and competitive market of soundly underwritten non-QRM loans sufficient 

to support robust securitization activity. 

The proposal generated significant levels of comment on a number of key issues 

from loan originators, securitizers, consumers, and policy makers. These comments 

included the role of risk retention and the QRM exemption in the future of the residential mortgage market. Most commenters on the QRM criteria expressed great 

concern that the QRM criteria were too stringent, particularly the 80 percent loanto-value requirement for purchase money mortgages. Several commenters also were 

divided on the current risk retention practices of Fannie Mae and Freddie Mac, with 

some opposing the difference in treatment from private securitizers and others favoring it in recognition of the market liquidity the GSEs presently provide. We recognize this is a significant policy area and are continuing to review the issue. 

The proposed menu of risk retention alternatives also attracted significant comment. While many commenters supported the overall approach, securitizers raised 

numerous concerns about whether the particular options would accommodate established structures for risk retention in differing types of securitization transactions. 

These commenters recommended a number of structural modifications to the details 

of the risk retention alternatives. 

The agencies have carefully evaluated this extensive body of comments. In addition, the agencies have reviewed the QM criteria issued by the CFPB in January, 

to which the QRM criteria are statutorily linked. With the QM criteria completing 

the picture, the agencies are now in a position to consolidate the analytical work 

done since the comment period closed and finalize the rule. 

57 

Margin and Capital Requirements for Covered Swap Entities 

During the financial crisis, the lack of transparency in derivatives transactions 

among dealer banks and between dealer banks and their counterparties created uncertainty about whether market participants were significantly exposed to the risk 

of a default by a swap counterparty. To address this uncertainty, sections 731 and 

764 of the Dodd-Frank Act require the OCC, together with the FRB, FDIC, FHFA, 

and Farm Credit Administration, to impose minimum margin requirements on noncleared derivatives. 

The OCC, together with the FRB, FDIC, FHFA, and Farm Credit Administration, 

published a proposal in the Federal Register on May 11, 2011, to establish minimum 

margin and capital requirements for registered swap dealers, major swap participants, security-based swap dealers, and major security-based swap participants 

(swap entities) subject to agency supervision. To address systemic risk concerns, 

consistent with the Dodd-Frank Act requirement, the agencies proposed to require 

swaps entities to collect margin for all uncleared transactions with other swaps entities, and with financial counterparties. However, for low-risk financial counterparties, the agencies proposed that swap entities would not be required to collect margin as long as its margin exposure to a particular low-risk financial counterparty 

does not exceed a specific threshold amount of margin. Consistent with the minimal 

risk that derivatives with commercial end users pose to the safety and soundness 

of swap entities and the U.S. financial system, the proposal also included a margin 

threshold approach for these end users, with the swap entity setting a margin 

threshold for each commercial end user in light of the swap entity’s assessment of 

credit risk of the end user. The proposed margin requirements would apply to new, 

noncleared swaps or security-based swaps entered into after the proposed rule’s effective date. 

With very limited exception, commenters opposed the agencies’ proposed treatment of commercial end users. They urged the agencies to implement a categorical 

exemption, like the statutory exception from clearing requirements for commercial 

end users. They also indicated that the agencies’ proposal on documentation of margin obligations was a departure from existing practice and burdensome to implement. They further indicated that, as drafted, the agencies’ proposed thresholdbased approach was inconsistent with the current credit assessment-based practices 

of swaps entities. Commenters also raised a number of other important issues, including the types of collateral eligible to be posted for margin obligations, and concerns that the agencies’ proposed margin calculation methodology was not properly 

calibrated to the level of risk presented by the underlying transactions. They also 

expressed concerns that U.S. and foreign regulators must coordinate as to the level 

and effective dates of their respective margin requirements, and anticipated that 

unilateral U.S. implementation of margin rules would eliminate U.S. banks’ ability 

to continue competing in foreign markets that are behind the U.S. in formulating 

margin rules for their own dealers. 

Given the global nature of major derivatives markets and activities, we agree that 

international harmonization of margin requirements is critical, and we are participating in efforts by the Basel Committee on Bank Supervision (BCBS) and International Organization of Securities Commissions (IOSCO), to address coordinated 

implementation of margin requirements across G20 Nations. The BCBS–IOSCO 

working group issued a consultative document in July of 2012, seeking public feedback on a broad policy framework for margin requirements on uncleared swap 

transactions that would be applied on a coordinated and nonduplicative basis across 

international regulatory jurisdictions. We and the other U.S. banking agencies and 

the CFTC re-opened the comment periods on our margin proposals to give interested 

persons additional time to analyze those proposals in light of the BCBS–IOSCO consultative framework. The banking agencies’ comment period closed on November 26, 

2012. Most commenters once again focused on the treatment of commercial end 

users, urging the agencies to adopt the exemptive approach suggested by the BCBS– 

IOSCO proposal. The BCBS–IOSCO working group continues its discussions with 

its parent committees to analyze the questions and alternatives presented in the 

working group’s consultative document, and to formulate a regulatory template to 

guide the participating jurisdictions to a coordinated regulatory structure on 

uncleared swap margin issues. 

Also notable with regard to swap entities, section 716 of the Dodd-Frank Act prohibits the provision of Federal assistance (i.e., use of certain FRB advances and 

FDIC insurance or guarantees for certain purposes) to swaps entities with respect 

to any swap, security-based swap or other activity of the swaps entity. On May 10, 

2012, the OCC, FRB, and FDIC published joint guidance for those entities for which 

they are each the prudential regulator to clarify that the effective date of section 

716, i.e., the date on which the prohibition would take effect, is July 16, 2013. 

58 

3 A ‘‘covered financial institution’’ is a depository institution or depository institution holding 

company; a registered broker-dealer; a credit union; an investment adviser; Fannie Mae; Freddie 

Mac; and ‘‘any other financial institution’’ that the regulators jointly determine, by rule, should 

be covered by section 956. 

Under section 716, following consultation with the CFTC or the SEC, the Federal 

banking agencies shall permit insured depository institutions that qualify as swap 

entities subject to the prohibition on Federal assistance, a transition period of up 

to 24 months to either divest the swaps entity or cease the activities that would require registration as a swaps entity. The transition period may be extended for up 

to one additional year by the Federal banking agencies after consultation with the 

CFTC or SEC. The OCC has received a number of requests from national banks for 

transition periods under section 716 and we are in the process of reviewing and 

evaluating these requests pursuant to the statutory requirements. 

Incentive-Based Compensation 

Pursuant to section 956 of the Dodd-Frank Act, in April 2011, the OCC, FRB, 

FDIC, OTS, National Credit Union Association (NCUA), SEC, and the FHFA (the 

agencies) issued a joint proposed rule that would require the reporting of certain 

incentive-based compensation arrangements by a covered financial institution and 

prohibit incentive-based compensation arrangements at a covered financial institution that provide excessive compensation or that could expose the institution to inappropriate risks that could lead to a material financial loss. 3

The material financial loss provisions of the proposed rule would establish general 

requirements applicable to all covered institutions and additional proposed requirements applicable to certain larger covered financial institutions. The generally applicable requirements would provide that an incentive-based compensation arrangement, or any feature of any such arrangement, established or maintained by any 

covered financial institution for one or more covered persons, must balance risk and 

financial rewards and be compatible with effective controls and risk management, 

and supported by strong corporate governance. 

The proposed rule included two additional requirements for ‘‘larger financial institutions,’’ which for the Federal banking agencies, NCUA and the SEC means those 

covered financial institutions with total consolidated assets of $50 billion or more. 

First, a larger financial institution would be required to defer 50 percent of incentive-based compensation for its executive officers for a period of at least 3 years. 

Second, the board of directors (or a committee thereof) of a larger financial institution also would be required to identify, and approve the incentive-based compensation arrangements for, individuals (other than executive officers) who have the ability to expose the institution to possible losses that are substantial in relation to the 

institution’s size, capital, or overall risk tolerance. These individuals may include, 

for example, traders with large position limits relative to the institution’s overall 

risk tolerance and other individuals that have the authority to place at risk a substantial part of the capital of the covered financial institution. 

The agencies received thousands of comments on the proposal, many of which concerned the additional requirements for larger financial institutions. The agencies 

are continuing to work together to prepare a final rule that will address the many 

issues raised by the commenters. 

Conclusion 

I appreciate the opportunity to update the Committee on the work the OCC has 

done to implement the provisions of the Dodd-Frank Act, in particular, the completion of a number of important rulemakings and the significant progress that has 

been made on ongoing regulatory projects. While much has been accomplished, we 

will continue to move these ongoing projects toward completion. We look forward to 

keeping the Committee apprised of our progress. 

PREPARED STATEMENT OF RICHARD CORDRAY 

DIRECTOR, CONSUMER FINANCIAL PROTECTION BUREAU

FEBRUARY 14, 2013 

Introduction 

Thank you Chairman Johnson, Ranking Member Crapo, and Members of the 

Committee for inviting me back today to testify about implementation of the DoddFrank Wall Street Reform and Consumer Protection Act. My colleagues and I at the 

Consumer Financial Protection Bureau are always happy to testify before the Congress, something we have done now 30 times. 

59 

Congress created the Bureau in the wake of the greatest financial crisis since the 

Great Depression. Our mission is to make consumer financial markets work for both 

consumers and responsible businesses. 

Since the Bureau opened for business in 2011, our team has been hard at work. 

We are examining both banks and nonbank financial institutions for compliance 

with the law and we have addressed and resolved many issues through these efforts. In addition, for consumers who have been mistreated by credit card companies, we have worked in coordination with our fellow regulators to return roughly 

$425 million to their pockets. For those consumers who need information or help 

in understanding financial products and services, we have developed AskCFPB, a 

database of hundreds of answers to questions frequently asked by consumers. And 

our Consumer Response center has helped more than 100,000 consumers with their 

individual problems related to their credit cards, mortgages, student loans, and 

bank accounts. 

We have also faithfully carried out the law that Congress enacted by writing rules 

designed to help consumers throughout their mortgage experience—from signing up 

for a loan to paying it off. In the Dodd-Frank Act, Congress gave the Bureau the 

responsibility to adopt specific mortgage rules with a legal deadline of January 21, 

2013. If we had failed to do so, there were specific statutory provisions that would 

have automatically taken effect, which would have been problematic in various respects for consumers and the financial industry alike. We worked hard to meet our 

deadlines on those rules, which are the focus of my testimony today. 

Ability-to-Repay 

As we all know now, one of the reasons for the collapse of the housing market 

in 2007 and 2008 was the dramatic decline in underwriting standards in the mortgage market in the years leading up to the crisis. It became a race to the bottom, 

and in the end it was the American public and the American economy who were 

the losers in that unappetizing race. Many mortgage lenders made loans that borrowers had little realistic chance of being able to pay back. Some of those loans were 

high priced; many contained risky features. For example, lenders were selling ‘‘nodoc’’ (no documentation) and ‘‘low-doc’’ (little documentation) mortgages to consumers who were ‘‘qualifying’’ for loans beyond their means. Far too many borrowers found they had no problem getting so-called ‘‘NINJA’’ loans—even if you had 

no income, no job, and no assets, you still could get a loan. 

The Dodd-Frank Act contains a provision to protect consumers from irresponsible 

mortgage lending by requiring lenders to make a reasonable, good faith determination based upon verified and documented information that prospective borrowers 

have the ability to repay their mortgages. Last month, the Bureau issued a rule to 

implement that requirement and provide further clarity as to what will be required 

of lenders. 

In writing the Ability-to-Repay rule, we recognized that today’s consumers are 

faced with a very different problem than the one that consumers faced before the 

crisis. Access to credit has become so constrained that many consumers—even those 

with strong credit—cannot refinance or buy a house. 

So our rule strikes a balance and addresses both problems by enabling safer lending and providing certainty to the market. It rests on two basic, commonsense precepts: Lenders will have to check on the numbers and make sure the numbers check 

out. It is the essence of responsible lending. 

Under the rule, lenders will have to evaluate the borrower’s income, savings, 

other assets, and debts. No-doc loans are prohibited, and affordability cannot be 

evaluated based only on low introductory ‘‘teaser’’ interest rates. By rooting out 

reckless and unsustainable lending, while enabling safer lending, the rule protects 

consumers and strengthens the housing market. 

In addition, Congress created a category of ‘‘Qualified Mortgages’’ that are presumed to meet the ability-to-repay requirements because they are subject to additional safeguards. Congress defined some of the criteria for these Qualified Mortgages, but recognized that it may be necessary for the Bureau to prescribe further 

specifics. 

Our rule prohibits certain features that often have harmed consumers. Qualified 

mortgages cannot be negative-amortization loans—where the principal amount actually increases for some period because the borrower does not even pay the interest, 

and the unpaid interest gets added to the amount borrowed—or have interest-only 

periods. They cannot have up-front costs in points and fees above the level specified 

by Congress. 

The rules also require that lenders carefully assess the burden that the loan 

places on the borrower. The consumer’s total monthly debts—including the mortgage payment and related housing expenses such as taxes and insurance—generally 

60 

cannot add up to more than 43 percent of a consumer’s monthly gross income. The 

Bureau believes that this standard will help to draw a clear line that will provide 

a real measure of protection to borrowers and increased certainty to the mortgage 

market. 

Loan Origination 

The second rule I want to tell you about today has to do with mortgage loan originators. 

Mortgage loan originators, which include mortgage brokers and retail loan officers, perform a variety of valuable services. They can assist consumers in obtaining 

or applying for mortgage loans, and they can offer or negotiate terms of those loans, 

whether the loans are for buying a home or refinancing an existing one. The financial reform law placed certain restrictions on a mortgage loan originator’s qualifications and compensation. Building on rules issued earlier by the Federal Reserve, the 

Bureau applied what it heard from industry and consumers across the country to 

implement the new statutory restrictions. 

The rules address critical conflicts of interest created by certain compensation 

practices in the run-up to the financial crisis, such as paying loan originators more 

money whenever they steered consumers into a more expensive loan and allowing 

them to take payments from both consumers and creditors in the same transaction. 

These practices gave loan originators strong incentives to steer borrowers toward 

risky and high-cost loans, and they created confusion among consumers about loan 

originators’ loyalties. Restricting these practices will help ensure the mortgage market is more stable and sustainable. 

Specifically, our mortgage loan origination rules help ensure that loan originator 

compensation may not be based on the terms of the mortgage transaction. At the 

same time, the rules spell out legitimate and permissible compensation practices, 

such as allowing certain profit-sharing plans. The rules say a broker or loan officer 

cannot get paid more by directing the consumer toward a loan with a higher interest 

rate, a prepayment penalty, or higher fees. The loan originator cannot get paid more 

for directing the consumer to buy an additional product like title insurance from the 

lender’s affiliate. The rules also ban ‘‘dual compensation,’’ whereby a broker gets 

paid by both the consumer and the creditor for the same transaction. Finally, our 

rules make existing requirements more consistent on matters such as screening, 

background checks, and training of loan originators, to provide more confidence to 

consumers. 

Mortgage Servicing 

For consumers who already have mortgage loans and are paying them back, the 

Bureau has adopted mortgage servicing rules to give them greater protections. The 

rules require commonsense policies and procedures for servicers’ handling of consumer accounts. 

By bearing responsibility for managing mortgage loans, mortgage servicers play 

a central role in homeowners’ lives. They collect and apply payments to loans. They 

can work out modifications to loan terms. And they handle the difficult foreclosure 

process. 

Even before the mortgage crisis unfolded, many servicers failed to provide a basic 

level of customer service. As the crisis unfolded, problems worsened. Servicers were 

unprepared to work with the number of borrowers who needed help. People did not 

get the help or support they needed, such as timely and accurate information about 

their options for saving their homes. Servicers failed to answer phone calls, lost paperwork, and mishandled accounts. Communication and coordination were poor, 

leading many homeowners to think they were on their way to a solution, only to 

find later that their homes had been foreclosed on and sold. In some cases, people 

arrived home to find they had been locked out unexpectedly. 

To compound the frustrations, often the consumer’s relationship with a mortgage 

servicer is not a matter of choice. After a borrower picks a lender and takes on a 

mortgage, the responsibility for managing that loan can be transferred to another 

provider without any approval from the borrower. So if consumers are dissatisfied 

with their customer service, they cannot protect themselves by switching to another 

servicer. 

In this market, as in every other, consumers have the right to expect information 

that is clear, timely, and accurate. The Dodd-Frank Act added protections to consumers by establishing new servicer requirements. Last month, the Bureau issued 

rules to implement these provisions. 

These provisions require that payments must be credited the day they are received. They require servicers to deal promptly with consumer complaints about errors. They require servicers to provide periodic statements to mortgage borrowers 

61 

that break downpayments by principal, interest, fees, and escrow. They require disclosure of the amount and due date of the next payment. (To help industry on this 

requirement, the Bureau is providing model forms that we developed and tested 

with consumers.) 

Our servicing rules also implement Dodd-Frank Act requirements that mortgage 

servicers provide earlier advance notice the first time an interest rates adjusts for 

most adjustable-rate mortgages. The disclosure must provide an estimate of the new 

interest rate, the payment amount, and when that payment is due. It must also include information about alternatives and counseling services, which can provide valuable assistance for consumers in all circumstances, and particularly if the new payment turns out to be unaffordable. 

All of these Dodd-Frank provisions address normal mortgage servicing. They protect everyday mortgage borrowers from costly surprises and runarounds by their 

servicers. But the Dodd-Frank Act did not speak specifically or comprehensively to 

the unique problems faced by borrowers who fall behind on their mortgages. Instead, Congress gave the Bureau general rulemaking authority to address these 

kinds of consumer protection problems. 

Many American homeowners are struggling to stay on top of their mortgages. Our 

Office of Consumer Response has already fielded more than 47,000 complaints about 

mortgages. More than half were about problems people have when they are unable 

to make their payments, such as issues relating to loan modifications, collections, 

or foreclosure. 

Accordingly, the Bureau’s mortgage servicing rules put into place fairer and more 

effective processes for troubled borrowers. Beginning with the early stage of delinquency, we are providing new protections to help consumers save their homes. 

Under our rules, servicers will be required to establish policies and procedures to 

ensure that their records are accurate and accessible. The idea is that servicers 

should be able to provide correct and timely information to borrowers, mortgage 

owners (including investors), and the courts. This provision will help prevent the 

egregious ‘‘robo-signing’’ practices that were found to be rampant in the marketplace. The rules also require servicers to have policies and procedures that assure 

a smooth transfer of information—including pending applications for foreclosure alternatives—when an account transfers from one servicer to another. 

Our rules also require that servicers reach out to borrowers within the first 36 

days after a payment is delinquent to determine whether the borrowers may need 

assistance. After 45 days, servicers must provide information about loss mitigation 

options and make staff available who will be responsible for helping borrowers apply 

for loan modifications or other foreclosure alternatives. The rules also carefully regulate the process for evaluating borrowers’ loss mitigation applications and so-called 

‘‘dual tracking,’’ where a consumer is being evaluated for loss mitigation at the same 

time that the servicer is taking steps to foreclose on the property. The rules are designed to ensure that borrowers who submit a complete application by specified 

timelines are assessed for all available loss mitigation options and have an opportunity to appeal mistakes to their servicer. 

The rules also require servicers to maintain policies and procedures that will ensure better coordination with loan owners to ensure that servicers offer all loss mitigation options that the owners permit, correctly apply the criteria for the loss mitigation options, and report back to the loan owners about how borrower applications 

are resolved. The goal is to avoid needless foreclosures—which is in the best interest 

of the borrower, the lender, and our entire economy. 

In pursuing these rules, the Bureau struck a carefully calibrated balance. The 

rules mandate a fair process but do not require that a servicer, or an investor, offer 

any particular type of loss mitigation option or apply any particular criteria in considering such options. The rules likewise balance private and public enforcement. 

Importantly, the rules apply to the entire market, not just to banks and other depository institutions. Many provisions are subject to private enforcement directly by 

consumers, and others will be monitored closely by the Bureau and other regulators. 

The rules also ensure better communications with loan owners, including investors, 

so that they too can be more effective in monitoring servicers’ activities. 

We will be vigilant about monitoring and enforcing these rules, and are coordinating on an ongoing basis with other Federal agencies to address servicing issues. 

These rules mean a brand-new day for effective oversight of mortgage servicers by 

ensuring that no servicer can act in a manner that is indifferent to the plight of 

consumers. 

Other Rules 

The Bureau has also issued rules to implement a number of other provisions in 

the Dodd-Frank Act to strengthen consumer protections and address problematic 

62 

practices that existed in the run-up to the financial crisis. For instance, the rules 

implement strict limitations on prepayment penalties that may have discouraged or 

disabled consumers from refinancing expensive or risky loans. The rules require 

creditors to maintain escrow accounts for borrowers who take out higher-priced 

mortgage loans for a longer period to help borrowers set aside money for taxes and 

property insurance. We also adopted new rules implementing the statutory requirement that mortgage lenders automatically provide applicants with free copies of all 

appraisals and other home-value estimates, as well as new and broader protections 

for high-cost ‘‘HOEPA’’ loans. 

And in partnership with the Federal Reserve, Federal Deposit Insurance Corporation, Federal Housing Finance Agency, National Credit Union Administration, and 

Office of the Comptroller of the Currency, the Consumer Bureau adopted a new rule 

that implements Dodd-Frank’s special requirements for appraisals of certain higherpriced mortgage loans. By requiring that creditors use a licensed or certified appraiser to prepare the written appraisal report based on a physical inspection of the 

property, the new rule creates an additional level of due diligence. The rule also requires creditors to disclose to applicants information about the purpose of the appraisal and provide consumers with a free copy of any appraisal report. 

Smaller Institutions 

As the Bureau worked through the requirements Congress imposed in the DoddFrank Act, we paid attention to the potential impacts on different types and sizes 

of creditors, servicers, and other financial service providers. To inform its work, the 

Bureau received input from banks, other lenders, mortgage brokers, service providers, trade associations, consumer groups, nonprofits, and other Government 

stakeholders. We also convened small business review panels for input on various 

rules as prescribed by statute. 

It is widely accepted that with few exceptions, community banks and credit 

unions did not engage in the kind of misdeeds that led to the mortgage crisis. Data 

available to the Bureau indicates that these institutions have lower severe delinquency rates and loss rates. At the same time, the Bureau knows these institutions 

may be more likely to retreat from the mortgage market if the regulations implementing the Dodd-Frank Act are too burdensome. 

Accordingly, the Bureau created specific exceptions and tailored various rules to 

encourage small providers such as community banks and credit unions to continue 

providing credit and other services, while carefully balancing consumer protections. 

For example, we expanded earlier proposals to exempt certain small creditors operating predominantly in rural or underserved areas from the escrow rule requirements. We also issued a further proposal along with the Ability-to-Repay rule, which 

would treat various loans held by small creditors in portfolio as ‘‘Qualified Mortgages’’ subject to protections against any potential liability. We also finalized exceptions to substantial portions of our servicing rules for small companies such as community banks and credit unions that are servicing loans they originated or own. 

We have carefully calibrated concerns about consumer protection and access to 

credit in making these distinctions. We know community banks and credit unions 

have strong practical reasons to provide responsible credit and have a long tradition 

of excellent customer service, both to protect their own balance sheets and because 

they care deeply about their reputations in their local communities. We know they 

provide vital financial services in rural areas, small towns, and underserved communities across this country. We believe the rules strike an appropriate balance to ensure consumers can continue to access this source of valuable and responsible credit. 

Conclusion 

As the Bureau has been working to finalize these mortgage rules by the statutory 

deadline, we have also been thinking hard about the process for implementing them. 

We know the new protections afforded by the Dodd-Frank Act and our rules will 

no doubt bring great change to the mortgage market, and we are committed to doing 

what we can to achieve effective, efficient, complete implementation by engaging 

with all stakeholders in the coming year. We know that it is in the best interests 

of the consumer for the industry to understand these rules—because if they cannot 

understand, they cannot properly implement. 

To this end, we have announced an implementation support plan. We will publish 

plain-English summaries. We will publish readiness guides to help industry run 

through check-lists of things to do prior to the rules going into effect—like updating 

their policies and procedures and providing training for staff. We will work with 

other Government agencies to prepare in a transparent manner for both our and 

their examinations. And we will publish clarifications of the rules as needed to respond to questions and inquiries. 

63 

1See, Release No. IA-3308, ‘‘Reporting by Investment Advisers to Private Funds and Certain 

Commodity Pool Operators and Commodity Trading Advisors on Form PF’’ (October 31, 2011), 

http://www.sec.gov/rules/final/2011/ia-3308.pdf. 2To the extent an investment adviser is currently required to file Form PF, examination staff 

review the individual filings prior to conducting investment adviser examinations. The review 

of Form PF assists in identifying additional risk areas and may highlight particular funds for 

focus during the exam. 

Most importantly, we will continue to listen to consumers and businesses as we 

work to help the mortgage market—and American consumers—recover from the financial crisis. 

I am very proud of the tremendous work our team has done on rulemaking and 

implementation efforts under the Dodd-Frank Act. And as I have said to you before, 

we always welcome your questions and your thoughts about our work. 

Thank you. 

PREPARED STATEMENT OF ELISSE B. WALTER 

CHAIRMAN, SECURITIES AND EXCHANGE COMMISSION

FEBRUARY 14, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee: 

Thank you for inviting me to testify on behalf of the Securities and Exchange Commission regarding our ongoing implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act (‘‘Dodd-Frank Act’’ or ‘‘Act’’). We appreciate the 

opportunity to share with you the steps we have been taking and the procedures 

we have followed. 

As you know, the Dodd-Frank Act added significant new responsibilities to the 

SEC’s portfolio, as well as creating new tools for use in executing those and other 

responsibilities. To date, the Commission has made substantial progress in writing 

the huge volume of new rules the Act directs, as well as in conducting the various 

studies required by the Act. Of the more than 90 Dodd-Frank provisions that require SEC rulemaking, the SEC has proposed or adopted rules for over 80 percent 

of them, and also has finalized 17 of the more than 20 studies and reports that the 

Act directs us to complete. While this has been a challenge, the considerable 

progress the Commission has made is a direct result of the thoughtful, thorough, 

and professional efforts of our staff, whose efforts in fulfilling the Dodd-Frank Act 

mandates have come in addition to carrying their normal workloads. 

My testimony today will provide an overview of the Commission’s Dodd-Frank Act 

activities, emphasizing our accomplishments over the past year. 

Hedge Fund and Other Private Fund Adviser Registration and Reporting 

The Dodd-Frank Act mandated that the Commission require private fund advisers 

(including hedge and private equity fund advisers) to confidentially report information about the private funds they manage for the protection of investors or for the 

assessment of systemic risk by the Financial Stability Oversight Council (FSOC). 

On October 31, 2011, in a joint release with the Commodity Futures Trading Commission (CFTC), the Commission adopted a new rule that requires hedge fund advisers and other private fund advisers registered with the Commission periodically 

to report systemic risk information on a new form, ‘‘Form PF’’. 1

Under the rule, registered investment advisers managing at least $150 million in 

private fund assets must periodically file Form PF. Both the amount of information 

required to be reported and the frequency with which Form PF must be filed are 

scaled to the size of the adviser and the nature of its advisory activities. 2 This 

scaled approach will provide FSOC and the Commission with a broad view of the 

industry while relieving smaller advisers from much of the reporting burden. In addition, the reporting requirements are tailored to the types of funds an adviser manages and the potential risks those funds may present, meaning that an adviser will 

respond only to questions relevant to its business model. The Dodd-Frank Act provides special confidentiality protections for this data. To ensure that the data is 

handled in a manner that reflects its sensitivity and statutory confidentiality protections, a Steering Committee composed of senior officers from various Divisions and 

Offices within the Commission has been established to implement a consistent approach regarding the access to, and use, sharing, and data security of, information 

collected through Form PF. The Steering Committee is also working with FINRA 

(the contractor that operates the Form PF filing system) and the Office of Financial 

64 

3For more information on investment advisers registered with the Commission and advisers 

required to report information to the Commission after the Dodd-Frank Act, as well as the private funds they manage, see, ‘‘Dodd-Frank Act Changes to Investment Adviser Registration Requirements’’, http://www.sec.gov/divisions/investment/imissues/df-iaregistration.pdf. 4See, Release No. IA-3222 ‘‘Exemptions for Advisers to Venture Capital Funds, Private Fund 

Advisers With Less Than $150 Million in Assets Under Management, and Foreign Private Advisers’’ (June 22, 2011), http://www.sec.gov/rules/final/2011/IA-3222.pdf. 5See, Release No. IA-3221, ‘‘Rules Implementing Amendments to the Investment Advisers 

Act’’ (June 22, 2011), http://www.sec.gov/rules/final/2011/ia-3221.pdf. 6See, Release No. IA-3547, ‘‘Order Cancelling Registrations of Certain Investment Advisers 

Pursuant to Section 203(h) of the Investment Advisers Act of 1940’’ (February 6, 2013), http:// 

www.sec.gov/rules/other/2013/ia-3547.pdf. 7See, Release No. IA-3220, ‘‘Family Offices’’ (June 22, 2011), http://www.sec.gov/rules/final/ 

ia-3220.pdf. 8See, Release No. IA-3372, ‘‘Investment Adviser Performance Compensation’’ (February 15, 

2012), http://www.sec.gov/rules/final/2012/ia-3372.pdf. 

Research (the FSOC entity that will receive and use the data on behalf of FSOC) 

to implement appropriate controls to protect it. 

The largest advisers to liquidity funds and hedge funds began filing Form PF reports in the summer of 2012. As of December 31, 2012, the Commission received 

filings from 228 registered advisers of private funds. Smaller private fund advisers 

generally must begin filing with the Commission in March and April of this year. 

In addition to Form PF, the Commission has implemented a number of other 

Dodd-Frank provisions that serve to enhance oversight of private funds advisers. 

These enable, for the first time, regulators and investors to have a more comprehensive view of the private fund universe and the investment advisers managing those 

assets. 

• In June 2011, the Commission adopted rules that require the registration of, 

and reporting by, advisers to hedge funds and other private funds and other advisers previously exempt from SEC registration. As a result, the number of private fund advisers registered with the Commission—advisers that manage one 

or more private funds—increased significantly. As of January 2, 2013, the number of SEC-registered private fund advisers had increased by more than 50 percent from the effective date of the Dodd-Frank Act to 4,020 advisers. These advisers now represent approximately 37 percent of all SEC-registered investment 

advisers and collectively manage over 24,000 private funds with total assets of 

$8 trillion. 3

• Concurrently, the Commission adopted rules to implement new adviser registration exemptions created by the Dodd-Frank Act. The new rules implement exemptions for: (i) advisers solely to venture capital funds; (ii) advisers solely to 

private funds with less than $150 million in assets under management in the 

United States; and (iii) certain foreign advisers without a place of business in 

the U.S. and with only de minimis U.S. business. 4

• These new rules also implement the Dodd-Frank requirement for public reporting by investment advisers to venture capital funds and others that are exempt 

from SEC registration. 

• The rules also reallocate regulatory responsibility to State securities authorities 

for advisers with between $25 million and $100 million in assets under management. 5 To facilitate the reallocation of regulatory responsibility, the Commission issued an order in February 2013 canceling the registrations of certain 

SEC-registered investment advisers no longer eligible to remain registered. 6

• In June 2012, the Commission also adopted a new rule defining ‘‘family offices,’’ 

a group that historically has not been required to register as advisers and that 

is now excluded by rule from the Investment Advisers Act of 1940 (Advisers 

Act) definition of an investment adviser. 7

• In February 2012, the Commission adopted amendments to the rule that permits investment advisers to charge performance fees to ‘‘qualified clients.’’ 8 The 

amendments codified the Commission’s 2011 inflation adjustments to the net 

worth and assets-under-management thresholds that clients must satisfy for the 

adviser to charge these fees. The amendments also excluded the value of a person’s primary residence from the rule’s net worth test and provided that, as required by the Dodd-Frank Act, the Commission will issue an order every 5 

years adjusting the rule’s dollar amount thresholds for inflation. 

Since the Act became effective, approximately 2,250 formerly SEC registered advisers have transitioned to State registration and approximately 1,500 advisers to 

hedge funds and private equity funds have registered with the Commission. These 

65 

9 ‘‘Annual Report on the Dodd-Frank Whistleblower Program Fiscal 2012’’ (November 2012), 

http://www.sec.gov/about/offices/owb/annual-report-2012.pdf. 10 A whistleblower who helped the Commission stop a multimillion dollar fraud received an 

award of 30 percent of the amount collected in the Commission’s enforcement action against the 

perpetrators of the scheme, the maximum amount permitted by the Act. The award recipient 

in this matter submitted a tip concerning the fraud and then provided documents and other significant information that allowed the Commission’s investigation to move at an accelerated pace 

and ultimately led to the filing of an emergency action in Federal court to prevent the defendants from ensnaring additional victims and further dissipating investor funds. See, ‘‘In the Matter of the Claim for Award’’, Release No. 34-67698 (August 21, 2012), http://www.sec.gov/rules/ 

other/2012/34-67698.pdf, and ‘‘In the Matter of the Claim for Award’’, SEC Release No. 34- 

67699 (August 21, 2012), http://www.sec.gov/rules/other/2012/34-67699.pdf. 

new adviser registrants report over $3 trillion in assets under management, while 

those that transitioned to State registration manage about $115 billion. Most of 

these new registrants had never been registered, regulated, or examined and many 

have complex business models, investment programs and trading strategies. Commission staff, through our National Exam Program, has developed and begun implementing a program for these new advisers which includes outreach, examination, 

and, ultimately, where appropriate, written reports highlighting exam findings. 

Whistleblower Program 

Pursuant to Section 922 of the Dodd-Frank Act, the SEC established a whistleblower program to pay awards to eligible whistleblowers that voluntarily provide 

the agency with original information about a violation of the Federal securities laws 

that leads to a successful SEC enforcement action. The SEC’s Office of the Whistleblower filed its second Annual Report to Congress on November 15, 2012, detailing 

the Office’s activities during the fiscal year. 9 As detailed in the Annual Report, during fiscal year 2012 the Commission received 3,001 tips from whistleblowers in the 

U.S. and 49 other countries. Among other things, the Office (1) regularly communicates with whistleblowers, returning over 3,050 phone calls to the public hotline 

during fiscal year 2012; (2) identifies and tracks whistleblower tips that may lead 

to enforcement actions; (3) reviews and processes applications for whistleblower 

awards; (4) facilitates meetings between whistleblowers and SEC Enforcement staff; 

and (5) provides extensive guidance to Enforcement staff on various aspects of the 

program, including proper handling of confidential whistleblower identifying information. 

The high quality information that we have been receiving from whistleblowers 

has, in many instances, allowed our investigative staff to work more efficiently and 

permitted us to better utilize agency resources. 

In August, 2012, the Commission made its first award under the whistleblower 

program. 10 We expect future payments to further increase the visibility and effectiveness of this important Enforcement initiative. 

OTC Derivatives 

Among the key provisions of the Dodd-Frank Act are those that establish a new 

oversight regime for the over-the-counter (OTC) derivatives marketplace. Title VII 

of the Act requires the Commission to regulate ‘‘security-based swaps’’ and to write 

rules that address, among other things, mandatory clearing, reporting and trade 

execution, the operation of clearing agencies, data repositories and trade execution 

facilities, capital and margin requirements and business conduct standards for dealers and major market participants, and public transparency for transactional information. Among other things, such rules are intended to: 

• Facilitate the centralized clearing of swaps, with the intent of reducing 

counterparty and systemic risk; 

• Increase market transparency; 

• Increase security-based swap transaction disclosure; and 

• Address potential conflict of issues relating to security-based swaps. 

Title VII Implementation Generally 

The Commission has proposed substantially all of the core rules required by Title 

VII. In addition, the Commission has adopted a number of final rules and interpretations, provided a ‘‘roadmap’’ to implementation of Title VII, and taken other actions to provide legal certainty to market participants during the implementation 

process. In implementing Title VII, Commission staff is in regular contact with the 

staffs of the CFTC, the Board of Governors of the Federal Reserve System (Board), 

and other Federal financial regulators, and in particular has consulted and coordinated extensively with CFTC staff. 

66 

11See, Release No. 33-9338, ‘‘Further Definition of ‘Swap’, ‘Security-Based Swap’, and ‘Security-Based Swap Agreement’; Mixed Swaps; Security-Based Swap Agreement Recordkeeping’’ 

(July 18, 2012) http://www.sec.gov/rules/final/2012/33-9338.pdf. 12See, Release No. 34-66868, ‘‘Further Definition of ‘Swap Dealer’, ‘Security-Based Swap Dealer’, ‘Major Swap Participant’, ‘Major Security-Based Swap Participant’, and ‘Eligible Contract 

Participant’ ’’ (April 27, 2012) http://www.sec.gov/rules/final/2012/34-66868.pdf. 13See, Release No. 34-68080, ‘‘Clearing Agency Standards’’ (October 22, 2012), http:// 

www.sec.gov/rules/final/2012/34-68080.pdf. 14See, Release No. 34-67286, ‘‘Process for Submissions for Review of Security-Based Swaps 

for Mandatory Clearing and Notice Filing Requirements for Clearing Agencies; Technical 

Amendments to Rule 19b-4 and Form 19b-4 Applicable to All Self-Regulatory Organizations’’ 

(June 28, 2012), http://www.sec.gov/rules/final/2012/34-67286.pdf. 15See, Release No. 34-68433, ‘‘Order Granting Conditional Exemptions Under the Securities 

Exchange Act of 1934 in connection with Portfolio Margining of Swaps and Security-Based 

Swaps’’ (December 14, 2012), http://sec.gov/rules/exorders/2012/34-68433.pdf. 

Adoption of Key Definitional Rules 

In July 2012, the Commission adopted final rules and interpretations jointly with 

the CFTC regarding key product definitions under Title VII. 11 This effort follows 

the Commission’s work on the entity definitions rules, which the Commission adopted jointly with the CFTC in April 2012. 12 The completions of these joint 

rulemakings are foundational steps toward the complete implementation of Title 

VII. 

The July joint rulemaking addressed certain product definitions and further defined the key terms ‘‘swap,’’ ‘‘security-based swap,’’ and ‘‘security-based swap agreement.’’ It also adopted rules regarding the regulation of ‘‘mixed swaps’’ and the 

books and records requirements for security-based swap agreements. The April joint 

rulemaking further defined the key terms ‘‘swap dealer’’ and ‘‘security-based swap 

dealer,’’ providing guidance as to what constitutes dealing activity, and distinguishing dealing from nondealing activities such as hedging. The rulemaking also 

implemented the Dodd-Frank Act’s statutory de minimis exception to the securitybased swap dealer definition in a way tailored to reflect the different types of security-based swaps. Additionally, the rulemaking implemented the Dodd-Frank Act’s 

‘‘major security-based swap participant’’ definition through the use of three objective 

tests. 

While foundational, these final rules did not trigger compliance with the other 

rules the Commission is adopting under Title VII. Instead, the compliance dates applicable to each final rule will be set forth in the adopting release for the applicable 

rule. In this way, the Commission is better able to provide for an orderly implementation of the various Title VII rules. 

Adoption of Rules and Other Action Related to Clearing 

In addition to the key definitional rules, the Commission has adopted rules under 

Title VII relating to clearing infrastructure. In October 2012, the Commission adopted a rule that establishes operational and risk management standards for clearing 

agencies, including clearing agencies that clear security-based swaps. 13 The rule, 

discussed in more detail below, is designed to help ensure that clearing agencies will 

be able to fulfill their responsibilities in the multitrillion dollar derivatives market 

as well as in more traditional securities markets. 

In June 2012, the Commission adopted rules that establish procedures for its review of certain actions undertaken by clearing agencies. 14 These rules detail how 

clearing agencies will provide information to the Commission about the securitybased swaps the clearing agencies plan to accept for clearing, which will then be 

used by the Commission to aid in determining whether those security-based swaps 

are required to be cleared. The adopted rules also include rules requiring clearing 

agencies that are designated as ‘‘systemically important’’ under Title VIII of the 

Dodd-Frank Act to submit advance notice of changes to their rules, procedures, or 

operations if the changes could materially affect the nature or level of risk at those 

clearing agencies. 

In addition, in December 2012, the Commission issued an order providing exemptive relief in connection with a program to commingle and portfolio margin customer 

positions in cleared credit default swaps which include both swaps and securitybased swaps. 15 Portfolio margining may be of benefit to investors and the market 

by, among other things, promoting greater efficiency in clearing, helping to alleviate 

excessive margin calls, improving cash flow and liquidity, and reducing volatility. 

Previously, in March 2012, the Commission had adopted rules providing exemptions 

under the Securities Act of 1933 (Securities Act), the Securities Exchange Act of 

67 

16See, Release No. 33-9308, ‘‘Exemptions for Security-Based Swaps Issued by Certain Clearing Agencies’’ (March 30, 2012), http://www.sec.gov/rules/final/2012/33-9308.pdf. 17See, Release No. 34-63094, ‘‘Reporting of Security-Based Swap Transaction Data’’ (October 

13, 2010), http://www.sec.gov/rules/interim/2010/34-63094.pdf. 18See, Release No. 34-64628, ‘‘Beneficial Ownership Reporting Requirements and SecurityBased Swaps’’ (June 8, 2011), http://www.sec.gov/rules/final/2011/34-64628.pdf. 19See, Release No. 34-37177, ‘‘Statement of General Policy on the Sequencing of the Compliance Dates for Rules Applicable to Security-Based Swaps’’ (June 11, 2012), http://www.sec.gov/ 

rules/policy/2012/34-67177.pdf. 20See, Release No. 34-64678, ‘‘Temporary Exemptions and Other Temporary Relief, Together 

With Information on Compliance Dates for New Provisions of the Securities Exchange Act of 

1934 Applicable to Security-Based Swaps’’ (June 15, 2011), http://www.sec.gov/rules/exorders/ 

2011/34-64678.pdf. 21See, Release No. 34-64795, ‘‘Order Granting Temporary Exemptions Under the Securities 

Exchange Act of 1934 in Connection with the Pending Revision of the Definition of ‘Security’ 

to Encompass Security-Based Swaps, and Request for Comment’’ (July 1, 2011), http://sec.gov/ 

rules/exorders/2011/34-64795.pdf; Release No. 33-9231, ‘‘Exemptions for Security-Based 

Swaps’’ (July 1, 2011), http://www.sec.gov/rules/interim/2011/33-9231.pdf; and Release No. 

33-9383, ‘‘Extension of Exemptions for Security-Based Swaps’’ (January 29, 2013), http:// 

www.sec.gov/rules/interim/2013/33-9383.pdf. 

1934 (Exchange Act), and the Trust Indenture Act of 1939 for security-based swaps 

transactions involving certain clearing agencies satisfying certain conditions. 16

Adoption of Rules Related to Reporting 

In 2010, the Commission adopted an interim final temporary rule regarding the 

reporting of certain information relating to outstanding security-based swap transactions entered into prior to the date of enactment of the Dodd-Frank Act. 17 In 

2011, we also readopted certain of our beneficial ownership rules to preserve their 

application to persons who purchase or sell security-based swaps. 18

Issuance of Implementation Policy Statement 

In addition to its work to propose and adopt Title VII rules, the Commission 

issued a policy statement in June 2012, describing and requesting public comment 

on the order in which it expects to require compliance by market participants with 

the final Title VII rules. 19 The Commission’s approach aims to avoid the disruption 

and cost that could result if compliance with all of the rules were required simultaneously or haphazardly. More generally, the policy statement is part of our overall 

commitment to making sure that market participants know what the ‘‘rules of the 

road’’ are before requiring compliance with those rules. 

The implementation policy statement is divided into five broad categories of final 

rules to be adopted by the Commission and explains how the compliance dates of 

these rules would be sequenced in relative terms by describing the dependencies 

that exist within and among the categories. The statement emphasizes that those 

subject to the new regulatory requirements arising from these rules will be given 

adequate, but not excessive, time to come into compliance with them. 

The statement also discusses the timing of the expiration of temporary relief the 

Commission previously granted security-based swap market participants from certain provisions of the Federal securities laws. The expiration of much of this relief 

is tied to the effective or compliance dates of certain rules to be adopted pursuant 

to Title VII. 

Market participants have provided comments on the sequencing set out in the policy statement, and we are taking those into account as we work toward completing 

the Title VII adoption process. 

Provision of Legal Certainty 

Consistent with our commitment to an orderly Title VII implementation process, 

the Commission has taken a number of steps to provide legal certainty and avoid 

unnecessary market disruption that might otherwise have arisen as a result of final 

rules not having been adopted by the July 16, 2011, effective date of Title VII. Specifically, we have: 

• Provided guidance regarding which provisions in Title VII governing securitybased swaps became operable as of the effective date and provided temporary 

relief from several of these provisions; 20

• Provided guidance regarding—and, where appropriate, interim exemptions 

from—the various pre- Dodd-Frank provisions that otherwise would have applied to security-based swaps on July 16, 2011; 21 and 

68 

22See, Release No. 34-64796, ‘‘Order Pursuant to Section 36 of the Securities Exchange Act 

of 1934 Granting Temporary Exemptions From Clearing Agency Registration Requirements 

Under Section 17A(b) of the Exchange Act for Entities Providing Certain Clearing Services for 

Security-Based Swaps’’ (July 1, 2011), http://sec.gov/rules/exorders/2011/34-64796.pdf. 23See, Release No. 34-65543, ‘‘Registration of Security-Based Swap Dealers and Major Security-Based Swap Participants’’ (October 12, 2011), http://www.sec.gov/rules/proposed/2011/34- 

65543.pdf; Release No. 34-68071, ‘‘Capital, Margin, and Segregation Requirements for Security- 

• Provided temporary relief for entities providing certain clearing services for security-based swaps. 22

Next Steps for Implementation of Title VII: Application of Title VII in the Cross-Border Context 

With very limited exceptions, the Commission has not addressed the application 

of the security-based swap provisions of Title VII in the cross-border context in its 

proposed or final rules. Rather than addressing these issues in a piecemeal fashion 

through each of the various substantive rulemakings implementing Title VII, we instead plan to address them holistically in a single proposing release. We believe this 

approach will provide investors, market participants, foreign regulators, and other 

interested parties with the opportunity to consider, as an integrated whole, the 

Commission’s proposed approach to the application of the security-based swap provisions of Title VII in the cross-border context. 

As we have indicated previously, we expect the scope of the effort to be broad. 

The proposal will address the application of Title VII in the cross-border context 

with respect to each of the major registration categories covered by Title VII for security-based swaps: security-based swap dealers; major security-based swap participants; security-based swap clearing agencies; security-based swap data repositories; 

and security-based swap execution facilities. It also will address the application of 

Title VII in connection with reporting and dissemination, clearing, and trade execution, as well as the sharing of information with regulators and related preservation 

of confidentiality with respect to data collected and maintained by security-based 

swap data repositories. 

The cross-border release will involve notice-and-comment rulemaking, not just interpretive guidance. As a rulemaking proposal, the release will consider investor 

protection and incorporate an economic analysis that considers, among other things, 

the effects of the proposal on efficiency, competition, and capital formation. Although the rulemaking approach takes more time, we believe there are a number 

of benefits to this approach, including the opportunity to benefit from public input 

and the opportunity to provide a full articulation of the rationales for, and consideration of reasonable alternatives to, particular approaches that achieve the statutory 

purpose. 

The Dodd-Frank Act specifically requires that the Commission, the CFTC, and the 

prudential regulators ‘‘consult and coordinate with foreign regulatory authorities on 

the establishment of consistent international standards’’ with respect to the regulation of OTC derivatives. The Commission has been actively working on a bilateral 

and multilateral basis with our fellow regulators abroad in such groups as the International Organization of Securities Commissions, the Financial Stability Board, and 

the OTC Derivatives Regulators Group, as we develop our proposed approach to 

cross-border issues under Title VII. Through these discussions and our participation 

in various international task forces and working groups, we also have gathered extensive information about foreign regulatory reform efforts, identified potential 

gaps, overlaps, and conflicts between U.S. and foreign regulatory regimes, and encouraged foreign regulators to develop rules and standards complementary to our 

own under the Dodd-Frank Act. 

Additional Steps 

In addition to proposing rules and interpretive guidance addressing the international implications of Title VII, the Commission expects to propose rules relating 

to books and records and reporting requirements for security-based swap dealers 

and major security-based swap participants. The Commission also expects soon to 

consider the application of mandatory clearing requirements to single-name credit 

default swaps, starting with those that were first cleared prior to the enactment of 

the Dodd-Frank Act. 

Finally, the Commission staff continues to work diligently to develop recommendations for final rules required by Title VII that have been proposed but not 

yet been adopted, including rules relating to: 

• Security-Based Swap Dealers and Major Security-Based Swap Participant Requirements; 23

69 

Based Swap Dealers and Major Security-Based Swap Participants and Capital Requirements for 

Broker-Dealers’’ (October 18, 2012), http://www.sec.gov/rules/proposed/2012/34-68071.pdf; Release No. 34-64766, ‘‘Business Conduct Standards for Security-Based Swaps Dealer and Major 

Security-Based Swap Participants’’ (June 29, 2011), http://www.sec.gov/rules/proposed/2011/ 

34-64766.pdf; and Release No. 34-63727, ‘‘Trade Acknowledgment and Verification on SecurityBased Swap Transactions’’ (January 14, 2011), http://www.sec.gov/rules/proposed/2011/34- 

63727.pdf. 24See, Release No. 34-63346, ‘‘Regulation SBSR—Reporting and Dissemination of SecurityBased Swap Information’’ (November 19, 2010), http://www.sec.gov/rules/proposed/2010/34- 

63346.pdf; and Release No. 34-63347, ‘‘Security-Based Swap Data Repository Registration, Duties, and Core Principles’’ (November 19, 2010), http://www.sec.gov/rules/proposed/2010/34- 

63347.pdf. 25See, Release No. 34-63556, ‘‘End-User Exception of Mandatory Clearing of Security-Based 

Swaps’’ (December 15, 2010), http://www.sec.gov/rules/proposed/2010/34-63556.pdf; Release 

No. 34-63107, ‘‘Ownership Limitations and Governance Requirements for Security-Based Swap 

Clearing Agencies, Security-Based Swap Execution Facilities, and National Securities Exchanges with Respect to Security-Based Swaps under Regulation MC’’ (October 14, 2010), 

http://www.sec.gov/rules/proposed/2010/34-63107.pdf; and ‘‘Registration and Regulation of Security-Based Swap Execution Facilities’’ (February 2, 2011), http://www.sec.gov/rules/proposed/2011/34-63825.pdf. 26See, Release No. 34-63236, ‘‘Prohibition Against Fraud, Manipulation, and Deception in 

Connection with Security-Based Swaps’’ (November 3, 2010), http://www.sec.gov/rules/proposed/2010/34-63236.pdf. 27Section 803(6) of the Dodd-Frank Act defines a financial market utility as ‘‘any person that 

manages or operates a multilateral system for the purpose of transferring, clearing, or settling 

payments, securities, or other financial transactions among financial institutions or between financial institutions and the person.’’ 28See, Release No. 34-68080, ‘‘Clearing Agency Standards’’ (October 22, 2012), http:// 

www.sec.gov/rules/final/2012/34-68080.pdf. 

• Regulatory Reporting and Post-Trade Public Transparency; 24

• Mandatory Clearing and Trade Execution and the Regulation of Clearing Agencies and Security-Based Swap Execution Facilities; 25 and 

• Enforcement and Market Integrity. 26

Clearing Agencies 

Title VIII of the Dodd-Frank Act provides for increased regulation of financial 

market utilities 27 (FMUs) and financial institutions that engage in payment, clearing, and settlement activities that are designated as systemically important. The 

purpose of Title VIII is to mitigate systemic risk in the financial system and promote financial stability. In addition, Title VII of the Dodd-Frank Act requires, 

among other things, that an entity acting as a clearing agency with respect to security-based swaps register with the Commission and that the Commission adopt rules 

with respect to clearing agencies that clear security-based swaps. 

Adoption of Clearing Agency Standards 

Clearing agencies play a critical role in the financial markets by ensuring that 

transactions settle on time and on agreed-upon terms. To promote the integrity of 

clearing agency operations and governance, the Commission adopted rules requiring 

all registered clearing agencies to maintain certain standards with respect to risk 

management and certain operational matters. 28 The rules also contain specific requirements for clearing agencies that perform central counterparty services. For example, such clearing agencies must have in place written policies and procedures 

reasonably designed to: 

• Measure their credit exposures to participants at least once a day; 

• Use margin requirements to limit their credit exposures to participants, to be 

reviewed at least monthly; 

• Maintain sufficient financial resources to withstand, at a minimum, a default 

by the participant family to which the clearing agency has the largest exposure 

in extreme but plausible market conditions (with a higher requirement that 

agencies clearing security-based swaps maintain sufficient resources to cover 

the two largest participant family exposures); and 

• Provide the opportunity to obtain membership in the clearing agency for persons who are not dealers or security-based swap dealers on fair and reasonable 

terms. 

The rules also establish record keeping and financial disclosure requirements for 

all registered clearing agencies as well as several new standards for clearance and 

settlement. 

70 

29See, Dodd-Frank Act §802. 30 Clearing agencies that have been designated systemically important are Chicago Mercantile 

Exchange, Inc., The Depository Trust Company, Fixed Income Clearing Corporation, ICE Clear 

Credit LLC, National Securities Clearing Corporation, and The Options Clearing Corporation. 

Two payment systems were also designated systemically important: The Clearing House Payments Company L.L.C. on the basis of its role as operation of the Clearing House Interbank 

Payments System and CLS Bank International. 31 ‘‘Risk Management Supervision of Designated Clearing Entities’’, http://www.sec.gov/ 

news/studies/2011/813study.pdf. 32See, ‘‘Study on Enhancing Investor Adviser Examinations’’ (January 2011), http:// 

www.sec.gov/news/studies/2011/914studyfinal.pdf; see also, Commissioner Elisse B. Walter, 

Statement on Study Enhancing Investment Adviser Examinations (Required by Section 914 of 

Title IX of the Dodd-Frank Wall Street Reform and Consumer Protection Act) (Jan. 2010), 

http://www.sec.gov/news/speech/2011/spch011911ebw.pdf. 

The new rules were the result of close work between the Commission staff and 

staffs of the CFTC and the Board. The requirements take into consideration recognized international standards, and they are designed to further strengthen the Commission’s oversight of securities clearing agencies, promote consistency in the regulation of clearing organizations generally, and thereby help to ensure that clearing 

agency regulation reduces systemic risk in the financial markets. 

Systemically Important Clearing Agencies 

SEC staff has worked with colleagues at the CFTC, the Board, the Department 

of Treasury, and other U.S. financial agencies on the designation of certain clearing 

agencies as systemically important FMUs. Title VIII of the Dodd-Frank Act provides 

important new enhancements to the regulation and supervision of designated FMUs 

that are designed to provide consistency, promote robust risk management and safety and soundness, reduce systemic risks, and support the stability of the broader 

financial system. 29

Under Title VIII, FSOC is authorized to designate an FMU as systemically important if the failure or a disruption to the functioning of the FMU could create or increase the risk of significant liquidity or credit problems spreading among financial 

institutions or markets and thereby threaten the stability of the U.S. financial system. Since FSOC established an interagency FMU designations committee to develop a framework for the designation of systemically important FMUs, SEC staff 

has actively participated in the designations committee. In July 2012, FSOC designated six clearing agencies registered with the Commission as systemically important FMUs under Title VIII. 30 The SEC staff played an important role in preparing 

the analysis that provided the basis for these designations. 

In addition, as directed by Title VIII and prior to the completion of the designation process, the SEC staff worked jointly with the staffs of the CFTC and the Board 

to develop a report to Congress containing recommendations regarding risk management supervision of clearing entities designated as systemically important. The 

staffs of the agencies met regularly to develop a framework for (1) improving consistency in the clearing entity oversight programs of the SEC and CFTC; (2) promoting robust risk management by designated clearing agencies; and (3) improving 

regulators’ ability to monitor the potential effects of such risk management on the 

stability of the U.S. financial system. The joint report was submitted to Congress 

in July 2011. 31 Consistent with the framework set out in the report, the SEC has 

been engaged in ongoing consultation and cooperation in clearing agency oversight 

with the staffs of the CFTC and the Board. 

Staff Studies Regarding Investment Advisers and Broker-Dealers 

In January 2011, the Commission submitted to Congress two staff studies in the 

investment management area required by the Dodd-Frank Act. 

The first study, mandated by Section 914, analyzed the need for enhanced examination and enforcement resources for investment advisers registered with the Commission. 32 It found that the Commission likely will not have sufficient capacity in 

the near or long term to conduct effective examinations of registered investment advisers with adequate frequency. Therefore, the study stated that the Commission’s 

examination program requires a source of funding adequate to permit the Commission to meet new examination challenges and sufficiently stable to prevent adviser 

examination resources from continuously being outstripped by growth in the number 

of registered investment advisers. 

The study outlined the following three options for strengthening the Commission’s 

investment adviser examination program: (1) imposing user fees on Commission-registered investment advisers to fund their examinations; (2) authorizing one or more 

self-regulatory organizations that assess fees on their members to examine, subject 

to Commission oversight, all Commission-registered investment advisers; or (3) auVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00074 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
71 

33See, ‘‘Study on Investment Advisers and Broker-Dealers’’ (January 2011), http:// 

www.sec.gov/news/studies/2011/913studyfinal.pdf; see also, Statement by SEC Commissioners 

Kathleen L. Casey and Troy A. Paredes Regarding Study on Investment Advisers and BrokerDealers (January 21, 2011), http://www.sec.gov/news/speech/2011/spch012211klctap.htm. 34See, Release No. 33-9175, ‘‘Disclosure for Asset-Backed Securities Required by Section 943 

of the Dodd-Frank Wall Street Reform and Consumer Protection Act’’ (January 20, 2011), 

http://www.sec.gov/rules/final/2011/33-9175.pdf. In addition, in September 2010, the Commission issued an amendment to Regulation FD that implements Section 939B of the Act, which 

requires that the SEC amend Regulation FD to remove the specific exemption from the rule for 

disclosures made to NRSROs and credit rating agencies for the purpose of determining or monitoring credit ratings. See, Release No. 33-9146, ‘‘Removal From Regulation FD of the Exemption 

for Credit Rating Agencies’’ (September 29, 2010), http://www.sec.gov/rules/final/2010/33- 

9146.pdf. 35See, Release No. 34-64514, ‘‘Proposed Rules for Nationally Recognized Statistical Rating Organizations’’ (May 18, 2011), http://www.sec.gov/rules/proposed/2011/34-64514.pdf. 

thorizing FINRA to examine a subset of advisers—specifically, dually registered investment advisers and broker-dealers—for compliance with the Advisers Act. 

The second staff study, required by Section 913 of the Dodd-Frank Act (the ‘‘IA/ 

BD Study’’), addressed the obligations of investment advisers and broker-dealers 

when providing personalized investment advice about securities to retail customers. 33 The staff study noted that retail investors generally are not aware of the 

differences between the regulation of investment advisers and broker-dealers, or the 

legal implications of those differences. The staff study also noted that many investors are confused by the different standards of care that apply to investment advisers and broker-dealers. The IA/BD Study made two primary recommendations: that 

the Commission (1) exercise the discretionary rulemaking authority provided by Section 913 of the Dodd-Frank Act to implement a uniform fiduciary standard of conduct for broker-dealers and investment advisers when they are providing personalized investment advice about securities to retail investors; and (2) consider harmonization of broker-dealer and investment adviser regulation when broker-dealers and 

investment advisers provide the same or substantially similar services to retail investors and when such harmonization adds meaningfully to investor protection. 

Under Section 913, the uniform fiduciary standard to which broker-dealers and 

investment advisers would be subject would be ‘‘to act in the best interest of the 

customer without regard to the financial or other interest of the broker, dealer, or 

investment adviser providing the advice.’’ The uniform fiduciary standard would be 

‘‘no less stringent’’ than the standard that applies to investment advisers today. 

We are giving serious consideration to the study’s recommendations. Since publishing the IA/BD Study, the staff, including the Commission’s economists, continues 

to review current information and available data about the marketplace for personalized investment advice and the potential impact of the study’s recommendations. 

While we have extensive experience in the regulation of broker-dealers and investment advisers, we believe the public can provide further data and other information 

to assist us in determining whether or not to adopt a uniform fiduciary standard 

of conduct or otherwise use the authority provided under Section 913 of the DoddFrank Act. To this end, the staff is drafting a public request for information to obtain data specific to the provision of retail financial advice and the regulatory alternatives. The request aims to seek information from commenters—including retail investors, as well as industry participants—that will be helpful to us as we continue 

to analyze the various components of the market for retail financial advice. 

Credit Rating Agencies 

Under the Dodd-Frank Act, the Commission is required to undertake approximately a dozen rulemakings related to nationally recognized statistical rating organizations (NRSROs). The Act requires the SEC to address, among other things, internal controls and procedures, conflicts of interest, credit rating methodologies, 

transparency, ratings performance, analyst training, credit rating symbols and definitions, and disclosures accompanying the publication of credit ratings. The Commission adopted the first of these required rulemakings in January 2011, 34 and in 

May 2011 published for public comment a series of proposed rules that would further implement this requirement. 35 The proposed rules are intended to strengthen 

the integrity of credit ratings by, among other things, improving their transparency. 

Under the Commission’s proposals, NRSROs would, among other things, be required 

to: 

• Report on their internal controls; 

• Better protect against conflicts of interest; 

• Establish professional standards for their credit analysts; 

72 

36 ‘‘Credit Rating Standardization Study’’ (September 2012), http://www.sec.gov/news/studies/2012/939hlcreditlratinglstandardization.pdf. 37 ‘‘Report to Congress on Assigned Credit Ratings’’ (December 2012), http://www.sec.gov/ 

news/studies/2012/assigned-credit-ratings-study.pdf. The staff is currently in the process of organizing a public roundtable to invite discussion from proponents and critics of the three courses 

of action discussed in the report. 38See, Dodd-Frank Act §939C. 39 ‘‘Report on Review of Reliance on Credit Ratings’’ (July 2011), http://www.sec.gov/news/ 

studies/2011/939astudy.pdf. 40See, Release No. 33-9245, ‘‘Security Ratings’’ (July 27, 2011), http://www.sec.gov/rules/ 

final/2011/33-9245.pdf. 41See, Release No. 33-9117, ‘‘Asset-Backed Securities’’ (April 7, 2010), http://www.sec.gov/ 

rules/proposed/2010/33-9117.pdf. 42See, Release No. 34-64352, ‘‘Removal of Certain References to Credit Ratings Under the Securities Exchange Act of 1934’’ (April 27, 2011), http://www.sec.gov/rules/proposed/2011/34- 

64352.pdf. 43See, Release No. 34-67448, ‘‘Commission Guidance Regarding Definitions of Mortgage Related Security and Small Business Related Security’’ (July 17, 2012), http://www.sec.gov/rules/ 

interp/2012/34-67448.pdf. 44See, Release Nos. 33-9193; IC-29592, ‘‘References to Credit Ratings in Certain Investment 

Company Act Rules and Forms’’ (March 3, 2011), http://www.sec.gov/rules/proposed/2011/33- 

9193.pdf. In addition, in November 2012, the Commission adopted a rule establishing a credit 

quality standard that certain investments by business and industrial development companies 

must satisfy for those companies to qualify for an exemption from most provisions of the Investment Company Act. ‘‘Purchase of Certain Debt Securities by Business and Industrial Development Companies Relying on an Investment Company Act Exception’’ (November 19, 2012), 

http://www.sec.gov/rules/final/2012/ic-30268.pdf. 45See, Release No. 33-9146, ‘‘Removal From Regulation FD of the Exemption for Credit Rating Agencies’’ (September 29, 2010), http://www.sec.gov/rules/final/2010/33-9146.pdf. 

• Provide, along with the publication of any credit rating, public disclosure about 

the credit rating and the methodology used to determine it; and 

• Provide enhanced public disclosures about the performance of their credit ratings. 

The Dodd-Frank Act also mandated three studies relating to credit rating agencies: (1) a study on the feasibility and desirability of standardizing credit rating terminology, which was published in September 2012; 36 (2) a study on alternative compensation models for rating structured finance products, which was published in December 2012; 37 and (3) a study on NRSRO independence, which the Commission 

staff is actively developing and which is due in July 2013. 38

The Act also requires every Federal agency to review its regulations that require 

use of credit ratings as an assessment of the credit-worthiness of a security and undertake rulemakings to remove these references and replace them with other standards of creditworthiness deemed appropriate. In July 2011, the staff published a report discussing the following steps the Commission has taken to fulfill this requirement: 39

• In July 2011, the Commission adopted rule amendments removing credit ratings as conditions for companies seeking to use short-form registration when 

registering nonconvertible securities for public sale. 40 In addition, prior to adoption of the Act, in April 2010, the Commission proposed new requirements to 

replace the current credit rating references in shelf eligibility criteria for assetbacked security issuers with new shelf eligibility criteria. 41 In light of the Act 

and comment received on the April 2010 proposal, in July 2011, the Commission reproposed the shelf eligibility criteria for offerings of asset-backed securities. 

• In April 2011, the Commission proposed removing references to credit ratings 

in rules concerning broker-dealer financial responsibility, distributions of securities, and confirmations of transactions. 42 Also, in July 2012, the Commission 

issued an Interpretive Release in response to Section 939(e) of the Dodd-Frank 

Act, which removes references to credit ratings by NRSROs in two definitions 

in the Exchange Act. 43

• In March 2011, the Commission proposed to remove credit ratings from rules 

relating to the types of securities in which a money market fund can invest and 

the treatment of repurchase agreements for certain purposes under the Investment Company Act as well as from the disclosure forms that certain investment 

companies must use. 44

In September 2010, the Commission also adopted a rule amendment removing 

communications with credit rating agencies from the list of excepted communications in Regulation FD, as required by Section 939B of the Dodd-Frank Act. 45

73 

46 ‘‘2012 Summary Report of Commission Staff’s Examinations of Each Nationally Recognized 

Statistical Rating Organization’’ (November 2012), http://www.sec.gov/news/studies/2012/ 

nrsro-summary-report-2012.pdf. 47See, Release No. IOSCO/MR/34/2012, ‘‘IOSCO Publishes Two Reports Advancing Its Work 

on Credit Rating Agencies’’ (Dec. 21, 2012) http://www.iosco.org/news/pdf/ 

IOSCONEWS261.pdf. 48See, Release No. 34-65545, ‘‘Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds and Private Equity Funds’’ (October 12, 

2011), http://www.sec.gov/rules/proposed/2011/34-65545.pdf. The CFTC issued a substantially 

similar proposal in January 2012, which was published in the Federal Register in February 

2012. See, 77 FR 8332 (February 14, 2012), http://www.cftc.gov/LawRegulation/ 

FederalRegister/ProposedRules/2012-935. 49 In developing this proposal, interagency staffs gave close and thoughtful consideration to 

the FSOC’s January 2011 study and its recommendations for implementing Section 619, which 

can be found at http://www.treasury.gov/initiatives/Documents/ 

Volcker%20sec%20%20619%20study%20final%201%2018%2011%20rg.pdf. As a result, the joint 

proposal builds upon many of the recommendations set forth in the FSOC study. 50Section 619 defines ‘‘banking entity’’ as any insured depository institution (other than certain limited purpose trust institutions), any company that controls an insured depository institution, any company that is treated as a bank holding company for purposes of section 8 of the 

International Banking Act of 1978 (i.e., a foreign entity with a branch, agency, or subsidiary 

bank operation in the U.S.), and any affiliate or subsidiary of any of the foregoing entities. See, 

12 U.S.C. 1851(h)(1). 51The Commission and the Federal banking agencies extended the comment period for the 

joint proposal from January 13, 2012 to February 13, 2012. See, Release No. 34-66057 (DecemContinued 

Finally, the Dodd-Frank Act requires the Commission to conduct staff examinations of each NRSRO at least annually and to issue an annual report summarizing 

the exam findings. As discussed in greater detail below, our staff recently completed 

the second cycle of these exams, and, following approval by the Commission, the 

staff’s summary report of the examinations was published in November 2012. 46 The 

staff will continue to focus on completing the statutorily mandated annual examinations of each NRSRO, including follow-up from prior examinations, and making public the summary report of those examinations to promote compliance with statutory 

and Commission requirements. It also is taking steps in response to a recent International Organization of Securities Commissions preliminary recommendation to establish ‘‘colleges’’ of regulators to provide a framework for information exchange and 

collaboration with foreign counterparts regarding large globally active credit rating 

agencies. 47

Volcker Rule 

In October 2011, the Commission proposed a rule jointly with the Board, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency (collectively, the ‘‘Federal banking agencies’’) to implement Section 619 of the 

Dodd-Frank Act, commonly referred to as the ‘‘Volcker Rule.’’ 48 This proposal reflects an extensive, collaborative effort among the Federal banking agencies, the 

SEC, and the CFTC, under the coordination of the Department of the Treasury 

(Treasury), to design a rule to implement the Volcker Rule’s prohibitions and restrictions in a manner that is consistent with the language and purpose of the statute. 49

As required by Section 619, the joint proposal generally prohibits banking entities—including bank-affiliated, SEC-registered broker-dealers, security-based swap 

dealers, and investment advisers—from engaging in proprietary trading and having 

certain interests in, and relationships with, hedge funds and private equity funds 

(covered funds). 50 Like the statute, the proposed rule provides certain exceptions to 

these general prohibitions. For example, the proposal permits a banking entity to 

engage in underwriting, market making-related activity, risk-mitigating hedging, 

and organizing and offering a covered fund, among other permitted activities, provided that specific requirements are met. Further, consistent with the statute, an 

otherwise-permitted activity would be prohibited if it involved a material conflict of 

interest, high-risk assets or trading strategies, or a threat to the safety and soundness of the banking entity or to the financial stability of the United States. As set 

forth in the Dodd-Frank Act, the Commission’s rule would apply to banking entities 

for which the Commission is the primary financial regulatory agency, including, 

among others, certain SEC-registered broker-dealers, investment advisers, and security-based swap dealers. 

The joint proposal sought comment on a wide range of topics due, in part, to the 

breadth of issues presented by the statute and the proposal. In response, the Commission has received nearly 19,000 comment letters, including more than 600 

unique and detailed letters. 51 These comments represent a wide variety of viewVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00077 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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ber 23, 2011), http://www.sec.gov/rules/proposed/2011/34-66057.pdf. The Commission’s public 

comment file is available at http://www.sec.gov/comments/s7-41-11/s74111.shtml. 52See, 76 FR 8265 (February 14, 2011). 53See, 77 FR 33949 (June 8, 2012). The Board policy statement further provides that, during 

the conformance period, banking entities should engage in good-faith planning efforts, appropriate for their activities and investments, to enable them to conform their activities and investments to the requirements of Section 619 and final implementing rules by no later than the 

end of the conformance period. 54See, Release No. 34-62824, ‘‘Temporary Registration of Municipal Advisors’’ (September 1, 

2010), http://www.sec.gov/rules/interim/2010/34-62824.pdf. 55See, Release No. 34-63576, ‘‘Registration of Municipal Advisors’’ (December 20, 2010), 

http://sec.gov/rules/proposed/2010/34-63576.pdf. 56The Office of Municipal Securities is described in more detail below. 57See, Release No. 34-65148, ‘‘Suspension of the Duty to File Reports for Classes of AssetBacked Securities Under Section 15(d) of the Securities Exchange Act of 1934’’ (August 17, 

2011), http://www.sec.gov/rules/final/2011/34-65148.pdf. 

points on a number of complex topics, and we are closely considering them as we 

continue to work with the Federal banking agencies, the CFTC, and Treasury to develop rules to implement Section 619. Staffs from each of the regulatory agencies 

and Treasury are engaged in regular and active consultation to determine how best 

to move forward to implement the statute. 

Pursuant to the Dodd-Frank Act, the statutory requirements of Section 619 became effective on July 21, 2012. However, the statute also provides for a conformance period following the effective date. Section 619 authorizes the Board to establish rules regarding the conformance period. The Board issued a conformance rule 

in February 2011 52 and a related policy statement in April 2012, which confirmed 

that banking entities have 2 years, beginning July 21, 2012, to conform all of their 

activities and investments to the requirements of Section 619, unless the Board extends the conformance period. 53

Municipal Advisors 

Section 975 of the Dodd-Frank Act creates a new class of regulated persons, ‘‘municipal advisors,’’ and requires these advisors to register with the Commission. This 

new registration requirement, which became effective on October 1, 2010, makes it 

unlawful for any municipal advisor, among other things, to provide advice to a municipal entity unless the advisor is registered with the Commission. In September 

2010, the Commission adopted, and subsequently extended, an interim final rule establishing a temporary means for municipal advisors to satisfy the registration requirement. 54 The Commission has received over 1,100 confirmed registrations of 

municipal advisors pursuant to this temporary rule. 

In December 2010, the Commission proposed a permanent rule to govern municipal advisor registration with the SEC. 55 We have received over 1,000 comment letters on the proposal. Many expressed concern that the proposed rules were 

overbroad in various respects, including their potential impact on appointed board 

members of municipal entities, municipal investments unrelated to municipal securities, and traditional banking products and services. 

Finalizing the permanent rules for the registration of municipal advisors is now 

the highest immediate priority of the SEC’s newly established Office of Municipal 

Securities. 56 We anticipate that the final rules would address, among other things, 

the well-publicized concerns about the need for an exception from registration for 

appointed board members of municipal entities. In addition, the staff is continuing 

to discuss many interpretive issues with other regulators and interested market 

participants in pursuit of a final rule that requires appropriate registration of parties engaging in municipal advisory activities without unnecessarily imposing additional regulation. 

Asset-Backed Securities 

The Commission has been active in implementing Subtitle D of Title IX of the 

Dodd-Frank Act, entitled ‘‘Improvements to the Asset-Backed Securitization Process’’. In August 2011, the Commission adopted rules in connection with Section 

942(a) of the Act, which eliminated the automatic suspension of the duty to file reports under Section 15(d) of the Exchange Act for asset-backed security (ABS) 

issuers and granted the Commission authority to issue rules providing for the suspension or termination of this duty to file reports. The new rules permit suspension 

of the reporting obligations for ABS issuers when there are no longer asset-backed 

securities of the class sold in a registered transaction held by nonaffiliates of the 

depositor. 57

The Commission also is working closely with other regulators to jointly create the 

risk retention rules required by Section 941 of the Act, which will address the apVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00078 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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58See, Release No. 34-64148, ‘‘Credit Risk Retention’’ (March 30, 2011), http://www.sec.gov/ 

rules/proposed/2011/34-64148.pdf. Section 941, is codified as the new Section 15G of the Exchange Act. It generally requires the Commission, the Board, Federal Deposit Insurance Corporation, Office of the Comptroller of the Currency and, in the case of the securitization of any 

‘‘residential mortgage asset,’’ the Federal Housing Finance Agency and Department of Housing 

and Urban Development, to jointly prescribe regulations that require a securitizer to retain not 

less than 5 percent of the credit risk of any asset that the securitizer, through the issuance of 

an asset-backed security, transfers, sells, or conveys to a third party. Section 15G also provides 

that the jointly prescribed regulations must prohibit a securitizer from directly or indirectly 

hedging or otherwise transferring the credit risk that the securitizer is required to retain. See, 

§780-11(c)(1)(A). 

59The SEC received letters on the proposal from over 10,000 commentators, representing approximately 275 unique comment letters. 60See, Release No. 33-9175, ‘‘Disclosure for Asset-Backed Securities Required by Section 943 

of the Dodd-Frank Wall Street Reform and Consumer Protection Act’’ (January 20, 2011), 

http://www.sec.gov/rules/final/2011/33-9175.pdf. 61See, Release No. 33-9176, ‘‘Issuer Review of Assets in Offerings of Asset-Backed Securities’’ 

(January 20, 2011), http://www.sec.gov/rules/final/2011/33-9176.pdf. 62See, Release No. 34-65355, ‘‘Prohibition Against Conflicts of Interest in Certain 

Securitizations’’ (September 19, 2011), http://www.sec.gov/rules/proposed/2011/34-65355.pdf. 

propriate amount, form and duration of required risk retention for ABS securitizers 

and will define qualified residential mortgages (QRMs). On March 30, 2011, the 

Commission joined its fellow regulators in issuing for public comment proposed risk 

retention rules to implement Section 941. 58

Under the proposed rules, a sponsor generally would be permitted to choose from 

a menu of four risk retention options to satisfy its minimum 5 percent risk retention 

requirement. These options were designed to provide sponsors with flexibility while 

also ensuring that they actually retain credit risk to align incentives. The proposed 

rules also include three transaction-specific options related to securitizations involving revolving asset master trusts, asset-backed commercial paper conduits, and commercial mortgage-backed securities. Also, as required by Section 941, the proposal 

provides a complete exemption from the risk retention requirements for ABS 

collateralized solely by QRMs and establishes the terms and conditions under which 

a residential mortgage would qualify as a QRM. We have received a number of comments regarding the QRM exemption, as well as concerning other aspects of the proposal. 59 The staff currently is considering those comments and diligently working 

with the other agencies’ staff to move forward with this interagency rulemaking. 

In January 2011 the Commission also adopted rules on the use of representations 

and warranties in the market for ABS as required by the Act’s Section 943. 60 The 

rules required ABS issuers to disclose the history of repurchase requests received 

and repurchases made relating to their outstanding ABS. Issuers were required to 

make their initial filing on February 14, 2012, disclosing the repurchase history for 

the 3 years ending December 31, 2011. The disclosure requirements apply to issuers 

of registered and unregistered ABS, including municipal ABS, though the rules provide municipal ABS an additional 3-year phase-in period. 

The Commission also adopted rules in January 2011 to implement Section 945, 

which required an asset-backed issuer in a Securities Act registered transaction to 

perform a review of the assets underlying the ABS and disclose the nature of such 

review. 61 Under the final rules, the type of review conducted may vary, but at a 

minimum must be designed and effected to provide reasonable assurance that the 

prospectus disclosure about the assets is accurate in all material respects. The final 

rule provided a phase-in period to allow market participants to adjust their practices to comply with the new requirements. 

Prohibition Against Conflicts of Interest in Certain Securitizations 

In September 2011, the Commission proposed a rule to implement the prohibition 

under Section 621 of the Act, which prohibited entities that create and distribute 

ABS from engaging in transactions that involve or result in material conflicts of interest with respect to the investors in such ABS. 62 The proposed rule would implement this provision by prohibiting underwriters, placement agents, initial purchasers, sponsors of ABS, or any affiliate or subsidiary of such entity from engaging 

in any transaction that would involve or result in any material conflicts of interest 

with respect to any investor in the relevant ABS. These entities, referred to as 

‘‘securitization participants,’’ assemble, package, and distribute ABS, so they may 

benefit from the activity that Section 621 is designed to prohibit. The prohibition 

would apply to both nonsynthetic and synthetic asset-backed securities and would 

apply to both registered and unregistered offerings of asset-backed securities. 

The proposal is not intended to prohibit legitimate securitization activities. We 

asked many questions in the release to help us strike the right balance of prohibVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00079 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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63See, Release No. 33-9178, ‘‘Shareholder Approval of Executive Compensation and Golden 

Parachute Compensation’’ (January 25, 2011), http://www.sec.gov/rules/final/2011/33- 

9178.pdf. 64See, Release No. 34-63123, ‘‘Reporting of Proxy Votes on Executive Compensation and 

Other Matters’’ (October 18, 2010), http://www.sec.gov/rules/proposed/2010/34-63123.pdf. 65See, Release No. 33-9330, ‘‘Listing Standards for Compensation Committees’’ (June 20, 

2012), http://www.sec.gov/rules/final/2012/33-9330.pdf. 66See, Release No. 34-68022 (October 9, 2012), http://www.sec.gov/rules/sro/bats/2012/34- 

68022.pdf (BATS Exchange, Inc.); Release No. 34-68020 (October 9, 2012), http://www.sec.gov/ 

rules/sro/cboe/2012/34-68020.pdf (Chicago Board of Options Exchange, Inc.); Release No. 34- 

68033 (October 10, 2012), http://www.sec.gov/rules/sro/chx/2012/34-68033.pdf (Chicago Stock 

Exchange, Inc.); Release No. 34-68013 (October 9, 2012), http://www.sec.gov/rules/sro/nasdaq/ 

2012/34-68013.pdf (Nasdaq Stock Market LLC); Release No. 34-68018 (October 9, 2012), http:// 

www.sec.gov/rules/sro/bx/2012/34-68018.pdf (Nasdaq OMX BX, Inc.); Release No. 34-68039 

(October 11, 2012), http://www.sec.gov/rules/sro/nsx/2012/34-68039.pdf (National Stock Exchange, Inc.); Release No. 34-68011 (October 9, 2012), http://www.sec.gov/rules/sro/nyse/ 

2012/34-68011.pdf (New York Stock Exchange LLC); Release No. 34-68006 (October 9, 2012), 

http://www.sec.gov/rules/sro/nysearca/2012/34-68006.pdf (NYSEArca LLC); Release No. 34- 

68007 (October 9, 2012), http://www.sec.gov/rules/sro/nysemkt/2012/34-68007.pdf (NYSE 

MKT LLC). 67See, Release No. 34-68643 (January 11, 2013), http://www.sec.gov/rules/sro/bats/2013/ 

34-68643.pdf (BATS Exchange, Inc.); Release No. 34-68642 (January 11, 2013), http:// 

www.sec.gov/rules/sro/cboe/2013/34-68642.pdf (Chicago Board of Options Exchange, Inc.); Release No. 34-68653 (January 14, 2013), http://www.sec.gov/rules/sro/chx/2013/34-68653.pdf 

(Chicago Stock Exchange, Inc.); Release No. 34-68640 (January 11, 2013), http://www.sec.gov/ 

rules/sro/nasdaq/2013/34-68640.pdf (Nasdaq Stock Market LLC); Release No. 34-68641 (January 11, 2012), http://www.sec.gov/rules/sro/bx/2013/34-68641.pdf (Nasdaq OMX BX, Inc.); Release No. 34-68662 (January 15, 2012), http://www.sec.gov/rules/sro/nsx/2013/34-68662.pdf 

(National Stock Exchange, Inc.); Release No. 34-68635 (January 11, 2013), http://www.sec.gov/ 

rules/sro/nyse/2013/34-68635.pdf (New York Stock Exchange LLC); Release No. 34-68638 

iting the type of conduct at which the statute is targeted without restricting legitimate securitization activities. The Commission received a number of comments on 

the proposal, and the staff is carefully considering those comments in preparing its 

recommendation to the Commission. 

Corporate Governance and Executive Compensation 

The Dodd-Frank Act includes a number of corporate governance and executive 

compensation provisions that require Commission rulemaking. Among others, such 

rulemakings include: 

• Say on Pay. In accordance with Section 951 of the Act, in January 2011 the 

Commission adopted rules that require public companies subject to the Federal 

proxy rules to provide a shareholder advisory ‘‘say-on-pay’’ vote on executive 

compensation, a separate shareholder advisory vote on the frequency of the sayon-pay vote, and disclosure about, and a shareholder advisory vote to approve, 

compensation related to merger or similar transactions, known as ‘‘golden parachute’’ arrangements. 63 Companies (other than smaller reporting companies) 

began providing these say-on-pay and ‘‘say-on-frequency’’ advisory votes at 

shareholder meetings occurring on or after January 21, 2011. The rules provided smaller reporting companies a 2-year delayed compliance period for the 

say-on-pay and ‘‘frequency’’ votes, and those companies began complying with 

the rules on January 21, 2013. The Commission also proposed rules to implement the Section 951 requirement that institutional investment managers report their votes on these matters at least annually. 64

• Compensation Committee and Adviser Requirements. In June 2012, the Commission adopted rules to implement Section 952 of the Act, which requires the 

Commission to, by rule, direct the national securities exchanges and national 

securities associations to prohibit the listing of any equity security of an issuer 

that does not comply with new compensation committee and compensation adviser requirements. 65 The new rules direct the exchanges to establish listing 

standards concerning compensation advisers and listing standards that require 

each member of a listed issuer’s compensation committee to be an ‘‘independent’’ member of the board of directors. The rules also require disclosure 

about the use of compensation consultants and related conflicts of interest. Each 

national securities exchange must have final rules or rule amendments complying with the new rules approved by the Commission no later than June 27, 

2013. To conform their rules governing independent compensation committees 

to the new requirements, national securities exchanges that have rules providing for the listing of equity securities have filed proposed rule changes with 

the Commission. 66 The Commission issued final orders approving the proposed 

rule changes in January 2013. 67

77 

(January 11, 2013), http://www.sec.gov/rules/sro/nysearca/2013/34-68638.pdf (NYSEArca 

LLC); Release No. 34-68637 (January 11, 2013), http://www.sec.gov/rules/sro/nysemkt/2013/ 

34-68637.pdf (NYSE MKT LLC). 68See, Release no. 34-64140 (March 29, 2011), http://www.sec.gov/rules/proposed/2011/34- 

64140.pdf. 69See, Release No. 34-62874 (September 9, 2010), http://www.sec.gov/rules/sro/nyse/2010/ 

34-62874.pdf (New York Stock Exchange); Release No. 34-62992 (September 24, 2010), http:// 

www.sec.gov/rules/sro/nasdaq/2010/34-62992.pdf (NASDAQ Stock Market LLC); Release No. 

34-63139 (October 20, 2010), http://www.sec.gov/rules/sro/ise/2010/34-63139.pdf (International Securities Exchange); Release No. 34-63917 (February 16, 2011), http://www.sec.gov/ 

rules/sro/cboe/2011/34-63917.pdf (Chicago Board Options Exchange); Release No. 34-63918 

(February 16, 2011), http://www.sec.gov/rules/sro/c2/2011/34-63918.pdf (C2 Options Exchange, Incorporated); Release No. 34-64023 (March 3, 2011), http://www.sec.gov/rules/sro/bx/ 

2011/34-64023.pdf (NASDAQ OMX BX, Inc.); Release No. 34-64024 (March 3, 2011), http:// 

www.sec.gov/rules/sro/bx/2011/34-64024.pdf (Boston Options Exchange Group, LLC); Release 

No. 34-64121 (March 24, 2011), http://www.sec.gov/rules/sro/chx/2011/34-64121.pdf (Chicago 

Stock Exchange); Release No. 34-64122 (March 24, 2011), http://www.sec.gov/rules/sro/phlx/ 

2011/34-64122.pdf (NASDAQ OMX PHLX LLC); Release No. 34-64186 (April 5, 2011), http:// 

www.sec.gov/rules/sro/edgx/2011/34-64186.pdf (EDGX Exchange); Release No. 34-64187 (April 

5, 2011), http://www.sec.gov/rules/sro/edga/2011/34-64187.pdf (EDGA Exchange); Release 

No. 34-65449 (September 30, 2011), http://www.sec.gov/rules/sro/bats/2011/34-65449.pdf 

(BATS Exchange, Inc.); Release No. 34-65448 (September 30, 2011), http://www.sec.gov/rules/ 

sro/byx/2011/34-65448.pdf (BATS Y-Exchange, Inc.); Release No. 34-65804 (November 22, 

2011), http://www.sec.gov/rules/sro/nsx/2011/34-65804.pdf (National Stock Exchange, Inc.); 

Release No. 34-66006 (December 20, 2011) http://www.sec.gov/rules/sro/nyseamex/2011/34- 

66006.pdf (NYSE Amex LLC); Release No. 34-66192 (January 19, 2012), http://www.sec.gov/ 

rules/sro/nysearca/2012/34-66192.pdf (NYSE Arca, Inc.); and Release No. 68723 (January 24, 

2013) (MIAX-2013-02). 70See, Section 954 of the Dodd-Frank Act. 71See, Section 953(a) of the Dodd-Frank Act. 72See, Section 953(b) of the Dodd-Frank Act. 73See, Section 955 of the Dodd-Frank Act. 74See, Release No. 33-9286, ‘‘Mine Safety Disclosure’’ (December 21, 2011), http:// 

www.sec.gov/rules/final/2011/33-9286.pdf. 

• Incentive-Based Compensation Arrangements. Section 956 of the Dodd-Frank 

Act requires the Commission, along with six other financial regulators, to jointly adopt regulations or guidelines governing the incentive-based compensation 

arrangements of certain financial institutions, including broker-dealers and investment advisers with $1 billion or more of assets. Working with the other regulators, in March 2011 the Commission published for public comment a proposed rule that would address such arrangements. 68 The Commission has received many comment letters on the proposed rule, and the Commission staff, 

together with staff from the other regulators, is carefully considering the issues 

and concerns raised in those comments before adopting final rules. 

• Prohibition on Broker Voting of Uninstructed Shares. Section 957 of the Act requires the rules of each national securities exchange to be amended to prohibit 

brokers from voting uninstructed shares in director elections (other than 

uncontested elections of directors of registered investment companies), executive 

compensation matters, or any other significant matter, as determined by the 

Commission by rule. The Commission has approved changes to the rules with 

regard to director elections and executive compensation matters for all of the 

national securities exchanges. 69

The Commission also is required by the Act to adopt several additional rules related to corporate governance and executive compensation, including rules mandating new listing standards relating to specified ‘‘claw back’ policies 70 and new disclosure requirements about executive compensation and company performance, 71

executive pay ratios, 72 and employee and director hedging. 73 The staff is working 

diligently on developing recommendations for the Commission concerning the implementation of these provisions of the Act. 

Specialized Disclosure Provisions 

Title XV of the Act contains specialized disclosure provisions related to conflict 

minerals, coal or other mine safety, and payments by resource extraction issuers to 

foreign or U.S. Government entities. The Commission adopted final rules for the 

mine safety provision in December 2011, 74 and companies are currently complying 

with those rules. In addition, the Commission adopted final rules for disclosure relating to conflict minerals and payments by resource extraction issuers in August 

78 

75See, Release No. 34-67716, ‘‘Conflict Minerals’’ (August 22, 2012), http://www.sec.gov/ 

rules/final/2012/34-67716.pdf and ‘‘Disclosure of Payments by Resource Extraction Issuers’’ 

(August 22, 2012), http://www.sec.gov/rules/final/2012/34-67717.pdf. 76See, American Petroleum Institute, et al. v. United States Securities and Exchange Commission, No. 12-1398 (D.C. Cir. filed Oct. 10, 2012) and National Association of Manufacturers, et 

al. v. United States Securities and Exchange Commission, No. 12-1422 (D.C. Cir. filed Oct. 19, 

2012). The Commission received a motion requesting that it stay the newly adopted disclosure 

rules for resource extraction issuers, but the Commission declined to issue a stay order. See, 

http://www.sec.gov/rules/final/2012/34-67717-motion-stay.pdf and Release No. 68197 (November 8, 2012), http://www.sec.gov/rules/other/2012/34-68197.pdf. The petitioners in the litigation concerning the conflict minerals rule did not request a stay of the newly adopted rule. 77See, Release No. 33-9287, ‘‘Net Worth Standard for Accredited Investors’’ (December 21, 

2011) and (March 23, 2012), http://www.sec.gov/rules/final/2011/33-9287.pdf and http:// 

www.sec.gov/rules/final/2012/33-9287a.pdf (technical amendment). 78See, Release No. 33-9211, ‘‘Disqualification of Felons and Other ‘Bad Actors’ From Rule 506 

Offerings’’ (May 25, 2011), http://www.sec.gov/rules/proposed/2011/33-9211.pdf. 

2012. 75 The conflict minerals and resource extraction issuer rulemakings were effective in November 2012 and established phase-in periods for compliance to provide 

issuers time to establish systems and processes to comply with the new rules. Companies subject to the conflict minerals disclosure requirement will be required to 

make their first filing with the disclosure on new Form SD on May 31, 2014, for 

the 2013 calendar year. Companies subject to the resource extraction issuer disclosure requirement will be required to comply with the rules for fiscal years ending 

after September 30, 2013. The conflict minerals and resource extraction issuer 

rulemakings are subject to pending litigation. 76

Exempt Offerings 

In December 2011, the Commission adopted rule amendments to implement Section 413(a) of the Act, which requires the Commission to exclude the value of an 

individual’s primary residence when determining if that individual’s net worth exceeds the $1 million threshold required for ‘‘accredited investor’’ status. 77 Section 

413(a) was effective on the date of enactment of the Dodd-Frank Act and the implementing rules clarify the requirements and codify them in the Commission’s rules. 

Under Section 926 of the Act, the Commission is required to adopt rules that disqualify securities offerings involving certain ‘‘felons and other ‘bad actors’ ’’ from relying on the safe harbor from Securities Act registration provided by Rule 506 of 

Regulation D. The Commission proposed rules to implement the requirements of 

Section 926 on May 25, 2011. 78 Under the proposal, the disqualifying events include 

certain criminal convictions, court injunctions and restraining orders; certain final 

orders of State securities, insurance, banking, savings association or credit union 

regulators, Federal banking agencies or the National Credit Union Administration; 

certain types of Commission disciplinary orders; suspension or expulsion from membership in, or from association with a member of, a securities self-regulatory organization; and certain other securities-law related sanctions. The comment period for 

this rule proposal has ended and the staff is developing recommendations for final 

rules. 

Financial Stability Oversight Council 

Title I of the Dodd-Frank Act provides that the Chairman of the SEC shall serve 

as a voting member of FSOC. FSOC provides a formal structure for coordination 

among the various financial regulators to monitor systemic risk and to promote financial stability across our Nation’s financial system. As Chairman of the SEC, I 

participate in the systemic risk oversight activities of the Council and coordinate 

with my colleagues on the Council to facilitate efficient and effective implementation 

of the Dodd-Frank Act. 

New Commission Offices 

In addition to the Office of the Whistleblower mentioned above, the Dodd-Frank 

Act required the Commission to create four new offices: the Office of Credit Ratings, 

Office of the Investor Advocate, Office of Minority and Women Inclusion, and Office 

of Municipal Securities. As each of these offices is statutorily required to report directly to the Chairman, the creation of these offices was subject to approval by the 

Commission’s Appropriations subcommittees. 

Office of Credit Ratings 

As required by Section 932, the Commission established an Office of Credit Ratings (OCR) with the appointment of OCR’s Director in June 2012. OCR is charged 

with administering the rules of the Commission with respect to the practices of 

NRSROs in determining credit ratings for the protection of users of credit ratings 

79 

79See, ‘‘SEC Issues Staff Summary Report of Examinations of Nationally Recognized Statistical Rating Organizations’’, 2012–228 (November 2012), http://www.sec.gov/news/studies/ 

2012/nrsro-summary-report-2012.pdf. 

and in the public interest, promoting accuracy in credit ratings issued by NRSROs 

and ensuring that credit ratings are not unduly influenced by conflicts of interest 

and that NRSROs provide greater disclosure to investors. OCR conducts examinations of NRSROs to assess and promote compliance with statutory and Commission 

requirements, monitors the activities of NRSROs, and provides guidance with respect to the Commission’s policy and regulatory initiatives related to NRSROs. 

The examination activities of OCR are focused on conducting annual, risk-based 

examinations of all registered NRSROs to assess compliance with Federal securities 

laws and Commission rules. OCR also conducts special risk-targeted examinations 

based on credit market issues and concerns and to follow up on tips, complaints, 

and NRSRO self-reported incidents. The monitoring activities of OCR are geared towards informing Commission policy and rulemaking and include identifying and 

analyzing risks, monitoring industry trends, and administering and monitoring the 

NRSRO registration process as well as the periodic updates by existing registrants 

of their Forms NRSRO. 

The Dodd-Frank Act requires that the SEC conduct examinations of each NRSRO 

at least annually. OCR’s scope for NRSRO examinations includes covering all eight 

areas required by the Dodd-Frank Act. Beginning in 2012, in an effort to be more 

tailored, OCR developed a risk-based approach to exam planning, identifying different risks for different NRSROs. During examinations, OCR also follows up on 

findings from prior exams and areas of identified risks. OCR prepares an annual 

public examination report as required by the Dodd-Frank Act, which summarizes 

the essential findings of the examinations and provides information on whether the 

NRSROs have appropriately addressed any previous examination recommendations. 

In November 2012, staff issued the second annual staff report including those findings.NRSROs have appropriately addressed any previous examination recommendations. In November 2012, staff issued the second annual staff report including those 

findings.NRSROs have appropriately addressed any previous examination recommendations. In November 2012, staff issued the second annual staff report including those findings. 79

Office of the Investor Advocate 

Section 915 requires the SEC to establish an Office of the Investor Advocate to 

assist retail investors in resolving significant problems they may have with the 

Commission or with SROs. The Investor Advocate also will identify areas in which 

investors would benefit from changes in Commission regulations or SRO rules; identify problems that investors have with financial service providers and investment 

products; and analyze the potential impact on investors of proposed Commission 

regulations and SRO rules. The Investor Advocate also must hire an Ombudsman, 

whose activities will be included in the Advocate’s reports to Congress. The Commission is in the process of filling the position of Investor Advocate. 

Office of Minority and Women Inclusion 

In July 2011, shortly after the House and Senate Appropriations Committees approved the SEC’s reprogramming request to create the office, the SEC formally established its Office of Minority and Women Inclusion (OMWI). The OMWI Director 

joined the office in January 2012. 

Under a broad outreach strategy developed by OMWI, the SEC has sponsored 

and/or attended more than 40 career fairs, conferences, and business matchmaking 

events to market the SEC to diverse suppliers and job seekers. OMWI continues to 

partner with leading organizations focused on developing employment opportunities 

for minorities and women at the SEC and in the financial services industry. In addition, the OMWI Director, along with OMWI directors from other agencies, participated in joint roundtables with financial industry groups and trade organizations 

to foster informed dialogue regarding the development of standards for assessing the 

diversity policies and practices of regulated entities. 

In fiscal year 2012, OMWI provided technical assistance to over 150 vendors in 

its efforts to expand contracting opportunities for minority-owned and women-owned 

businesses. While we are pleased that the percentage of contracting dollars awarded 

to minority-owned and women-owned businesses—as well as the percentages of minority hires for certain demographic groups, including African Americans—increased from fiscal year 2011, more needs to be done. OMWI and the Commission 

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80The memorandum ‘‘Current Guidance on Economic Analysis in SEC Rulemakings’’ is available at http://www.sec.gov/divisions/riskfin/rsfilguidanceleconlanalylsecrulemaking.pdf. 

The guidance is in effect and being followed by the rule-writing teams as they develop rule recommendations. 

force and increase the participation of minority-owned and women-owned businesses 

in the SEC’s programs and contracting opportunities. 

Office of Municipal Securities 

Section 979 of the Dodd-Frank Act required the Commission to establish an Office 

of Municipal Securities (OMS), reporting directly to the Chairman, to administer the 

rules pertaining to broker-dealers, advisors, investors and issuers of municipal securities, and to coordinate with the MSRB on rulemaking and enforcement actions. In 

August 2012, the Commission announced the establishment of the OMS and appointed a director. The office was previously part of the Division of Trading and 

Markets. One purpose behind this legislative mandate was to focus priority attention on the significant municipal securities market, which encompasses over $3.7 

trillion in outstanding municipal securities, over 44,000 municipal issuers, and an 

average of over 12,000 bond issues annually. 

The highest immediate priority project for OMS is to work together with the Division of Trading and Markets to finalize pending rules regarding registration of municipal advisors. OMS’s current initiatives also include assisting with the implementation of disclosure and market structure initiatives recommended for potential further consideration by the Commission in its Report on the Municipal Securities 

Market, issued on July 31, 2012, following a staff review of this market sector. 

Briefly, these recommended initiatives include: 

• a series of legislative recommendations for potential further consideration to 

grant the Commission direct authority to set baseline disclosure and accounting 

standards for municipal issuers; 

• regulatory disclosure recommendations for potential further consideration to update the Commission’s 1994 interpretative release concerning the disclosure obligations of issuers of municipal securities; and 

• a series of market structure recommendations for potential further consideration to improve price transparency in the municipal securities market. 

As noted in this Report, further action on specific recommendations will involve 

further study of relevant additional information, including information, as applicable, related to the costs and benefits of the recommendations and the consideration, 

as applicable, of public comment. 

Economic Analysis 

The SEC considers economic analysis to be a critical element of its rule-writing 

process. We are mindful that our rules have both costs and benefits, and that the 

steps we take to protect the investing public also impact financial markets and industry participants who must comply with our rules. In recent years, even in the 

face of an unprecedented rulemaking burden generated by the passage of the Act, 

the agency has continually enhanced its economic analysis efforts by, among other 

things, hiring additional Ph.D. economists and involving our economists earlier and 

more comprehensively in the rulemaking process. In addition, last year SEC staff 

received new guidance to inform the manner in which they incorporate economic 

analysis into their rulemaking work. 80

Our Division of Risk, Strategy, and Financial Innovation (RSFI) directly assists 

in the rulemaking process by helping develop the conceptual framing for, and assisting in the subsequent writing of, the economic analysis in rule releases. Economic 

analysis of agency rules considers, among other things, the direct and indirect costs 

and benefits of the Commission’s proposed regulations and reasonable alternative 

approaches, and the rule’s effects on competition, efficiency and capital formation. 

Of course, analysis of the likely economic effects of proposed rules, while critical to 

the rulemaking process, can be challenging, and certain costs or benefits may be difficult to quantify or value with precision, particularly those that are indirect or intangible. We continue to be committed to meeting these challenges and to ensuring 

that the Commission engages in sound, robust analysis in its rulemaking, and we 

will continue to work to enhance both the process and substance of that analysis. 

Section 967 Organizational Assessment 

Section 967 of the Act directed the agency to engage the services of an independent consultant to study a number of specific SEC internal operations. Boston 

Consulting Group, Inc. (BCG) performed the assessment and provided recommended 

81 

81The BCG Report is available at http://www.sec.gov/news/studies/2011/967study.pdf. 82 In accordance with past practice, the FY2013 budget justification of the agency was submitted by the Chairman of the Commission and was not voted on by the full Commission. Therefore, this section of the testimony does not necessarily represent the views of all SEC Commissioners. 

initiatives in March 2011. 81 The recommendations targeted various aspects of the 

SEC’s mission, function, structure, and operations, including: 

• restructuring operating divisions and support offices; 

• reshaping roles and governance; 

• assessing potential reprioritization of regulatory activities; 

• reviewing Commission-staff interaction processes and delegations of authority; 

• enhancing the SEC’s operational risk management capabilities; and 

• considering potential changes in the SEC’s oversight of—and interaction with— 

self-regulatory organizations. 

Since that time, the staff has undertaken an assessment of the recommendations 

and has provided three reports to Congress detailing the staff activities taken to implement these objectives. Thus far, recommendations and implementation plans 

have been completed for 15 of the 20 initiatives examined, and the implementation 

phase is complete or in process for each. 

Funding for Implementation of the Dodd-Frank Act 

Since passage of the Dodd-Frank Act, 82 the agency’s existing staff has worked extraordinarily hard to conduct the large number of rulemakings, studies, and analyses required by the Act. But it has been clear to me from the outset that the Act’s 

significant expansion of the SEC’s jurisdiction over OTC derivatives, private fund 

advisers, municipal advisors, clearing agencies, and credit rating agencies, among 

others, could not be handled appropriately with the agency’s previous resource levels 

without undermining the agency’s other core duties. This is proving especially true 

as we turn from the first step of rule writing to efforts to support and monitor implementation and the ongoing process of examinations and enforcement of those 

rules. With Congress’s support, the SEC received a FY2012 appropriation that permitted us to begin hiring some of the new positions needed to fulfill these responsibilities. 

Despite this, I believe that the SEC does not yet have all the resources necessary 

to fully implement the law, and enactment of the President’s Budget Request for 

FY2013 would be key for filling the remaining gaps. The Request was for $1.566 

billion, and it would permit the agency to hire 676 additional individuals. A number 

of these new hires are needed to focus on enforcement, examinations, regulatory 

oversight, and economic and data analysis related to the Act. 

In FY2013, the SEC also is aiming to continue investing in its technology capabilities to implement the law and police the markets. In particular, we hope to 

strengthen our ability to take in, organize, and analyze data on the new markets 

and entities under the agency’s jurisdiction. The enactment of the President’s Budget Request, as well as the continued use of the agency’s Reserve Fund, will be essential to that effort. 

If the SEC does not receive additional resources, I believe that many of the issues 

to which the Dodd-Frank Act is directed will not be adequately addressed. The SEC 

would be unable to sufficiently build out its technology and hire the industry experts and other staff sorely needed to oversee and police these new areas of responsibility. 

It is important to keep in mind that, under the Dodd-Frank Act, the SEC collects 

transaction fees that offset the annual appropriation to the SEC. Accordingly, regardless of the amount appropriated to the SEC, I believe that it is appropriate to 

note that the appropriation will be fully offset by the fees that we collect, and therefore will have no impact on the Nation’s budget deficit. 

Conclusion 

The Dodd-Frank Act has required the SEC to undertake the largest and most 

complex rulemaking agenda in the history of the agency. To date, a tremendous 

amount of progress has been made to implement that agenda, including significant 

effort intended to increase transparency, mitigate risk, protect against market abuse 

in security-based swaps markets, improve the oversight of credit rating agencies and 

hedge fund and other private fund advisers, and develop a better understanding of 

the systemic risk presented by large private funds. As the Commission strives to 

complete the additional work that remains, we look forward to working with this 

82 

Committee and other stakeholders in the financial marketplace to adopt rules that 

protect investors, maintain fair, orderly, and efficient markets, and facilitate capital 

formation. Thank you for inviting us to share with you our progress to date and our 

plans going forward. I look forward to answering your questions. 

PREPARED STATEMENT OF GARY GENSLER 

CHAIRMAN, COMMODITY FUTURES TRADING COMMISSION

FEBRUARY 14, 2013 

Good morning Chairman Johnson, Ranking Member Crapo, and Members of the 

Committee. I thank you for inviting me to today’s hearing on implementation of 

Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) 

swaps market reforms. I am pleased to testify along with my fellow regulators. I 

also want to thank the CFTC Commissioners and staff for their hard work and dedication. 

The New Era of Swaps Market Reform 

This hearing is occurring at an historic time in the markets. The CFTC now oversees the derivatives marketplace—across both futures and swaps. The marketplace 

is increasingly shifting to implementation of the commonsense rules of the road for 

the swaps market that Congress included in the Dodd-Frank Act. 

For the first time, the public is benefiting from seeing the price and volume of 

each swap transaction. This post-trade transparency builds upon what has worked 

for decades in the futures and securities markets. The new swaps market information is available free of charge on a Web site, like a modern-day ticker tape. 

For the first time, the public will benefit from the greater access to the markets 

and the risk reduction that comes with central clearing. Required clearing of interest rate and credit index swaps between financial entities begins next month. 

For the first time, the public will benefit from specific oversight of swap dealers. 

As of today, 71 swap dealers are provisionally registered. They are subject to standards for sales practices, record keeping and business conduct to help lower risk to 

the economy and protect the public from fraud and manipulation. The full list of 

registered swap dealers is on the CFTC’s Web site, and we will update it as more 

entities register. 

An earlier economic crisis led President Roosevelt and Congress to enact similar 

commonsense rules of the road for the futures and securities markets. I believe 

these critical reforms of the 1930s have been at the foundation of our strong capital 

markets and many decades of economic growth. 

In the 1980s, the swaps market emerged. Until now, though, it had lacked the 

benefit of rules to promote transparency, lower risk and protect the public, rules 

that we have come to depend upon in the securities and futures markets. What followed was the 2008 financial crisis. Eight million American jobs were lost. In contrast, the futures market, supported by earlier reforms, weathered the financial crisis. 

Congress and President Obama responded to the worst economic crisis since the 

Great Depression and carefully crafted the Dodd-Frank swaps provisions. They borrowed from what has worked best in the futures market for decades: transparency, 

clearing, and oversight of intermediaries. 

The CFTC has largely completed swaps market rule writing, with 80 percent behind us. On October 12, the CFTC and Securities and Exchange Commission’s 

(SEC) foundational definition rules went into effect. This marked the new era of 

swaps market reform. 

The CFTC is seeking to consider and finalize the remaining Dodd-Frank swaps 

reforms this year. In addition, as Congress directed the CFTC to do, I believe it’s 

critical that we continue our efforts to put in place aggregate speculative position 

limits across futures and swaps on physical commodities. 

The agency has completed each of our reforms with an eye toward ensuring that 

the swaps market works for end users, America’s primary job providers. It’s the end 

users in the nonfinancial side of our economy that provide 94 percent of private sector jobs. 

The CFTC’s swaps market reforms benefit end users by lowering costs and increasing access to the markets. They benefit end users through greater transparency—shifting information from Wall Street to Main Street. Following Congress’ 

direction, end users are not required to bring swaps into central clearing. Further, 

the Commission’s proposed rule on margin provides that end users will not have to 

post margin for uncleared swaps. Also, nonfinancial companies, other than those 

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83 

ers. Lastly, when end users are required to report their transactions, they are given 

more time to do so than other market participants. 

Congress also authorized the CFTC to provide relief from the Dodd-Frank Act’s 

swaps reforms for certain electricity and electricity-related energy transactions between rural electric cooperatives and Federal, State, municipal and tribal power authorities. Similarly, Congress authorized the CFTC to provide relief for certain 

transactions on markets administered by regional transmission organizations and 

independent system operators. The CFTC is looking to soon finalize two exemptive 

orders related to these various transactions, as Congress authorized. 

The CFTC has worked to complete the Dodd-Frank reforms in a deliberative 

way—not against a clock. We have been careful to consider significant public input, 

as well as the costs and benefits of each rule. CFTC Commissioners and staff have 

met more than 2,000 times with members of the public, and we have held 22 public 

roundtables. The agency has received more than 39,000 comment letters on matters 

related to reform. Our rules also have benefited from close consultation with domestic and international regulators and policy makers. 

Throughout this process, the Commission has sought input from market participants on appropriate schedules to phase in compliance with swaps reforms. Now, 

over 21⁄2 years since Dodd-Frank passed and with 80 percent of our rules finalized, 

the market is moving to implementation. Thus, it’s the natural order of things that 

market participants have questions and have come to us for further guidance. The 

CFTC welcomes inquiries from market participants, as some fine-tuning is expected. 

As it is sometimes the case with human nature, the agency receives many inquiries 

as compliance deadlines approach. 

My fellow commissioners and I, along with CFTC staff, have listened to market 

participants and thoughtfully sorted through issues as they were brought to our attention, as we will continue to do. 

I now will go into further detail on the Commission’s swaps market reform efforts. 

Transparency—Lowering Cost and Increasing Liquidity, Efficiency, Competition 

Transparency—a longstanding hallmark of the futures market—both pre- and 

post-trade—lowers costs for investors, consumers and businesses. It increases liquidity, efficiency and competition. A key benefit of swaps reform is providing this critical pricing information to businesses and other end users across this land that use 

the swaps market to lock in a price or hedge a risk. 

As of December 31, 2012, provisionally registered swap dealers are reporting in 

real time their interest rate and credit index swap transactions to the public and 

to regulators through swap data repositories. These are some of the same products 

that were at the center of the financial crisis. Building on this, swap dealers will 

begin reporting swap transactions in equity, foreign exchange and other commodity 

asset classes on February 28. Other market participants will begin reporting April 

10. 

With these transparency reforms, the public and regulators now have their first 

full window into the swaps marketplace. 

Time delays for reporting currently range from 30 minutes to longer, but will generally be reduced to 15 minutes this October for interest rate and credit index 

swaps. For other asset classes, the time delay will be reduced next January. After 

the CFTC completes the block rule for swaps, trades smaller than a block will be 

reported as soon as technologically practicable. 

To further enhance liquidity and price competition, the CFTC is working to finish 

the pretrade transparency rules for swap execution facilities (SEFs), as well as the 

block rule for swaps. SEFs would allow market participants to view the prices of 

available bids and offers prior to making their decision on a transaction. These rules 

will build on the democratization of the swaps market that comes with the clearing 

of standardized swaps. 

Clearing—Lowering Risk and Democratizing the Market 

Since the late 19th century, clearinghouses have lowered risk for the public and 

fostered competition in the futures market. Clearing also has democratized the market by fostering access for farmers, ranchers, merchants, and other participants. 

A key milestone was reached in November 2012 with the CFTC’s adoption of the 

first clearing requirement determinations. The vast majority of interest rate and 

credit default index swaps will be brought into central clearing. This follows through 

on the U.S. commitment at the 2009 G20 meeting that standardized swaps should 

be brought into central clearing by the end of 2012. Compliance will be phased in 

throughout this year. Swap dealers and the largest hedge funds will be required to 

clear March 11, and all other financial entities follow June 10. Accounts managed 

84 

by third party investment managers and ERISA pension plans have until September 9 to begin clearing. 

Consistent with the direction of Dodd-Frank, the Commission in the fall of 2011 

adopted a comprehensive set of rules for the risk management of clearinghouses. 

These final rules were consistent with international standards, as evidenced by the 

Principles for Financial Market Infrastructures (PFMIs) consultative document that 

had been published by the Committee on Payment and Settlement Systems and the 

International Organization of Securities Commissions (CPSS–IOSCO). 

In April of 2012, CPSS–IOSCO issued the final PFMIs. The Commission’s clearinghouse risk management rules cover the vast majority of the standards set forth 

in the final PFMIs. There are a small number of areas where it may be appropriate 

to augment our rules to meet those standards, particularly as it relates to systemically important clearinghouses. I have directed staff to work expeditiously to recommend the necessary steps so that the Commission may implement any remaining 

items from the PFMIs not yet incorporated in our clearinghouse rules. I look forward to the Commission considering action on this in 2013. 

I expect that soon we will complete a rule to exempt swaps between certain affiliated entities within a corporate group from the clearing requirement. This year, the 

CFTC also will be considering possible clearing determinations for other commodity 

swaps, including energy swaps. 

Swap Dealer Oversight—Promoting Market Integrity and Lowering Risk 

Comprehensive oversight of swap dealers, a foundational piece of Dodd-Frank, 

will promote market integrity and lower risk to taxpayers and the rest of the economy. Congress wanted end users to continue benefiting from customized swaps 

(those not brought into central clearing) while being protected through the express 

oversight of swap dealers. In addition, Dodd-Frank extended the CFTC’s existing 

oversight of previously regulated intermediaries to include their swaps activity. 

Such intermediaries have historically included futures commission merchants, introducing brokers, commodity pool operators, and commodity trading advisors. 

As the result of CFTC rules completed in the first half of last year, 71 swap dealers are now provisionally registered. This initial group of dealers includes the largest domestic and international financial institutions dealing in swaps with U.S. persons. It includes the 16 institutions commonly referred to as the G16 dealers. Other 

entities are expected to register over the course of this year once they exceed the 

de minimis threshold for swap dealing activity. 

In addition to reporting trades to both regulators and the public, swap dealers will 

implement crucial back office standards that lower risk and increase market integrity. These include promoting the timely confirmation of trades and documentation 

of the trading relationship. Swap dealers also will be required to implement sales 

practice standards that prohibit fraud, treat customers fairly and improve transparency. These reforms are being phased in over the course of this year. 

The CFTC is collaborating closely domestically and internationally on a global approach to margin requirements for uncleared swaps. We are working along with the 

Federal Reserve, the other U.S. banking regulators, the SEC and our international 

counterparts on a final set of standards to be published by the Basel Committee on 

Banking Supervision and the International Organization of Securities Commissions 

(IOSCO). The CFTC’s proposed margin rules excluded nonfinancial end users from 

margin requirements for uncleared swaps. We have been advocating with global regulators for an approach consistent with that of the CFTC. I would anticipate that 

the CFTC, in consultation with European regulators, would take up a final margin 

rules, as well as related rules on capital, in the second half of this year. 

Following Congress’ mandate, the CFTC also is working with our fellow domestic 

financial regulators to complete the Volcker Rule. In adopting the Volcker Rule, 

Congress prohibited banking entities from proprietary trading, an activity that may 

put taxpayers at risk. At the same time, Congress permitted banking entities to engage in certain activities, such as market making and risk mitigating hedging. One 

of the challenges in finalizing a rule is achieving these multiple objectives. 

International Coordination on Swaps Market Reform 

In enacting financial reform, Congress recognized the basic lessons of modern finance and the 2008 crisis. During a default or crisis, risk knows no geographic border. Risk from our housing and financial crisis contributed to economic downturns 

around the globe. Further, if a run starts on one part of a modern financial institution, almost regardless of where it is around the globe, it invariably means a funding and liquidity crisis rapidly spreads and infects the entire consolidated financial 

entity. 

85 

This phenomenon was true with the overseas affiliates and operations of AIG, 

Lehman Brothers, Citigroup, and Bear Stearns. 

AIG Financial Products, for instance, was a Connecticut subsidiary of New York 

insurance giant that used a French bank license to basically run its swaps operations out of Mayfair in London. Its collapse nearly brought down the U.S. economy. 

Last year’s events of JPMorgan Chase, where it executed swaps through its London branch, are a stark reminder of this reality of modern finance. Though many 

of these transactions were entered into by an offshore office, the bank here in the 

United States absorbed the losses. Yet again, this was a reminder that in modern 

finance, trades booked offshore by U.S. financial institutions should not be confused 

with keeping that risk offshore. 

Failing to incorporate these basic lessons of modern finance into the CFTC’s oversight of the swaps market would fall short of the goals of Dodd-Frank reform. It 

would leave the public at risk. 

More specifically, I believe that Dodd-Frank reform applies to transactions entered into by overseas branches of U.S. entities with non-U.S. persons, as well as 

between overseas affiliates guaranteed by U.S. entities. Failing to do so would mean 

American jobs and markets may move offshore, but, particularly in times of crisis, 

risk would come crashing back to our economy. 

Similar lessons of modern finance were evident, as well, with the collapse of the 

hedge fund Long-Term Capital Management in 1998. It was run out of Connecticut, 

but its $1.2 trillion swaps were booked in its Cayman Islands affiliate. The risk 

from those activities, as the events of the time highlighted, had a direct and significant effect here in the United States. 

The same was true when Bear Stearns in 2007 bailed out two of its sinking hedge 

fund affiliates, which had significant investments in subprime mortgages. They both 

were organized offshore. This was just the beginning of the end, as within months, 

the Federal Reserve provided extraordinary support for the failing Bear Stearns. 

We must thus ensure that collective investment vehicles, including hedge funds, 

that either have their principle place of business in the United States or are directly 

or indirectly majority owned by U.S. persons are not able to avoid the clearing requirement—or any other Dodd-Frank requirement—simply due to how they might 

be organized. 

We are hearing, though, that some swap dealers may be promoting to hedge funds 

an idea to avoid required clearing, at least during an interim period from March 

until July. I would be concerned if, in an effort to avoid clearing, swap dealers route 

to their foreign affiliates trades with hedge funds organized offshore, even though 

such hedge funds’ principle place of business was in the United States or they are 

majority owned by U.S. persons. The CFTC is working to ensure that this idea does 

not prevail and develop into a practice that leaves the American public at risk. If 

we don’t address this, the P.O. boxes may be offshore, but the risk will flow back 

here. 

Congress understood these issues and addressed this reality of modern finance in 

Section 722(d) of the Dodd-Frank Act, which states that swaps reforms shall not 

apply to activities outside the United States unless those activities have ‘‘a direct 

and significant connection with activities in, or effect on, commerce of the United 

States.’’ Congress provided this provision solely for swaps under the CFTC’s oversight and provided a different standard for securities-based swaps under the SEC’s 

oversight. 

To give financial institutions and market participants guidance on 722(d), the 

CFTC last June sought public consultation on its interpretation of this provision. 

The proposed guidance is a balanced, measured approach, consistent with the crossborder provisions in Dodd-Frank and Congress’ recognition that risk easily crosses 

borders. 

Pursuant to Commission guidance, foreign firms that do more than a de minimis 

amount of swap-dealing activity with U.S. persons would be required to register 

with the CFTC within about 2 months after crossing the de minimis threshold. A 

number of international financial institutions are among the 71 swap dealers that 

are provisionally registered with the CFTC. 

Where appropriate, we are committed to permitting, foreign firms and, in certain 

circumstances, overseas branches and guaranteed affiliates of U.S. swap dealers, to 

comply with Dodd-Frank through complying with comparable and comprehensive 

foreign regulatory requirements. We call this substituted compliance. 

For foreign swap dealers, we would allow such substituted compliance for requirements that apply across a swap dealer’s entity, as well as for certain transactionlevel requirements when facing overseas branches of U.S. entities and overseas affiliates guaranteed by U.S. entities. Entity-level requirements include capital, chief 

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clude clearing, margin, real-time public reporting, trade execution, trading documentation and sales practices. 

When foreign swaps dealers transact with a U.S. person, though, compliance with 

Dodd-Frank is required. 

To assist foreign swap dealers with Dodd-Frank compliance, the CFTC recently 

finalized an exemptive order that applies until mid-July 2013. This Final Order for 

foreign swap dealers incorporates many suggestions from the ongoing consultation 

on cross-border issues with foreign regulatory counterparts and market participants. 

For instance, the definition of ‘‘U.S. person’’ in the Order benefited from the comments in response to the July 2012 proposal. 

Under this Final Order, foreign swap dealers may phase in compliance with certain entity-level requirements. In addition, the Order provides time-limited relief for 

foreign dealers from specified transaction-level requirements when they transact 

with overseas affiliates guaranteed by U.S. entities, as well as with foreign branches 

of U.S. swap dealers. 

The Final Order provides time for the Commission to continue working with foreign regulators as they implement comparable swaps reforms and as the Commission considers substituted compliance determinations for the various foreign jurisdictions with entities that have registered as swap dealers under Dodd-Frank. 

The CFTC will continue engaging with our international counterparts through bilateral and multilateral discussions on reform and cross-border swaps activity. Just 

last week, SEC Chairman Walter and I had a productive meeting with international 

market regulators in Brussels. 

Given our different cultures, political systems and legislative mandates some differences are unavoidable, but we’ve made great progress internationally on an 

aligned approach to reform. The CFTC is committed to working through any instances where we are made aware of a conflict between U.S. law and that of another 

jurisdiction. 

Customer Protection 

Dodd-Frank included provisions directing the CFTC to enhance the protection of 

swaps customer funds. While it was not a requirement of Dodd-Frank, in 2009 the 

CFTC also reviewed our existing customer protection rules for futures market customers. As a result, a number of our customer protection enhancements affect both 

futures and swaps market customers. I would like to review our finalized enhancements, as well as an important customer protection proposal. 

The CFTC’s completed amendments to rule 1.25 regarding the investment of customer funds benefit both futures and swaps customers. The amendments include 

preventing in-house lending of customer money through repurchase agreements. 

The CFTC’s gross margining rules for futures and swaps customers require clearinghouses to collect margin on a gross basis. Futures commission merchants (FCMs) 

are no longer able to offset one customer’s collateral against another or to send only 

the net to the clearinghouse. 

Swaps customers further benefit from the new so-called LSOC (legal segregation 

with operational comingling) rules, which ensure their money is protected individually all the way to the clearinghouse. 

The Commission also worked closely with market participants on new rules for 

customer protection adopted by the self-regulatory organization (SRO), the National 

Futures Association. These include requiring FCMs to hold sufficient funds for U.S. 

foreign futures and options customers trading on foreign contract markets (in Part 

30 secured accounts). Starting last year, they must meet their total obligations to 

customers trading on foreign markets computed under the net liquidating equity 

method. In addition, FCMs must maintain written policies and procedures governing the maintenance of excess funds in customer segregated and Part 30 secured 

accounts. Withdrawals of 25 percent or more would necessitate preapproval in writing by senior management and must be reported to the designated SRO and the 

CFTC. 

These steps were significant, but market events have further highlighted that the 

Commission must do everything within our authorities and resources to strengthen 

oversight programs and the protection of customers and their funds. 

In the fall of 2012, the Commission sought public comment on a proposal to further enhance the protection of customer funds. 

The proposal, which the CFTC looks forward to finalizing this year, would 

strengthen the controls around customer funds at FCMs. It would set new regulatory accounting requirements and would raise minimum standards for independent public accountants who audit FCMs. And it would provide regulators with 

daily direct electronic access to the FCMs’ bank and custodial accounts for customer 

87 

funds. Last week, the CFTC held a public roundtable on this proposal, the third 

roundtable focused on customer protection. 

Further, the CFTC intends to finalize a rule this year on segregation for 

uncleared swaps. 

Benchmark Interest Rates 

I’d like to now turn to the three cases the CFTC brought against Barclays, UBS, 

and RBS for manipulative conduct with respect to the London Interbank Offered 

Rate (LIBOR) and other benchmark interest rate submissions. The reason it’s important to focus on these matters is not because there were $2.5 billion in fines, 

though the U.S. penalties against these three banks of more than $2 billion were 

significant. What this is about is the integrity of the financial markets. When a reference rate, such as LIBOR—central to borrowing, lending and hedging in our economy—has been so readily and pervasively rigged, it’s critical that we discuss how 

to best change the system. We must ensure that reference rates are honest and reliable reflections of observable transactions in real markets. 

The three cases shared a number of common traits. Foremost, at each institution 

the misconduct spanned multiple years, involved offices in multiple cities around 

the globe, included numerous people, and affected multiple benchmark rates and 

currencies. In each case, there was evidence of collusion among banks. In both the 

UBS and RBS cases, one or more interdealer brokers were asked to paint false pictures to influence submissions of other banks, i.e., to spread the falsehoods more 

widely. At Barclays and UBS, the banks also were reporting falsely low borrowing 

rates in an effort to protect their reputation. 

Why does this matter? 

The derivatives marketplace that the CFTC oversees started about 150 years ago. 

Futures contracts initially were linked to physical commodities, like corn and wheat. 

Such clear linkage ultimately comes from the ability of farmers, ranchers and other 

market participants to physically deliver the commodity at the expiration of the contract. As the markets evolved, cash-settled contracts emerged, often linked to markets for financial commodities, like the stock market or interest rates. These cashsettled derivatives generally reference indices or benchmarks. 

Whether linked to physical commodities or indices, derivatives—both futures and 

swaps—should ultimately be anchored to observable prices established in real underlying cash markets. And it’s only when there are real transactions entered into 

at arm’s length between buyers and sellers that we can be confident that prices are 

discovered and set accurately. 

When market participants submit for a benchmark rate that lacks observable underlying transactions, even if operating in good faith, they may stray from what real 

transactions would reflect. When a benchmark is separated from real transactions, 

it is more vulnerable to misconduct. 

Today, LIBOR is the reference rate for 70 percent of the U.S. futures market, 

most of the swaps market and nearly half of U.S. adjustable rate mortgages. It’s 

embedded in the wiring of our financial system. 

The challenge we face is that the market for interbank, unsecured borrowing has 

largely diminished over the last 5 years. Some say that it is essentially nonexistent. 

In 2008, Mervyn King, the governor of the Bank of England, said of Libor: ‘‘It is, 

in many ways, the rate at which banks do not lend to each other.’’ 

The number of banks willing to lend to one another on such terms has been 

sharply reduced because of economic turmoil, including the 2008 global financial crisis, the European debt crisis that began in 2010, and the downgrading of large 

banks’ credit ratings. In addition, there have been other factors that have led to unsecured, interbank lending drying up, including changes to Basel capital rules and 

central banks providing funding directly to banks. 

Fortunately, much work is occurring internationally to address these issues. I 

want to commend the work of Martin Wheatley and the U.K. Financial Services Authority (FSA) on the ‘‘Wheatley Review of LIBOR’’. Additionally, the CFTC and the 

FSA are cochairing the International Organization of Securities Commissions 

(IOSCO) Task Force that is developing international principles for benchmarks and 

examining best mechanisms or protocols for transition, if needed. On January 11, 

the IOSCO Task Force published the Consultation Report on Financial Benchmarks. 

The consultation report said: ‘‘The Task Force is of the view that a benchmark 

should as a matter of priority be anchored by observable transactions entered into 

at arm’s length between buyers and sellers in order for it to function as a credible 

indicator of prices, rates or index values.’’ It went on to say: ‘‘However, at some 

point, an insufficient level of actual transaction data raises concerns as to whether 

the benchmark continues to reflect prices or rates that have been formed by the 

competitive forces of supply and demand.’’ 

88 

Among the questions for the public in the report are the following: 

• What are the best practices to ensure that benchmark rates honestly reflect 

market prices? 

• What are best practices for benchmark administrators and submitters? 

• What factors should be considered in determining whether a current benchmark’s underlying market is sufficiently robust? For instance, what is an insufficient level of actual transaction activity? 

• And what are the best mechanisms or protocols to transition from an unreliable 

or obsolete benchmark? 

On February 20, we are holding a public roundtable in London. On February 26, 

the CFTC is hosting a second roundtable to gather input from market participants 

and other interested parties. A final report incorporating this crucial public input 

will be published this spring. 

Resources 

The CFTC’s hardworking team of 690 is less than 10 percent more in numbers 

than at our peak in the 1990s. Yet since that time, the futures market has grown 

five-fold, and the swaps market is eight times larger than the futures market. Market implementation of swaps reforms means additional resources for the CFTC are 

all the more essential. Investments in both technology and people are needed for 

effective oversight of these markets by regulators—like having more cops on the 

beat. 

Though data has started to be reported to the public and to regulators, we need 

the staff and technology to access, review and analyze the data. Though 71 entities 

have registered as new swap dealers, we need people to answer their questions and 

work with the NFA on the necessary oversight to ensure market integrity. Furthermore, as market participants expand their technological sophistication, CFTC technology upgrades are critical for market surveillance and to enhance customer fund 

protection programs. 

Without sufficient funding for the CFTC, the Nation cannot be assured this agency can closely monitor for the protection of customer funds and utilize our enforcement arm to its fullest potential to go after bad actors in the futures and swaps 

markets. Without sufficient funding for the CFTC, the Nation cannot be assured 

that this agency can effectively enforce essential rules that promote transparency 

and lower risk to the economy. 

The CFTC is currently funded at $207 million. To fulfill our mission for the benefit of the public, the President requested $308 million for fiscal year 2013 and 

1,015 full-time employees. 

Thank you again for inviting me today, and I look forward to your questions. 

89 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM MARY J. MILLER 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. Although Treasury is responsible for coordination of the regulations issued by the rulewriting agencies to implement the Volcker 

Rule, Treasury is not itself a rulewriting agency. The purpose of 

the Volcker Rule is to prohibit banking entities that have access to 

the Federal safety net from engaging in risky proprietary trading 

or making certain investments in private equity or hedge funds, 

while preserving important activities such as market making and 

hedging. As the Council noted in its Volcker Rule study in January 

2011, and as the SEC, the CFTC, and the Federal banking agencies 

noted in their proposed rules to implement the Volcker Rule, the 

challenge inherent in creating a robust implementation framework 

is that certain classes of permitted activities—in particular, market 

making, hedging, underwriting, and other transactions on behalf of 

customers—often evidence outwardly similar characteristics to prohibited proprietary trading, even as they pursue different objectives. Additionally, effective implementation of the Volcker Rule requires careful attention to differences between types of financial 

markets and asset classes. 

Since the closing of the public comment period, the regulators 

have been working to address these and other issues raised in the 

thousands of comments submitted on the proposal. 

Q.2. In its November 2011 report, GAO recommended that FSOC 

work with the Federal financial regulators to establish formal coordination policies for Dodd-Frank rulemakings, such as when coordination should occur. Nonetheless, the FSOC has not established such formal policies to date. In its September 2012 report, 

GAO noted that a number of industry representatives questioned 

why FSOC could not play a greater role in coordinating member 

agencies’ rulemaking efforts since the FSOC chairperson is responsible for regular consultation with regulators and other appropriate 

organizations of foreign Governments or international organizations. Does Treasury agree with GAO’s recommendation? If so, 

when will FSOC issue formal interagency coordination policies? Is 

there a reason why FSOC could not play a greater role in coordinating member agencies’ rulemaking efforts? 

A.2. The Council appreciates the work of the GAO and the important oversight function that it provides. To that end, the Council 

has reviewed all recommendations made by the GAO regarding 

ways in which the Council might further enhance collaboration and 

coordination and has provided responses on actions planned and 

taken. As noted in its responses, the Council developed written protocols for the statutorily required consultations that are part of certain rulemakings required by the Dodd-Frank Act. Additionally, 

one of the Council’s first activities was to establish an open operVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00093 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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1GAO-12-886 (Report to Congressional Requesters ‘‘FINANCIAL STABILITY New Council 

and Research Office Should Strengthen the Accountability and Transparency of Their Decisions’’ 

(September 2012)). 

ational framework that included the creation of standing committees composed of staff of Council members and member agencies. 

The interagency participation in these committees draws upon the 

collective policy and supervisory expertise of all of the Council 

members and institutionalizes opportunities for discussion, collaboration, and coordination. These teams have collaborated on the 

publication of three annual reports and six additional studies or reports related to important issues such as the Volcker Rule, the concentration limit on large financial companies, and contingent capital, and performed work enabling the Council to designate eight 

financial market utilities as systemically important. Interagency 

teams continue to support the Council on its evaluation of nonbank 

financial companies for potential designation, proposed recommendations for money market mutual fund reform, and coordination with the Federal Reserve Board on enhanced prudential 

standards. 

Congress did not provide the Council or its Chairperson with the 

authority to require coordination in all cases among its independent member agencies. However, the Council, the Deputies 

Committee, and Council staff are committed to identifying ways to 

enhance collaboration as work is conducted through the Council’s 

committees and working groups. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR SCHUMER 

FROM MARY J. MILLER 

Q.1. In September 2012, the Government Accountability Office 

(GAO) issued a report on the Financial Stability Oversight Council 

(FSOC) and the Office of Financial Research (OFR), 1 in which it 

found that the FSOC has not fully leveraged outside expertise or 

used its authority to convene advisory committees comprised of industry representatives, academics, and State regulators to help inform its work. What has FSOC and/or OFR done since the report 

to address this finding? Should there be more formal structures 

and processes to ensure that the voices of key stakeholders and experts are heard? 

A.1. Since the GAO issued its report, the Council and the OFR 

have further leveraged outside expertise in several ways. Most notably, in November 2012, Treasury announced the members of a 

new Financial Research Advisory Committee, which will work with 

the OFR to recommend ways to develop and employ best practices 

for data management, data standards, and research methodologies. 

The committee is made up of 30 distinguished professionals in economics, finance, financial services, data management, risk management, and information technology. Members include two Nobel laureates in economics, leaders in business and nonprofit fields, and 

prominent researchers at major universities and think tanks. The 

committee held its inaugural meeting in December 2012 in Washington, DC, and has been active through subcommittees that are 

focused on research, data, technology, risk management, and other 

issues. In addition, through the OFR’s ongoing work and symposia, 

91 

2 Id., p. 54. 

the Council is able to draw on the insights and expertise of various 

industry experts and academics on cutting edge systemic risk and 

financial stability analyses and methods. The OFR’s work to establish the Legal Entity Identifier has also involved extensive collaboration with global regulatory authorities, standards setting bodies, 

and industry professionals. 

Additionally, the Council and its committees are committed to 

continuing to facilitate information sharing among its members 

and other parties through the Council’s existing collaboration and 

consultation practices. With respect to seeking input from State 

regulators in particular, State banking, State insurance, and State 

securities regulators are Council members and participate actively 

in the discussions of the Council and its committees. The Council 

has also demonstrated its commitment to public input by actively 

seeking public comment on a number of matters, including its rule 

and guidance regarding the designation of nonbank financial companies, and its proposed recommendations regarding money market 

mutual fund reform. 

Q.2. While I understand the sensitivity of many of the issues within the FSOC’s purview, the GAO report nevertheless raised serious 

concerns about the FSOC’s and OFR’s full commitment to transparency, a shortcoming that could undermine the ability of FSOC 

and OFR to carry out their Congressionally mandated mission. 

GAO observed that ‘‘limits to FSOC’s and OFR’s transparency also 

contribute to questions about their effectiveness.’’ 2 What specific 

steps will you take to increase transparency at FSOC and OFR 

going forward? 

A.2. The Council and the OFR have taken a number of steps in recent months to further demonstrate their commitment to transparency and accountability. Since the publication of the GAO report, the OFR and the Council completed redesigns of their Web 

sites to improve transparency and usability, to improve access to 

Council documents and reports, and to allow users to receive updates when new content is added. These include the annual reports 

of the Council and the OFR, working papers, Congressional testimony, Congressional briefings and meetings, the OFR’s Annual Report to Congress on Human Capital Planning, and information 

about the Financial Research Advisory Committee, the Legal Entity Identifier Initiative, and assessments. Both redesigned Web sites 

were available to the public by December 2012, with continued enhancements expected over time. In addition, as noted above, in November 2012 Treasury announced the members of a new Financial 

Research Advisory Committee, which will work with the OFR to 

recommend ways to develop and employ best practices for data 

management, data standards, and research methodologies. This 

committee has already held one public meeting and will hold more. 

The OFR also sponsored its second Web cast conference this year. 

Representatives of both the Council and the OFR have also testified publicly before Congress and responded to numerous requests 

for information from various oversight bodies. Further, the OFR 

has built on its strategic planning and performance management 

92 

system by finalizing and beginning to track foundational performance measures for each of its strategic goals. 

The Council is firmly committed to holding open meetings, and 

closes meetings only when appropriate. The Council’s transparency 

policy commits the Council to hold two open meetings each year, 

and the Council has held ten open meetings in its first 21⁄2 years. 

However, the Council must continue to balance its responsibility to 

be transparent with its central mission to monitor emerging 

threats to financial stability. This frequently requires discussion of 

supervisory and other market-sensitive data during Council meetings, including information about individual firms, transactions, 

and markets that may only be obtained if maintained on a confidential basis. Continued protection of this information is necessary to prevent destabilizing market speculation that could occur 

if that information were to be disclosed. However, in light of the 

GAO’s recommendation, the Council’s Deputies Committee will consider whether to recommend any further changes to the Council’s 

transparency policy. 

Q.3. The FSOC stated, in April 2012, that it had requested that 

the OFR conduct a study of the asset management industry, to determine (i) what risks, if any, this industry poses to the U.S. financial system, and (ii) whether any such risks were best addressed 

through designation or some other means. The results of the study 

would presumably inform the FSOC whether to consider asset 

managers as potentially subject to designation as nonbank SIFIs. 

What process have the FSOC and OFR established to solicit and 

consider input from the public, including industry, regulators 

(FSOC members and non-FSOC members), academics, and other 

interested parties? 

Will the results of the analysis be made public and will interested parties be provided the opportunity to comment formally on 

the results? 

Will the FSOC provide the public with an opportunity to comment on any metrics and thresholds relating to the potential designation of asset management companies as nonbank systemically 

important financial institutions prior to the designation of any such 

company? 

A.3. The Council is reviewing generally the activities of asset management companies and their impact on the U.S. financial system. 

The Council has asked the OFR to supply data and analysis to inform the Council’s review. As part of this analysis, the Council and 

OFR staff have met with market participants, including asset managers, to learn more about the relevant activities and business 

models. 

The Council’s work is ongoing. Were the Council to determine 

that it would be appropriate to develop additional metrics that 

would be used to identify asset management firms for further evaluation for potential designation, I expect that it would provide the 

public with an opportunity to review and comment on any such 

metrics, in accordance with past practice. As demonstrated by the 

Council’s multiple requests for comment on its proposed rule and 

interpretive guidance regarding nonbank financial company desVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00096 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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ignations, the Council values the input of all interested parties, 

stakeholders, and the public. 

Consistent with the Dodd-Frank Act, however, the Council does 

not intend to delay consideration of any nonbank financial company for potential designation, if the Council believes that material 

financial distress at the company, or the nature, scope, size, scale, 

concentration, interconnectedness, or mix of the activities of the 

company, could pose a threat to the financial stability of the United 

States. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARNER 

FROM MARY J. MILLER 

Q.1. The statutory language for funds defined under the Volcker 

Rule pointedly did not include venture funds, however the definition in the proposed rule seemed to indicate that venture funds 

would be covered. In addition to exceeding the statutory intent of 

Congress, this has created uncertainty in the market as firms 

await a final rule and refrain from making commitments which 

might be swept up in the final version of the Volcker Rule. Can you 

clarify whether venture funds are covered by the Volcker Rule? 

A.1. Congress defined private equity and hedge funds for purposes 

of the Volcker Rule as those entities that rely on the exemptions 

under section 3(c)(1) or 3(c)(7) of the Investment Company Act, 

rather than creating a separate classification or treatment of venture capital funds. The Council recognized the potential overbreadth of this issue in its study and recommended that the rulemaking agencies consider whether certain entities should be exempted, including venture capital funds. 

The comment letters submitted in response to the proposed rules 

reflect sharply diverging views on whether venture capital funds 

should be exempted. As with the other issues raised in the comment letters, we expect the rulemaking agencies will consider these 

comments carefully and take them into consideration in developing 

the final rules. 

Q.2. You have previously commented on the progress we have 

made on improving capital and the evolving market perception of 

too big to fail. Do you see any changes in the behavior of investors 

in distinguishing among large institutions and variance in their 

borrowing costs and credit default spreads? 

A.2. If investors still perceived large banks as ‘‘too big to fail,’’ we 

would expect to see persistently low credit spreads for such firms 

with little variation between firms, as we did in the years leading 

up to the financial crisis. But in the aftermath of the crisis, investors are both assigning a greater likelihood of loss from default and 

also distinguishing between financial institutions, as measured by 

higher overall levels of, and a wider variance between credit default swap (CDS) spreads that markets use to assess credit risk. 

Also, we would expect the largest banks’ borrowing costs to be 

low and vary little by the size of the institution or its activities, as 

was the case before the crisis. Today, while borrowing costs generally remain low for all banks as a result of historically low interVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00097 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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est rates, long-term debt spreads have increased significantly more 

for the largest, most complex banks than their smaller competitors. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARREN 

FROM MARY J. MILLER 

Q.1. The latest report from the Special Inspector General for TARP 

revealed that AIG, GM, and Ally recently requested pay raises for 

18 top executives. Fourteen of those 18 raises were for more than 

$100,000 and the highest amount was about $1 million. Treasury 

approved 18 out of 18 requests. 

Can you explain what Treasury looked for in evaluating these 

salary increases? 

What sorts of factors would cause Treasury to reject a salary increase? 

What are Treasury’s views on SIGTARP’s ongoing recommendation to put in place more effective policies and procedures for evaluating compensation at these institutions? 

A.1. The Interim Final Rule on TARP Standards for Compensation 

and Corporate Governance makes clear that Treasury’s Office of 

the Special Master (OSM) must balance limiting compensation and 

making sure that pay is at levels that will permit the exceptional 

assistance recipients to compete—including maintaining the ability 

to attract and retain employees—so they can exit TARP and repay 

taxpayers. The process that OSM created in 2009, and that it continues to follow today, accomplishes this objective by requesting 

comprehensive submissions from the exceptional assistance companies, which it then thoroughly and carefully examines. In reviewing 

these submissions, OSM analyzes market data to determine what 

constitutes competitive marketplace compensation. It is also important to note that the companies are constantly evaluating the performance of their top executives, and it is not unusual for the companies to promote some individuals and propose pay decreases for 

others. 

Thus, OSM does not approve all pay increases. Where appropriate, it has permitted individual pay increases based on the 

unique facts and circumstances of each case, while at the same 

time emphasizing limitations on cash and total pay. For example, 

neither AIG nor Ally Financial proposed any net increase in compensation for its top 25 executives for 2012. The pay raises proposed by AIG and Ally Financial were more than offset by the pay 

decreases proposed by these companies. Although GM did propose 

a net increase in compensation for 2012, its pay packages nevertheless were on average at the 50th percentile for comparable positions at comparable entities. Moreover, OSM required that more 

than 97 percent of the approved pay increases be in the form of 

stock compensation rather than cash, because the ultimate value of 

stock compensation is uncertain and will reflect the long-term performance of the company. In addition, the three current CEOs of 

the exceptional assistance companies subject to the 2012 determination process have not had any pay increase during their respective tenures. 

Treasury recognizes the importance of diligent oversight and has 

benefited from SIGTARP’s review of its work. I understand that in 

95 

1http://articles.washingtonpost.com/2012-10-12/opinions/35501753l1lbanks-andrew-haldane-systemically-important-financial-institutions 

its 2012 report, SIGTARP made three recommendations and that 

OSM implemented two of those recommendations and was in the 

process of implementing the third when SIGTARP’s 2013 report 

was published. With respect to SIGTARP’s most recent recommendations, Treasury responded in writing stating that it will 

consider these recommendations. 

Q.2. It has been more than 4 years since policy makers began focusing on how to fix the ‘‘too big to fail’’ problem and eliminate the 

implicit guarantee that, in a time of crisis, the Federal Government 

would bail out large financial institutions instead of letting them 

fail and pose a systemic threat to the economy. Nonetheless, the 

big banks now are even bigger than they were in the run-up to the 

crisis and appear to have retained their ‘‘too big to fail’’ status and 

the accompanying implicit guarantee. In addition to morale hazard 

that results from ‘‘too big to fail’’ status, the implicit guarantee also 

has market distorting effects. As columnist George Will recently 

wrote, large financial institutions still have ‘‘a silent subsidy—an 

unfair competitive advantage relative to community banks—inherent in being deemed by the Government, implicitly but clearly, too 

big to fail.’’ 1

Do you believe that the Financial Stability Oversight Council 

(FSOC) has the necessary authorities—for example, under Section 

121 of the Dodd-Frank Act—to block expansion and in some cases 

mandate divestiture of large financial institutions to ward against 

the ‘‘too big to fail’’ problem? 

Do you believe that FSOC should use its authorities to order divestiture only in cases of active crisis, or are there situations in 

which FSOC’s authority to break up large banks could be done to 

mitigate against future risks associated with the ‘‘too big to fail’’ 

problem? 

Do you believe there are further steps Congress should take to 

fix the ‘‘too big to fail problem?’’ 

A.2. The Dodd-Frank Act provides the U.S. financial authorities 

with a wide range of tools to mitigate risks to the U.S. financial 

system. One such tool is the authority of the Board of Governors 

of the Federal Reserve System under Section 121 to take remedial 

measures with respect to certain financial firms that the Federal 

Reserve determines pose a grave threat to the stability of the U.S. 

financial system. Section 121 provides that, if the Federal Reserve 

Board determines that a large bank holding company or a nonbank 

financial company supervised by the Federal Reserve Board poses 

a grave threat to U.S. financial stability, then the Federal Reserve 

Board, upon the affirmative vote of at least two-thirds of the voting 

members of the Council then serving, must take at least one of several actions, including potentially forbidding the company from 

making further acquisitions or requiring the company to sell or 

otherwise dispose of assets. While any potential use of this authority would need to be evaluated on a company-specific basis, the 

Dodd-Frank Act does not limit the exercise of authority under Section 121 of the Dodd-Frank Act to specified economic conditions. 

96 

The reforms put in place by the Dodd-Frank Act provide regulators with critical tools and authorities that we lacked before the 

crisis to resolve large financial firms whose failure would have serious adverse effects on financial stability without requiring taxpayer 

assistance. The emergency resolution authority for failing firms 

created under Title II expressly prohibits any bailout by taxpayers. 

For any financial firm that is placed into receivership under this 

Dodd-Frank emergency resolution authority, management and directors responsible for the failed condition of the firm will be removed and shareholders will be wiped out. In addition, the law requires the largest bank holding companies to prepare ‘‘living wills’’ 

that provide a roadmap for facilitating a rapid and orderly bankruptcy. 

Financial reform has also required U.S. financial institutions to 

become more resilient. Large, interconnected financial institutions 

will now be required to hold significantly higher levels of capital 

and liquidity. Leverage is significantly lower, reliance on shortterm funding is lower, and liquidity positions have already improved such that large firms are less vulnerable in the event of a 

downturn. 

Q.3. In her written testimony to the hearing, the Special Inspector 

General for TARP (SIGTARP) Christy Romero discussed the 

‘‘threat of contagion’’ to our financial system caused by the interconnectedness of the largest institutions that existed in the run-up 

to the financial crisis. 

Do you believe the financial system remains vulnerable to the 

interconnectedness of the largest institutions? 

What is the Department of the Treasury doing to address risks 

that the interconnectedness of large financial institutions pose to 

our financial system? 

Can you describe the metrics the Department of the Treasury 

uses to monitor an institution’s interconnectedness and risk that it 

may pose to the financial system? 

A.3. The financial crisis demonstrated the risks that can arise 

when large financial institutions are too interconnected, and 

showed that stress can cascade from institution to institution, placing the entire financial system at risk. The Treasury Department 

has been consulting with the financial regulators as they implement new protections against risks of contagion. 

An important area of reform here is Title VII of the Dodd-Frank 

Act, which embodies comprehensive reform of derivatives. For example, the law requires that standardized derivatives contracts be 

cleared through a well-regulated central counterparty, thereby reducing risk to the system. If a derivatives counterparty fails, its 

failure is absorbed by the clearinghouse, which requires appropriate margin for all cleared derivatives, rather than this risk cascading to other firms. 

The Dodd-Frank Act also limits interconnections among firms by 

imposing single-counterparty credit limits for the largest bank 

holding companies and nonbank financial companies that are designated for Federal Reserve Board supervision and enhanced prudential standards. These rules, when finalized, will restrict how 

much credit exposure, including exposure from derivatives, any one 

97 

of these financial companies can have to any other unaffiliated 

firm. In addition, the Office of the Comptroller of the Currency 

(OCC) has acted to limit the impact of interconnectedness among 

certain financial institutions through the enforcement of its lending 

limits. These limits were recently strengthened by section 610 of 

the Dodd-Frank Act to include derivatives in the calculation. 

Q.4. Christy Romero also provided testimony about the need for 

large institutions to engage in effective risk management practices 

and for regulators to supervise this risk management. 

Do you believe the risk management practices at the largest financial institutions are adequate? 

Can you describe what the Department of the Treasury is doing 

to supervise the risk management at the largest institutions? 

A.4. I strongly believe in the importance of robust risk management at all financial companies. The Federal banking regulators 

have oversight over risk management as part of their supervisory 

authority over financial institutions under their jurisdiction. Public 

statements and reported regulatory actions of the agencies indicate 

that risk management practices at large financial institutions is a 

priority for the agencies. 

Further, the Dodd-Frank Act contains important measures to 

help safeguard overall financial stability through stronger risk 

management practices at financial firms. The law requires bank 

holding companies with $50 billion or more in assets and nonbank 

financial companies supervised by the Federal Reserve Board to 

comply with enhanced prudential standards. These enhanced prudential standards require large publicly traded bank holding companies to establish a board-level risk management committee as 

part of more stringent enterprise-wide risk management. 

Ultimately, financial institutions make errors of risk and judgment all the time, and some companies fail because of them. The 

test of reform is not whether it can protect banks from losses, but 

whether it can prevent broader damage to the economy and taxpayers. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR JOHANNS 

FROM MARY J. MILLER 

Q.1. To the extent practicable, please update us as to the below 

concerns on how Treasury and the Financial Stability Oversight 

Council (FSOC) are approaching the analysis of firms being considered for nonbank SIFI designation. 

Are different metrics being applied in the evaluation of different 

business models? For example, are different metrics being used to 

evaluate asset managers than those being used to evaluate insurance companies? To that end, can you assure us that similarly rigorous standards are being used across all nonbank business models? 

A.1. The Council recognizes that a thorough evaluation of different 

types of nonbank financial companies must rely on different quantitative and qualitative considerations. The Council has been using 

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specific and industry-specific information as appropriate. For example, the Council’s interpretive guidance notes that financial guarantors, asset management companies, private equity firms, and hedge 

funds may pose risks that are not well-measured by the same 

quantitative thresholds as insurance companies or other entities. 

Q.2. Can you estimate the time frame for the first nonbank SIFI 

designations to be made public? Do you anticipate them being 

made before prudential standards are finalized? If so, why would 

you not wait for the rules to be in place before designations are 

made? 

A.2. I expect that Council will vote on an initial set of nonbank financial companies for potential designation in the near term. This 

may occur before the finalization of relevant enhanced prudential 

standards. The specifics of such standards, however, are not necessary to the Council’s consideration, governed by the criteria set 

forth in the Dodd-Frank Act, of whether a nonbank financial company could pose a threat to U.S. financial stability. 

Q.3. In September of last year, the GAO issued a report containing 

specific recommendations to strengthen the accountability and 

transparency of the FSOC’s activities, as well as to enhance collaboration both amongst FSOC members themselves and between 

the council and outside stakeholders. I am particularly concerned 

about the recommendation to establish a collaborative and comprehensive framework for assessing the impact the designation of 

nonbank SIFIs will have on not only the impacted firms, but also 

the greater economy as a whole. Has anything been done since this 

report was issued to address this particular concern? 

A.3. The Council, as described in its final rule regarding nonbank 

financial company designations, will annually reassess whether 

each designated nonbank financial company continues to satisfy 

the statutory standards established by the Dodd-Frank Act. Additionally, the Council intends to review, at least every 5 years, the 

uniform, quantitative thresholds it applies initially to identify 

nonbank financial companies for further evaluation. Moreover, we 

will review the results of the GAO’s work to assess some of the impacts articulated in their recommendation and evaluate how these 

impacts may be relevant to the statutory criteria that the Council 

is required to consider when evaluating nonbank financial companies for designation. 

Q.4. To a similar end, the GAO report also suggested working to 

better rationalize rulemakings by using professional and technical 

advisors such as State regulators, industry experts, and academics 

to assist FSOC in its decision-making process. What has been done 

in this regard to ensure that issues relating to nonbank supervision 

are being appropriately reviewed by subject-matter experts in the 

relevant nonbank business model? 

A.4. Throughout the nonbank financial company designations process, the Council has engaged with relevant experts and stakeholders with regard to the business models of firms under consideration for potential designation. Council members and their staffs 

have substantial expertise regarding a broad range of financial 

companies and activities. With respect to State regulators in parVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00102 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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ticular, State banking, State insurance, and State securities regulators are Council members and participate actively in the discussions of the Council and its committees. In addition, the Council is 

coordinating and consulting with the relevant primary financial 

regulators, which, in the case of insurers, includes the appropriate 

State insurance supervisors. Similarly, the Council and OFR have 

engaged with market participants in undertaking the analysis of 

asset management. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY 

FROM MARY J. MILLER 

Q.1. In a September 2012 report discussing the Financial Stability 

Oversight Council (FSOC), the GAO criticizes the Council’s lack of 

transparency regarding its deliberations on money market fund 

regulation and concludes, among other things, that the Council’s 

minutes from a closed meeting in which the issue was discussed 

‘‘lacked any content of the discussion.’’ 

What steps will you take to make these policy discussions more 

transparent to the public? 

A.1. The Council appreciates the work of the GAO and the important oversight function that it provides, and has taken or plans to 

take a number of actions in response to the recommendations made 

in its September report. Specifically, with regard to potential 

money market mutual fund (MMF) reforms, the Council recently 

issued proposed recommendations under Section 120 of the DoddFrank Act for public comment. The proposed recommendations’ discussion of the risks posed by MMFs, and the questions they ask 

about the proposed reforms, reflect the Council’s deliberations. The 

initial 60-day comment period was extended by 1 month to February 15, 2013, and approximately 150 comments were received on 

the proposed reforms. 

The Council is firmly committed to transparency and to holding 

open meetings, and it closes meetings only when appropriate. The 

Council’s transparency policy commits the Council to hold two open 

meetings each year, and the Council has held ten open meetings 

in its first 21⁄2 years. However, the Council must continue to balance its responsibility to be transparent with its central mission to 

monitor emerging threats to financial stability. This frequently requires discussion of supervisory and other market-sensitive data 

during Council meetings, including information about individual 

firms, transactions, and markets that may only be obtained if 

maintained on a confidential basis. Continued protection of this information is necessary in order to prevent destabilizing market 

speculation that could occur if that information were to be disclosed. 

Q.2. What do you generally believe the time frame is for the first 

nonbank SIFI designations to occur? 

I understand that a few nonbank companies are now in ‘‘Stage 

3’’ of the review process, but when do you think one or more of 

those designations will become final and will be publicly announced? 

100 

A.2. I expect that the Council will vote on an initial set of nonbank 

financial companies for potential designation in the near term. The 

names of any firms that are designated will be made public after 

a final designation. 

Q.3. Will nonbank SIFI designations occur before prudential standards are established for nonbank SIFIs? 

If so, designated firms would face uncertainty; why not wait for 

rules to be in place before designations are made? 

A.3. The first designations may occur before the enhanced prudential standards are finalized. The Council does not believe it is necessary or appropriate to postpone the evaluation of nonbank financial companies pending finalization of these rules, which are not essential to the Council’s consideration of whether a nonbank financial company could pose a threat to U.S. financial stability. 

Q.4. Section 120 of the Dodd-Frank Act states that ‘‘[t]he Council 

shall consult with the primary financial regulatory agencies [ . . . 

] for any proposed recommendation that the primary financial regulatory agencies apply new or heightened standards and safeguards for a financial activity or practice.’’ In its November 2012 

release on money market fund regulatory proposals, FSOC states 

that ‘‘in accordance with Section 120 of the Dodd-Frank Act, the 

Council has consulted with the SEC staff.’’ It is my understanding 

that FSOC did not consult with any of the SEC Commissioners 

serving at the time. 

Given that the SEC is solely governed by the commissioners, and 

especially considering that SEC staff serves at the will of the SEC 

Chairman rather than all Commissioners, how would such consultations with staff fulfill this statutory obligation going forward? 

A.4. In developing its proposed recommendations for money market 

mutual fund reform, the Council consulted with the SEC staff. The 

Council takes seriously its obligation to consult with financial regulatory agencies under statutory provisions such as Section 120 of 

the Dodd-Frank Act, and the Council regularly does so. These consultations have been discussions and coordination with staff, including senior staff, of the relevant agencies, which is consistent 

with the traditional way that agencies Government-wide have performed interagency consultations under numerous statutes. In addition, the Council may consult with individuals who lead agencies, 

whether individually or as members of an agency board or commission. Certain of these individuals, including the Chairman of the 

SEC, are members of the Council and participate in Council deliberations. In all cases, the Council welcomes the input of such individuals. 

Q.5. What research has FSOC done to determine the reduction in 

assets held in money market funds that could result from the proposed section 120 recommendations? 

Have you done anything to quantify the economic effect of a substantial shift in assets from prime money market funds to Treasury 

money market funds, banks, or unregulated investment funds? 

A.5. Under Section 120 of the Dodd-Frank Act, the Council is required to ‘‘take costs to long-term economic growth into account’’ 

when recommending new or heightened standards and safeguards 

101 

for a financial activity or practice. If the SEC accepts a final recommendation issued by the Council regarding money market mutual fund reform, it is expected that the SEC would implement the 

recommendation through a rulemaking, subject to public comment, 

that would consider the economic consequences of the implementing rule as informed by the SEC staff’s own economic study 

and analysis. 

Section VI of the FSOC’s proposed recommendations outlines the 

Council’s preliminary analysis regarding the potential impact of 

the proposed reforms on long-term economic growth and requested 

comment from the public on that analysis. In that section, the 

Council stated that it expects that the proposed recommendations 

would significantly reduce the risk of runs on MMFs and, accordingly, lower the risk of a significant long-term cost to economic 

growth. In addition, the Council recognizes that regulated and unregulated or less-regulated cash management products other than 

MMFs may pose risks that are similar to those posed by MMFs, 

and that further MMF reforms could increase demand for nonMMF cash management products. The Council sought comment on 

this issue and other possible reforms that would address risks that 

might arise from a migration to non-MMF cash management products. 

The Council requested comment on its proposed analysis, including what, if any, impact the proposed recommendations could have 

on investor demand for MMFs. We are in the process of evaluating 

the comments the Council received on its proposed recommendations and will evaluate the costs to long-term economic growth in 

light of these comments when formulating a final recommendation. 

Q.6. Regarding the Volcker Rule, some have suggested that the 

banking agencies should just go ahead and issue their final rule 

without waiting to reach agreement with the Securities and Exchange Commission and Commodities Futures Trading Commission, which have to issue their own rules. This scenario could result in there being more than one Volcker Rule, which would create 

significant confusion about which agency’s rule would apply to 

which covered activity. 

Given the statutory directive in Dodd-Frank that Treasury serve 

as chief coordinator of this ‘‘coordinated rulemaking,’’ can you comment on the current status of these interagency discussions as well 

as your thoughts on the possibility of multiple Volcker Rules? 

A.6. Since the issuance of the Council’s study on the Volcker Rule 

in January 2011, Treasury has been working hard to fulfill the 

statutory mandate to coordinate the regulations issued under the 

Volcker Rule. To meet this obligation, Treasury staff actively participate with the three Federal banking agencies and the SEC and 

CFTC in the interagency process working to develop these rules. 

This process includes regular meetings which serve as constructive 

forums for the agencies to deliberate on key aspects of the rules. 

This process resulted in the issuance of proposed regulations that 

were substantively identical, demonstrating a substantial commitment among the agencies to a coordinated approach, and continues 

as regulators work to finalize the rules. We take Treasury’s role as 

coordinator very seriously and remain committed to working with 

102 

the rulemaking agencies towards a substantively identical final 

rule. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM DANIEL K. TARULLO 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. Section 619 generally prohibits banking entities from engaging 

in proprietary trading for the purpose of profiting from short-term 

price movements, and from acquiring or retaining interests in, or 

having certain relationships with, hedge funds and private equity 

funds. In each case the statute explicitly provides certain exemptions from these prohibitions, as well as limitations on permitted 

activities. Among the exceptions is an exception for risk-mitigating 

hedging activities. 

To implement the exception for risk-mitigating hedging activities, 

the Federal Reserve Board, the Office of the Comptroller of the 

Currency, the Federal Deposit Insurance Corporation, the Securities and Exchange Commission, and the Commodity Futures Trading Commission, (the Agencies) proposed requirements designed to 

enhance the risk-monitoring and management of hedging activities 

and to ensure that these activities are risk-mitigating. Among the 

requirements the Agencies proposed included a requirement that 

the banking entity establish and follow formal policies and procedures governing hedging activities and defining the instruments 

and strategies that could be used for hedging, documentation requirements explaining the hedging strategy, an internal compliance 

audit requirement, and requirements that incentive compensation 

paid to traders engaged in hedging not reward proprietary trading. 

This multifaceted approach was intended to limit potential abuse 

of the hedging exemption while not unduly constraining the important risk management function that is served by a bank entity’s 

hedging activities. 

Determining whether any trading activity represents a risk to 

safety and soundness is typically made in connection with the supervisory process and depends on the specific facts and circumstances. In accordance with supervisory guidance on risk management, banks are generally required to have internal controls 

and written policies and procedures regarding how their trading 

and hedging strategies ensure that all risks are effectively managed and subject to limits, that risk measures and prices are independently validated, and that risks are reported to management as 

appropriate. The agencies then use the examination process to review these policies and procedures as they are applied to the trading and hedging activities of the firm. 

Q.2. Federal Reserve, FDIC, and OCC have issued proposed rules 

to implement Dodd-Frank and Basel III capital requirements for 

U.S. institutions. Late last year, your agencies pushed back the efVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00106 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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1 5 U.S.C. § 601, et seq. 2 5 U.S.C. § 801-808. 

fective date of the proposed Basel III rules beyond January 1, 2013. 

Given the concerns that substantially higher capital requirements 

will have a negative impact on lending, are your agencies using 

this extra time to conduct a cost-benefit analysis about the impact 

of the proposed rules on the U.S. economy, availability, and cost of 

credit, cost of insurance, and the regulatory burden on institutions, 

before implementing the final rules? 

A.2. In developing the Basel III-based capital requirements, the 

Board and the other Federal banking agencies conducted an impact 

analysis based on regulatory reporting data to estimate the change 

in capital that banking organizations would be required to hold to 

meet the proposed minimum capital requirements. Based on the 

agencies’ analysis, the vast majority of banking organizations currently would meet the fully phased-in minimum capital requirements. The agencies proposed a transition period that would allow 

those organizations that would not meet the proposed minimum requirements to adjust their capital levels. In addition, quantitative 

analysis by the Macroeconomic Assessment Group, a working group 

of the Basel Committee on Banking Supervision, found that the 

stronger Basel III capital requirements would lower the probability 

of banking crises and their associated economic output losses while 

having only a modest negative impact on gross domestic product 

and lending costs, and that the potential negative impact could be 

mitigated by phasing in the requirements over time. 

The agencies received over 2,500 comment letters regarding the 

proposals. The original comment period was extended to allow interested persons more time to understand, evaluate, and prepare 

comments on the proposals. The Board explicitly sought comment 

on significant alternatives to the proposed requirements applicable 

to covered small banking organizations that would minimize their 

impact on those entities, as well as on all other aspects of its analysis. The Board is carefully considering the commenters’ views on 

and concerns about the effects of the notices of proposed rulemaking on the U.S. economy and on banking organizations. Prior 

to adopting any final rule, the Board will conduct a final regulatory 

flexibility analysis under the Regulatory Flexibility Act. 1

Before issuing any final rule, the Board will also prepare an 

analysis under the Congressional Review Act (CRA). 2 As part of 

this analysis, the Board will assess whether the final rule is a 

‘‘major rule,’’ meaning the rule could (1) have an annual effect on 

the economy of $100 million or more; (2) increase significantly costs 

or prices for consumers, individual industries, Federal, State, or 

local government agencies, or geographic regions; or (3) have significant adverse effects on competition, employment, investment, 

productivity, or innovation. Consistent with the CRA, any such 

analysis will be provided to Congress and the Government Accountability Office. 

Q.3. Given the impact that the Qualified Mortgages (QM) rules, the 

proposed Qualified Residential Mortgages (QRM) rules, the Basel 

III risk-weights for mortgages, servicing, escrow, and appraisal 

rules will have on the mortgage market and the housing recovery, 

104 

it is crucial that these rules work in concert. What analysis has 

your agency conducted to assess how these rules work together? 

What is the aggregate impact of those three rules, as proposed and 

finalized, on the overall mortgage market as well as on market participants? 

A.3. The Dodd-Frank Act requires the Federal banking agencies 

and other agencies to implement a number of requirements that relate to mortgages and the mortgage market, such as those you note 

in your question. The agencies are mindful of the interaction and 

interrelationship of these requirements as we develop rules to implement these statutory provisions. 

For example, the Board is required under section 941 of the 

Dodd-Frank Act, along with six other agencies (including the Federal banking agencies), to implement risk retention requirements 

and define QRM as an exemption to those requirements. By statute, all entities that meet the statutory definition of ‘‘securitizer’’ 

must meet the risk retention requirements. Under section 941, the 

definition of QM serves as the outer limit of the definition of QRM. 

The Board and the other agencies that must implement section 941 

are currently discussing how to define QRM in light of the CFPB’s 

recent determination of the final definition of QM. 

In the proposed rulemakings to revise regulatory capital requirements released in June 2012, the Board and the other Federal 

banking agencies proposed to revise the risk weighting for residential mortgages based on loan characteristics and loan-to-value 

ratio. These requirements would apply to banks, bank holding companies, and savings and loan holding companies. The Board and 

the other banking agencies have received many comments on the 

proposed risk weights for mortgages and the Board is carefully taking into consideration the concerns raised in those comments, including concerns regarding compliance burden from various mortgage-related regulations, and the effect of these proposals on the 

availability of mortgage credit, in its discussions with the other 

agencies on how to move the proposed rulemakings forward. 

The Board has long been committed to considering the costs and 

benefits of its rulemaking efforts and takes into account all comments and views from the public on the costs and benefits of a proposed rulemaking. The Board is sensitive to concerns that various 

regulatory changes could lead to more expensive mortgages and reduce access to credit, and will carefully consider all comments on 

rulemakings in which it participates. 

Q.4. Under the Basel III proposals, mortgages will be assigned to 

two risk categories and several subcategories, but in their proposals the agencies did not explain how risk weights for those subcategories are determined and why they are appropriate. How did 

your agency determine the appropriate range for those subcategories? 

A.4. During the recent market turmoil, the U.S. housing market 

experienced significant deterioration and unprecedented levels of 

mortgage loan defaults and home foreclosures. The causes for the 

significant increase in loan defaults and home foreclosures included 

inadequate underwriting standards, the proliferation of high-risk 

mortgage products, expansion of the practice of issuing mortgage 

105 

loans to borrowers with undocumented income, and a precipitous 

decline in housing prices coupled with a rise in unemployment. 

In the capital proposal, the agencies sought to improve the risk 

sensitivity of the regulatory capital rules for mortgages by raising 

capital requirements for risker mortgages, including nontraditional 

product types, while lowering requirements on traditional residential mortgage loans with lower credit risk. The ranges of the factors 

were developed on an interagency basis utilizing expert supervisory 

judgments including policy experts and bank examiners. The agencies also considered supervisory and mortgage market data in the 

formulation of these risk weights, which are generally comparable 

to the risk weights assigned to mortgage exposures by banking organizations that use the internal ratings based methodology. 

The Board and the other agencies have received many comments 

on the mortgage proposals and the Board is carefully taking these 

comments into consideration in determining capital requirements 

for mortgages. 

Q.5. The Senate Banking Committee Report on Dodd-Frank made 

it clear that the law did not mandate insurers use GAAP accounting. However, the proposed Basel III rules would require insurance 

enterprises to switch to GAAP. How will this change impact insurance companies, both practically and financially? 

A.5. The proposed capital requirements would apply on a consolidated basis to bank holding companies and savings and loan holding companies (SLHCs), some of which are primarily engaged in 

the insurance business. Currently, capital requirements for insurance companies are imposed by State insurance laws on a legal entity basis and there are no State-based, consolidated capital requirements that cover holding companies for insurance firms. 

In the proposals, the Board sought to meet the legal requirements of section 171 of the Dodd-Frank Act while incorporating 

flexibility for depository institution holding companies significantly 

engaged in the insurance business. Section 171 of the Dodd-Frank 

Act requires the agencies to apply consolidated minimum riskbased and leverage capital requirements for depository institution 

holding companies, including SLHCs, that are no less than the generally applicable capital requirements that apply to insured depository institutions under the prompt corrective action framework. 

The ‘‘generally applicable’’ rules use generally accepted accounting 

principles (GAAP) as the basis for regulatory capital calculations. 

The proposed requirement that SLHCs calculate their capital 

standards on a consolidated basis using a framework that is based 

on GAAP standards is consistent with section 171 of the DoddFrank Act and would facilitate comparability across institutions. In 

contrast, the statutory accounting principles (SAP) framework for 

insurance companies is a legal entity-based framework and does 

not provide consolidated financial statements. 

The Board received many comments on the proposed application 

of consolidated capital requirements to savings and loan holding 

companies, including on cost and burden considerations for those 

firms that currently prepare financial statements based solely on 

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3Section 102(a)(6) of the Dodd-Frank Act; 12 U.S.C. §5311(a)(6). 4 Id. 

ing companies and SLHCs with insurance operations consistent 

with section 171 of the Dodd-Frank Act. 

Q.6. Pursuant to Dodd-Frank, FSOC can designate as Systemically 

Important Financial Institution (SIFI) certain nonbank financial 

companies that are ‘‘predominately engaged in financial activities,’’ 

resulting in extra scrutiny for that company. There were considerable concerns during the Dodd-Frank debate that a broad definition 

would encompass too many entities. In April of last year those concerns were reaffirmed when the Federal Reserve’s proposed definition captured many activities not traditionally viewed as financial 

or systemically risky. Does the Federal Reserve intend to reconsider its proposed definition of ‘‘predominately engaged in financial 

activities’’ to address concerns raised in public comment letters? 

A.6. The Dodd-Frank Act defines the type of firm that is eligible 

to be designated by the Financial Stability Oversight Council 

(FSOC) for enhanced supervision by the Board. These provisions 

apply only to firms that derive 85 percent or more of their annual 

gross revenues from financial activities or have 85 percent or more 

of the firm’s consolidated assets in assets related to financial activities. 3 For purposes of these provisions, financial activities are defined by reference to section 4(k) of the Bank Holding Company Act 

(BHC Act). 4

In April 2012, the Board invited public comment on a proposed 

rule implementing these provisions (the April 2012 proposal). The 

April 2012 proposal noted that the list of financial activities published by the Board in its Regulation Y incorporates various conditions that the Board has imposed on bank holding companies to ensure that they engage in these financial activities in a safe and 

sound manner. Other conditions were imposed by the Board because they were required by other provisions of law, such as the 

Glass-Steagall Act. The April 2012 proposal sought comment on 

whether any of these conditions were essential to the definition of 

an activity as financial. As you note, the public provided a number 

of comments on the Board’s proposal, including with respect to the 

scope of the proposed definitions and the treatment of physically 

settled derivatives transactions. The Board carefully considered 

these comments in formulating the final rule, which the Board approved on April 3, 2013. The final rule made a number of modifications to address concerns raised by commenters, including changes 

that reduced the scope of the original proposal. It is important to 

note that the Board’s regulation defining activities that are ‘‘financial’’ is based on the list of financial activities referenced by Congress in the Dodd-Frank Act, and that the conduct of these financial activities does not itself create any burden or obligation on any 

entity until and unless the FSOC determines, in accordance with 

the standards and procedures set forth in the Dodd-Frank Act, that 

the entity could pose a threat to the financial stability of the 

United States. 

107 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARNER 

FROM DANIEL K. TARULLO 

Q.1. As you know, a number of people including Sheila Bair have 

been advocates of using a simple leverage ratio as the primary 

measure of banks’ capital strength. Would focusing on a simple leverage ratio, using the Basel III definition of leverage which includes key off balance sheet exposures, help cut through the noise 

of risk weighting and models and cross border differences, and give 

us all greater confidence that large banks are holding a good 

amount of high quality capital? 

A.1. Strong capital regulation is central to an effective prudential 

regulatory regime for financial institutions. Experience has shown 

that no single form of capital requirement captures all relevant 

risks and, standing alone, any capital requirement is subject to 

sometimes extensive regulatory arbitrage. Consequently, banking 

regulation evolved historically from a primary reliance on simple 

leverage ratios to a dual focus on both leverage and risk-weighted 

capital requirements. These requirements must be complementary 

and mutually reinforcing. This relationship has obviously been 

changed by the substantial increase in the risk-based ratio resulting from the new minimum and conservation buffer requirements 

of Basel III. The existing U.S. leverage ratio does not take account 

of off-balance-sheet assets, which are significant for many of the 

largest firms. The new Basel III leverage ratio does include off-balance-sheet assets, but it may have been set too low. Thus, the traditional complementarity of the capital ratios might be maintained 

by using Section 165 to set a higher leverage ratio for the largest 

firms. Additionally, it is important to note that the stress testing 

regime for large banks established by the Federal Reserve, consistent with its mandate under Dodd-Frank, provides an important 

additional capital measure—one that is both risk-sensitive and, unlike traditional capital measures, forward looking. 

Q.2. The FDIC and Fed have joint jurisdiction over the completion 

of living wills from large firms. Now, I don’t think anyone expected 

the first year of plans to be perfect, but can you remind everyone, 

for the FDIC and Fed to approve the plans, isn’t the standard that 

they have to show how normal liquidation like bankruptcy or FDIC 

resolution could work under reasonable circumstances? And what 

progress have the plans made in getting firms to think through 

their structure, better inform you as regulators, and lead to simplification and rationalization? 

A.2. The Dodd-Frank Act requires the Federal Deposit Insurance 

Corporation and the Federal Reserve Board (the ‘‘agencies’’) to review the resolution plans, or ‘‘living wills,’’ filed by the firms and 

to notify a firm that its plan is deficient if the agencies jointly determine that the plan is not credible or would not facilitate an orderly liquidation of the firm under Title 11 of the U.S. bankruptcy 

code. The agencies issued a joint final rule implementing the living 

wills requirement in November 2011. 

The agencies have received resolution plans from 11 of the largest and most complex firms. These plans constitute the first step 

in an iterative process and will provide the foundation for developing increasingly robust annual resolution plans. The initial subVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00111 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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missions focused on the key elements set out in the joint rule, including identifying critical operations and core business lines, developing a robust strategic analysis, and identifying and describing 

the interconnections and interdependencies among the firm’s material entities. 

The economic circumstances that could accompany the financial 

distress or failure of a firm in the future are not knowable in advance. Nonetheless, a resolution plan should be sensitive to the 

economic conditions surrounding the financial distress or failure of 

a firm. To assist in establishing assumptions for economic conditions surrounding a firm’s financial distress or failure, filers are required to take into account that the firm’s material financial distress or failure could occur under the ‘‘baseline,’’ ‘‘adverse,’’ and ‘‘severely adverse’’ economic conditions developed by the Federal Reserve Board pursuant to stress test requirements of section 

165(i)(1)(B) of the Dodd-Frank Act. Firms were permitted to assume that failure would occur only under the baseline scenario for 

their initial submission with the expectation that subsequent 

iterations of the resolution plans would begin to address the other 

scenarios. As part of the iterative planning process, the agencies 

expect to evaluate the effectiveness of the scenarios in calibrating 

plan sensitivity to economic conditions surrounding the financial 

distress or failure of a firm. 

The firms devoted a significant amount of time and resources in 

developing their initial resolution plans as well as in establishing 

the processes, procedures, and systems necessary for annual updates. Moreover, the agencies have been engaged in an ongoing dialogue with these firms to develop, focus, and clarify their plans. 

Our initial interactions with the firms demonstrate clearly that 

preparing resolution plans is helping the firms and the supervisors 

learn a great deal about the organizational structure, inter-relationships, and exposures of these firms. 

Q.3. I believe that the Basel III accords are an important tool for 

reducing risks within the financial system and ensuring level playing fields in international markets. However, I am concerned that 

there are a number of areas where the agreements and the Federal 

Reserve’s proposals for implementing them have not been adequately tailored to recognize differences in accounting standards in 

the U.S. and other jurisdictions and the variety of business models 

in the U.S. Can you describe what steps the Federal Reserve is 

taking to tailor the proposals to the insurance business model? 

A.3. Section 171 of the Dodd-Frank Act requires that the Federal 

Reserve Board (the ‘‘Board’’) establish minimum leverage capital 

requirements and minimum risk-based capital requirements for depository institution holding companies and for financial companies 

designated by the Financial Stability Oversight Council that are 

not less than the leverage and risk-based capital requirements that 

were generally applicable to banks and savings associations on July 

21, 2010. In developing these capital requirements, the Board 

sought to meet the requirements of the Dodd-Frank Act, to promote 

capital adequacy at all depository institution holding companies, 

and, to the extent permitted by section 171, to incorporate adjustments for depository institution holding companies significantly enVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00112 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
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gaged in the insurance business. In that regard, the Board invited 

public comment on proposals to address the unique character of insurance companies through specific risk weights for policy loans 

and nonguaranteed separate accounts, which are typically held by 

insurance companies, but not banks. The proposals also would 

allow the inclusion of surplus notes, a type of financial instrument 

issued primarily by insurance companies, in tier 2 capital, provided 

that the notes meet the relevant eligibility criteria. 

The Board received numerous comments on the capital requirements proposed last year as they would apply to insurance companies and is carefully considering information provided and the concerns raised by commenters. 

Q.4. Can you describe the steps the Federal Reserve is taking to 

ensure that community and midsize banks are not forced to comply 

with complex standards better suited to larger and more complex 

institutions? 

A.4. In developing safety and soundness rules, the Federal Reserve 

Board and the other Federal banking agencies must strike the 

right balance between safety and soundness concerns and the costs 

associated with implementation, including the impact on community banking. It is important to note that numerous items in the 

Basel III proposal, and in other recent regulatory reforms, are focused on larger institutions and would not be applicable to community banking organizations. These items include the countercyclical 

capital buffer, the supplementary leverage ratio, enhanced disclosure requirements, the advanced approaches risk-based capital 

framework, stress testing requirements, the systemically important 

financial institution capital surcharge, and market risk capital reforms. This targeted approach should improve the competitive balance between large and small banks, while improving the overall 

resiliency of the financial sector. 

Midsize banking organizations are also exempt from most of the 

requirements referred to above, including the countercyclical capital buffer, the supplementary leverage ratio, and the advanced-approaches risk-based capital framework. However, they would need 

to meet basic stress testing requirements that have been specifically tailored as required by the Dodd-Frank Act, for the midsize 

banking business model, as finalized in October 2012. These requirements are less stringent than the stress testing framework 

applied to banking organizations with more than $50 billion in assets. Additionally, midsize banks have been given a longer time 

frame to meet these requirements than their larger counterparts. 

Q.5. What steps is the Federal Reserve taking to examine the appropriateness and impact of the risk weights for mortgage-backed 

securities including those that contain nonrecourse loans? 

A.5. During the recent market turmoil, the U.S. housing market 

experienced significant deterioration and unprecedented levels of 

mortgage loan defaults and home foreclosures, which, in turn, 

caused mortgage-backed securities (MBS) to incur unprecedented 

losses. The causes for the significant increase in loan defaults and 

home foreclosures included inadequate underwriting standards, the 

proliferation of high-risk mortgage products, the practice of issuing 

mortgage loans to borrowers with undocumented income and a preVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00113 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
110 

cipitous decline in housing prices coupled with a rise in unemployment. 

In the capital proposal, the Federal Reserve Board and the other 

Federal banking agencies (the ‘‘agencies’’) sought to improve the 

risk sensitivity of the regulatory capital rules for mortgages by 

raising capital requirements for risker mortgages, including nontraditional product types, while lowering requirements on traditional residential mortgage loans with lower credit risk. The ranges 

of the factors were developed on an interagency basis utilizing expert supervisory judgments including policy experts and bank examiners. The agencies also considered supervisory and mortgage 

market data in the formulation of these risk weights, which are 

generally comparable to the risk weights assigned to mortgage exposures by banking organizations that use the internal ratings 

based methodology. 

The agencies received numerous comment letters on the proposals for risk weighting mortgages. The Federal Reserve Board is 

carefully considering the commenters’ views on and concerns about 

the effects of the proposed mortgage treatment on the U.S. economy and on banking organizations. 

Q.6. What progress is being made to ensure that Basel III is implemented with a reasonable degree of uniformity and transparency 

across jurisdictions? 

A.6. The Federal Reserve Board has consistently favored a uniform 

and transparent implementation of the Basel III reforms across jurisdictions. To this end, staff has contributed to international assessments organized by the Basel Committee of the participating 

financial jurisdictions and highlighted any divergences they encountered in their assessments. Similarly, our international colleagues are tracking progress by the United States to meet the reforms. We remain committed to ensuring consistent implementation, as this decreases opportunities for cross-border regulatory arbitrage and keeps U.S. banks on equal footing with their foreign 

competitors. 

Q.7. The statutory language for funds defined under the Volcker 

Rule pointedly did not include venture funds, however the definition in the proposed rule seemed to indicate that venture funds 

would be covered. In addition to exceeding the statutory intent of 

Congress, this has created uncertainty in the market as firms 

await a final rule and refrain from making commitments which 

might be swept up in the final version of the Volcker Rule. Can you 

clarify whether venture funds are covered by the Volcker Rule? 

A.7. One of the restrictions in section 619 applies to hedge and private equity funds and prohibits a banking entity from acquiring or 

retaining an interest in, or having certain relationships with, hedge 

funds and private equity funds, subject to certain exemptions. Section 619 specifically defines the terms ‘‘hedge fund’’ and ‘‘private 

equity fund’’ to mean an issuer that would be an investment company as defined in the Investment Company Act of 1940, but for 

section 3(c)(1) or 3(c)(7) of that Act, or such similar funds as the 

Federal Reserve Board, the Office of the Comptroller of the Currency, the Federal Depository Insurance Corporation, the Securities 

111 

and Exchange Commission, and the Commodity Futures Trading 

Commission (the ‘‘agencies’’) may, by rule, determine. 

See 12 U.S.C. §1851(h)(2). The statutory language contains no 

reference to venture capital funds. The agencies requested comment on whether venture capital funds should be excluded from 

the definition of covered fund, and, if so, what scope of authority 

the agencies have under the statute to exempt venture capital 

funds, and how to define venture capital fund. The agencies received over 18,000 comments regarding the proposed implementing 

rules, including comments that specifically addressed the issues of 

venture capital funds and venture capital investments. The agencies are currently considering these comments as we work to finalize implementing rules. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARREN 

FROM DANIEL K. TARULLO 

Q.1. As you know, the Federal Reserve and the Office of the Comptroller of the Currency (OCC) recently announced settlements with 

mortgage servicers subject to consent orders issued by the Federal 

Reserve and the OCC in April 2011 regarding unsafe and unsound 

practices related to residential mortgage loan servicing and foreclosure processing. The terms of the settlement include $3.6 billion 

in cash payments to more than 4 million borrowers and $5.7 billion 

in additional assistance. 

Can you explain in what situations the Board of Governors of the 

Federal Reserve votes on whether to accept a settlement? 

A.1. Under the Federal Reserve Board’s (the Board) Rules Regarding Delegation of Authority, there is delegated authority for Board 

staff to enter into or approve modifications to consent cease-and-desist orders, such as the recently announced agreements with mortgage servicers (12 CFR §§265.6(e)(1) and (e)(2)). Any Board member may request review of any delegated action (12 CFR §265.3(a)). 

In many cases, including matters involving significant enforcement 

actions, such as the mortgage servicer agreements, staff with delegated approval authority consult with members of the Board prior 

to exercising that authority to obtain their views on whether consideration by the Board is appropriate. 

Q.2. When no vote occurs, can you indicate what official at the Federal Reserve has decision-making authority over whether to accept 

a settlement? 

A.2. The Board’s general counsel (or his delegee), with the concurrence of the director of the Board’s Division of Banking Supervision 

and Regulation (or his delegee), has delegated authority to approve 

consent cease-and-desist orders as well as modifications to consent 

cease-and-desist orders, such as the recently announced agreements with mortgage servicers (12 CFR §§265.6(e)(1) and (e)(2)). 

Q.3. Did a vote occur with this particular settlement? 

A.3. Board staff frequently consulted with Board members before 

exercising delegated authority to approve the amendments to the 

foreclosure consent orders. A vote did not occur. 

112 

Q.4. It has been more than 4 years since policy makers began focusing on how to fix the ‘‘too big to fail’’ problem and eliminate the 

implicit guarantee that, in a time of crisis, the Federal Government 

would bail out large financial institutions instead of letting them 

fail and pose a systemic threat to the economy. Nonetheless, the 

big banks now are even bigger than they were in the run-up to the 

crisis and appear to have retained their ‘‘too big to fail’’ status and 

the accompanying implicit guarantee. In addition to morale hazard 

that results from ‘‘too big to fail’’ status, the implicit guarantee also 

has market distorting effects. As columnist George Will recently 

wrote, large financial institutions still have ‘‘a silent subsidy—an 

unfair competitive advantage relative to community banks—inherent in being deemed by the Government, implicitly but clearly, too 

big to fail.’’ 

Do you believe that the Financial Stability Oversight Council 

(FSOC) has the necessary authorities—for example, under Section 

121 of the Dodd-Frank Act—to block expansion and in some cases 

mandate divestiture of large financial institutions to ward against 

the ‘‘too big to fail’’ problem? 

A.4. The Dodd-Frank Act contains a number of provisions that are 

intended to address potential threats to U.S. financial stability and 

address the ‘‘too big to fail’’ problem. Of course, the Financial Stability Oversight Council (FSOC) has the authority under section 

113 to subject a nonbank financial company to supervision by the 

Federal Reserve Board (Board) if the FSOC determines that the 

company’s material financial distress or its activities could pose a 

threat to U.S. financial stability. The FSOC has implemented a robust process for assessing threats posed by nonbank financial companies and is actively reviewing companies pursuant to that process. 

The Dodd-Frank Act also has a variety of provisions that address 

the growth of large financial companies. Section 622 imposes a concentration limit on large financial companies, including banks, 

bank holding companies, savings and loan holding companies, companies that control an insured depository institution, nonbank financial companies designated by the FSOC for supervision by the 

Board, and foreign banks treated as bank holding companies. 

Under this statutory limit, a large financial company may not 

merge, consolidate with, or acquire all or substantially all of the assets or control of another company, if the total consolidated liabilities of the resulting company would exceed 10 percent of the liabilities of all large financial companies. 

In addition, the Dodd-Frank Act revised various provisions of the 

banking laws to require the Federal banking agencies to consider 

the risk that acquisitions of insured depository institutions and 

large nonbanking entities pose to the stability of the U.S. banking 

or financial system. For example, section 163 of the Dodd-Frank 

Act requires large bank holding companies and nonbank financial 

companies supervised by the Board to provide prior notice to the 

Board of a proposed acquisition of ownership or control of any voting shares of a financial company with assets of $10 billion or 

more, so that the Board may consider the extent to which the proposed acquisition would result in greater or more concentrated 

risks to global or U.S. financial stability or the U.S. economy. 

113 

Section 121 authorizes the Board, with consent of two-thirds of 

the voting members of the FSOC, to take certain steps if the Board 

determines that a large bank holding company or a nonbank financial company supervised by the Board poses a grave threat to the 

financial stability of the United States. These steps include limiting 

the ability of the company to grow through mergers or acquisitions, 

restricting the ability of the company to offer financial products, requiring the termination of certain activities, or imposing conditions 

on the manner in which the company conducts one or more activities. If the Board determines that these actions are inadequate to 

mitigate a threat to U.S. financial stability, the Board, with the 

consent of the FSOC, may require the company to sell or otherwise 

transfer assets to unaffiliated entities. 

These provisions of the Dodd-Frank Act, in combination with 

other provisions that establish an orderly liquidation mechanism 

and enhanced prudential standards for large financial institutions, 

represent important developments in addressing threats posed by 

large financial companies to U.S. financial stability. As implementation of the Dodd-Frank Act currently remains underway, the 

Board believes that it is too early to determine whether further legislative action is necessary. 

Q.5. Do you believe that FSOC should use its authorities to order 

divestiture only in cases of active crisis, or are there situations in 

which FSOC’s authority to break up large banks could be done to 

mitigate against future risks associated with the ‘‘too big to fail’’ 

problem? 

A.5. As described previously, section 121 of the Dodd-Frank Act authorizes the Board to take certain actions, with the approval of 

two-thirds of the FSOC, to restrict an institution’s activities if the 

company poses a grave threat to U.S. financial stability. The Board 

may require the institution to divest assets if such action is necessary to mitigate the grave threat posed by the company. This authority requires a finding that the firm poses a grave threat to U.S. 

financial stability, and does not require a finding that the financial 

system is in active crisis. 

Q.6. Do you believe there are further steps Congress should take 

to fix the ‘‘too big to fail problem’’? 

A.6. The Dodd-Frank Act and Basel III provide a number of important tools for addressing the ‘‘too big to fail’’ problem, including enhanced prudential standards and higher capital requirements for 

bank holding companies with total consolidated assets of $50 billion or more and nonbank financial companies designated by the 

FSOC for Board supervision, an orderly resolution authority for 

large financial firms, living wills, stress testing, and central clearing and margin requirements for derivatives, among other provisions. The Board and other U.S. regulators are now in the process 

of implementing these reforms. 

In addition, as described previously, section 622 of the DoddFrank Act imposes a concentration limit on large financial companies that provides that a large financial company may not merge, 

consolidate with, or acquire all or substantially all of the assets or 

control of another company, if the total consolidated liabilities of 

the resulting company would exceed 10 percent of the liabilities of 

114 

all large financial companies. In addition, the Board and the other 

Federal banking agencies are required to consider the risk to the 

stability of the U.S. banking or financial system of a proposed 

merger or acquisition involving bank holding companies and insured depository institutions. 

Completion of this agenda will be very significant. Still, I believe 

that more is needed, particularly in addressing the risks posed by 

short-term wholesale funding markets. We should be considering 

ways to use our existing authority in pursuit of three complementary ends: (1) ensuring the loss absorbency needed for a credible 

and effective resolution process, (2) augmenting the going-concern 

capital of the largest firms, and (3) addressing the systemic risks 

associated with the use of wholesale funding. 

Q.7. In her written testimony to the hearing, the Special Inspector 

General for TARP (SIGTARP) Christy Romero discussed the 

‘‘threat of contagion’’ to our financial system caused by the interconnectedness of the largest institutions that existed in the run-up 

to the financial crisis. 

Do you believe the financial system remains vulnerable to the 

interconnectedness of the largest institutions? 

A.7. As demonstrated in the 2007–2008 financial crisis, interconnectedness among large financial institutions poses risks to financial stability. The effects of one large financial institution’s failure or near collapse may be transmitted and amplified by bilateral 

credit exposures between large, systemically important companies. 

And even in the absence of direct bilateral relationships, the failure 

of a large financial institution can place other financial institutions 

under stress because of indirect relationships. For example, following the failure of a large financial institution, short-term creditors may try to reduce their exposure to other firms, depriving 

those firms of liquidity. While there are a number of efforts underway to improve the stability and resiliency of our financial system 

(see below), interconnectedness among large financial institutions 

still poses risk to the financial system. 

As we implement financial reform, however, it is important to 

note that interconnectedness is also a means by which financial 

and economic activity is intermediated throughout the financial 

system. Accordingly, efforts to address risks posed by interconnectedness must strike a balance between the goals of reducing systemic risk and preserving the ability of the financial sector to provide credit to households and businesses. 

Q.8. What is the Department of the Treasury doing to address 

risks that the interconnectedness of large financial institutions 

pose to our financial system? 

A.8. A number of regulatory initiatives are underway to limit the 

risks that interconnectedness poses to the financial system. 

First, more robust prudential standards for financial institutions 

will likely mitigate risks associated with interconnectedness, both 

by (a) reducing the probability that any given financial institution 

will fail and (b) increasing the ability of other financial institutions 

to absorb the knock-on effects of such failure. Thus, Basel III capital and liquidity standards should reduce the chances of the kind 

of financial distress among large financial institutions observed in 

115 

2008. The Basel III reforms, in particular, will increase the amount 

of capital banks are required to hold against exposures to other financial firms and against over-the-counter derivatives exposures. 

The single-counterparty concentration limits required under section 

165(e) of the Dodd-Frank Act will also serve as a check on interconnectedness. Under the Board’s proposal to implement that section, exposures between major covered companies and major 

counterparties would be subject to a tighter limit than other exposures, reducing the risks that arise from interconnectedness among 

the largest firms. 

Certain market reforms that are underway will also limit interconnectedness. Among these, derivative market reforms, including 

clearing requirements and margin requirements on uncleared derivatives, will reduce the direct credit exposure that large financial 

institutions have with each other through derivative transactions. 

Finally, the supervisory process has changed since 2008 to more 

closely monitor and evaluate the connections that large financial 

institutions maintain with each other, putting supervisors in a better position to respond to interconnectedness. 

Q.9. Can you describe the metrics the Department of the Treasury 

uses to monitor an institution’s interconnectedness and risk that it 

may pose to the financial system? 

A.9. Interconnectedness among financial institutions arises from a 

number of distinct sources, including connections through asset 

markets and funding channels. As a result, the interconnectedness 

and risk of a financial institution must be characterized using an 

approach that is both holistic and systemic, but that also adapts to 

changing conditions and market practices. 

The Board is now engaged in a number of information collections 

that are aimed at better assessing the risk and interconnectedness 

of large financial institutions. For example, the supervisory stress 

tests that inform the comprehensive capital plan and review inform 

our view on the risk profile of large banks. The stress tests can be 

useful for identifying banks that are interconnected through common asset exposures that are revealed during periods of financial 

stress, which is when interconnectedness presents the greatest risk 

to the financial system. 

As another example, the Board, along with other supervisors 

from other jurisdictions, has begun to collect data on the activities 

of large banks to help calibrate a capital surcharge for systemically 

important banks. These data include data on interconnectedness, 

which will play an important role in determining the overall capital 

surcharge. 

Q.10. Christy Romero also provided testimony about the need for 

large institutions to engage in effective risk management practices 

and for regulators to supervise this risk management. 

Do you believe the risk management practices at the largest financial institutions are adequate? 

A.10. In general, risk management practices and risk governance 

at the largest financial institutions have improved significantly 

since the crisis. They must constantly evolve, however, to keep pace 

with a complex and highly dynamic financial system. Our annual 

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116 

vides us a regular occasion for assessing many of these practices, 

and, where appropriate, requiring improvements. 

Q.11. Can you describe what the Department of the Treasury is 

doing to supervise the risk management at the largest institutions? 

A.11. Risk management is a key focus of the Board’s supervision 

of the largest bank holding companies. This is evidenced in several 

ways, including but not limited to: 

• Risk management is one of the key criteria by which large 

bank holding companies are rated for supervisory purposes. 

• The importance of robust risk management is highlighted 

throughout the recently revised guidance on consolidated supervision of large bank holding companies (SR 12-17). 

• Supervisors routinely review and assess aspects and components of risk management when conducting exams, which are 

conducted at the largest bank holding companies on a near 

continual basis throughout the year. 

• The qualitative assessment component of the Comprehensive 

Capital Assessment and Review (CCAR) focuses significantly 

on firms’ risk management practices, including with respect to 

stress testing. 

Of course, the Board’s supervision of firms’ risk management is 

not and cannot be a substitute for firms’ own risk management 

practices and governance. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY 

FROM DANIEL K. TARULLO 

Q.1. In response to concerns that the bank-centric Basel III capital 

standards are unworkable for insurers, the Fed has indicated that 

it would perform some tailoring of those standards. However, there 

is continuing concern among the life insurance industry that the 

proposed tailoring is inadequate and does not properly acknowledge 

the wide differences between banking and insurance. 

What kinds of more substantive changes will the Fed consider to 

the Basel III rulemaking to prevent negative impacts to insurers 

and the policyholders, savers, and retirees that are their customers? 

A.1. Section 171 of the Dodd-Frank Act requires that the Federal 

Reserve Board (the Board) establish minimum leverage capital requirements and minimum risk-based capital requirements for depository institution holding companies and for financial companies 

designated by the Financial Stability Oversight Council that are 

not ‘‘less than’’ the minimum capital requirements for insured depository institutions. On June 7, 2012, the Board and the other 

Federal banking agencies proposed to revise their risk-based and 

leverage capital requirements in three notices of proposed rulemaking (NPRs), consistent with this statutory requirement. 

The NPRs proposed flexibility to address the unique character of 

insurance companies through specific risk weights for policy loans 

and nonguaranteed separate accounts, which are typically held by 

insurance companies, but not banks. These specific risk weights 

were designed to apply appropriate capital treatments to assets 

117 

particular to the insurance industry while complying with the requirements of section 171 of the Dodd-Frank Act. 

The Board is carefully considering the comments it has received 

regarding the application of section 171 of the Dodd-Frank Act to 

savings and loan holding companies and bank holding companies 

that are significantly engaged in the insurance business. We will 

continue to consider these issues seriously, as well as the potential 

implementation challenges for depository institution holding companies with insurance operations, as we determine how to move 

forward with respect to the proposed capital requirements. 

Q.2. There is also a concern that the bank standards are a dramatic departure from the duration matching framework common to 

insurance supervision. 

What is your response to that concern and would the Fed consider doing more than just tailoring bank standards? 

Do you believe that, from an insurance perspective, Basel III 

bank standards are an incremental or dramatic departure from 

current insurance standards? 

A.2. As discussed in the above answer, the Board developed the 

proposed capital requirements to meet the requirements of the 

Dodd-Frank Act, to promote capital adequacy at all depository institution holding companies, and, to the extent permitted by section 

171, to incorporate adjustments for depository institution holding 

companies significantly engaged in the insurance business. The 

Board has received numerous comments on the proposals with respect to insurance companies. Many of these comments discuss 

suggestions for other approaches to applying regulatory capital 

standards to depository institution holding companies that have 

significant insurance operations. The Board is carefully considering 

all of these comments. 

Q.3. Regarding the Volcker Rule, some have suggested that the 

banking agencies should just go ahead and issue their final rule 

without waiting to reach agreement with the Securities and Exchange Commission and Commodities Futures Trading Commission, which have to issue their own rules. This scenario could result in there being more than one Volcker Rule, which would create 

significant confusion about which agency’s rule would apply to 

which covered activity. 

Do you agree that there should be only one Volcker Rule? 

A.3. While section 619(b)(2) of the Dodd-Frank Act divides authority for developing and adopting regulations to implement its prohibitions and restrictions between the Federal Reserve Board, the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the Securities and Exchange Commission, and 

the Commodity Futures Trading Commission, (the Agencies) based 

on the type of entities for which each agency is explicitly charged 

or is the primary financial regulatory agency, the rule proposed by 

the Agencies to implement section 619 contemplates that firms will 

develop and adopt a single, enterprise-wide compliance program 

and that the Agencies would strive for uniform enforcement of section 619. To enhance uniformity in both the rules that implement 

section 619 and administration of the requirements of section 619, 

118 

the Agencies have been regularly consulting with each other in the 

development of rules and policies that implement section 619. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM MARTIN J. GRUENBERG 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. The FDIC does not have a single benchmark that it uses to 

determine whether a particular activity constitutes hedging as distinguished from proprietary trading. We do have certain standards 

that are used to determine whether activities constitute a hedge for 

purposes of financial reporting or, in certain instances, as an input 

into the bank’s regulatory capital calculations. However, these 

standards vary based upon the purpose for which an exposure 

serves as a hedge. For example, in the context of financial reporting, banks use the strict hedge accounting requirements set forth 

by the Financial Accounting Standards Board; but, for calculating 

market risk capital requirements, banks can rely on their own 

models for determining whether an exposure provides hedging benefits. The hedging requirements in the proposed Volcker Rule are 

important steps forward in promoting a general standard that can 

be used by the banking agencies to determine whether any particular activity is legitimate hedging as opposed to proprietary 

trading, which introduces additional risk. While our examiners routinely review the activities of a financial institution to determine 

consistency with safety and soundness standards, we view the 

Volcker Rule as providing the FDIC with important additional tools 

to help determine whether an activity poses additional risk to a financial institution. 

Q.2. Federal Reserve, FDIC, and OCC have issued proposed rules 

to implement Dodd-Frank and Basel III capital requirements for 

U.S. institutions. Late last year, your agencies pushed back the effective date of the proposed Basel III rules beyond January 1, 2013. 

Given the concerns that substantially higher capital requirements 

will have a negative impact on lending, are your agencies using 

this extra time to conduct a cost-benefit analysis about the impact 

of the proposed rules on the U.S. economy, availability, and cost of 

credit, cost of insurance, and the regulatory burden on institutions, 

before implementing the final rules? 

A.2. In June 2012, the FDIC along with the other banking agencies 

approved for public comment three notices of proposed rulemaking 

that collectively would implement the Basel III framework, the 

Basel II standardized approach, and other recent enhancements to 

the international capital framework adopted by the Basel Committee, as well as certain provisions of the Dodd-Frank Act (the 

119 

1See, 77 Fed. Reg. 52792 (Aug. 30, 2012); 77 Fed. Reg. 52888 (Aug. 30, 2012); and 77 Fed. 

Reg. 52978 (Aug. 30, 2012). 2See, e.g., the Initial Regulatory Flexibility Analysis for the Basel III NPR, 77 Fed. Reg. 

52792, 52833 (Aug. 30, 2012). 3See, ‘‘Assessing the Macroeconomic Impact of the Transition to Stronger Capital and Liquidity Requirements’’ (MAG Analysis), also available at: http://www.bis.org/publ/othpl2.pdf; see 

also, ‘‘Results of the Comprehensive Quantitative Impact Study’’, also available at: http:// 

www.bis.org/publ/bcbsl86.pdf. 4See, ‘‘An Assessment of the Long-Term Economic Impact of Stronger Capital and Liquidity 

Requirements’’, Executive Summary, p. 1. 5See, MAG Analysis, Conclusions and open issues, pp. 9–10. 

NPRs). 1 For purposes of the NPRs, the agencies conducted the cost 

and burden analyses required by the Regulatory Flexibility Act, the 

Paperwork Reduction Act, and the Unfunded Mandates Reform Act 

of 1995, all of which are further detailed in the NPRs. 2 The agencies have invited public comment on these analyses. 

The agencies also participated in the development of a number 

of studies to assess the potential impact of the revised capital requirements, including participating in the Basel Committee’s Macroeconomic Assessment Group (MAG) as well as its Quantitative 

Impact Study, the results of which were made publicly available by 

the Basel Committee on Banking Supervision upon their completion. 3 Basel Committee analysis has suggested that stronger capital requirements could help reduce the likelihood of banking crises 

while yielding positive net economic benefits. 4 Specifically, a better 

capitalized banking system should be less vulnerable to banking 

crises, which have historically been extremely harmful to economic 

growth. Moreover, the MAG analysis found that the requirements 

would only have a modest negative impact on the gross domestic 

product of member countries, and that any such negative impact 

could be significantly mitigated by phasing in the proposed requirements over time. 5 Taken together, these studies suggest that a better capitalized banking system will better support economic growth 

sustainably over time. 

The agencies also sought public comment on the proposed requirements in the NPRs to better understand their potential costs 

and benefits. The agencies asked several specific questions in the 

NPRs about potential costs related to the proposals and are considering all comments carefully. During the comment period, the 

agencies also participated in various outreach efforts, such as engaging community banking organizations and trade associations, 

among others, to better understand industry participants’ concerns 

about the NPRs and to gather information on their potential effects. In addition, to facilitate public comment, the agencies developed and provided to the industry an estimation tool that would 

allow an institution to estimate the regulatory capital impact of the 

NPRs. These efforts have provided valuable additional information 

to assist the agencies as we determine how to proceed with the proposed rulemakings. 

Q.3. Given the impact that the Qualified Mortgages (QM) rules, the 

proposed Qualified Residential Mortgages (QRM) rules, the Basel 

III risk-weights for mortgages, servicing, escrow and appraisal 

rules will have on the mortgage market and the housing recovery, 

it is crucial that these rules work in concert. What analysis has 

your agency conducted to assess how these rules work together? 

What is the aggregate impact of those three rules, as proposed and 

120 

6 77 Fed. Reg. 52888, 52899 (Aug. 30, 2012). 7 76 Fed. Reg. 24090 (April 29, 2011). 

finalized, on the overall mortgage market as well as on market participants? 

A.3. At the time of the release of the regulatory capital NPRs, the 

QM and QRM rules had not been released in final form. Accordingly, in connection with the proposed treatment for 1-4 family residential mortgage loans, the agencies solicited comment on alternative criteria or approaches for differentiating among the levels of 

risk inherent in different mortgage exposures. Specifically, the 

agencies invited comment on whether ‘‘all residential mortgage 

loans that meet the ‘qualified mortgage’ criteria to be established 

for purposes of the Truth in Lending Act pursuant to section 1412 

of the Dodd-Frank Act [should] be included in category 1.’’ 6 The 

agencies are considering the comments received in connection with 

the proposed treatment for 1-4 family residential mortgage exposures, as well as comments received in response to the NPR relating to Credit Risk Retention, which included proposed QRM standards. 7 Now that we have the benefit of the final QM rule, the agencies can consider QRM and Basel III in light of the QM standards. 

All three rules—QM, QRM, and Basel III—could impact the mortgage market. In the FDIC’s view, it is important that the agencies 

endeavor in the final rulemaking on QRM and Basel III to take 

into consideration the cumulative impact of the rules on the mortgage market, including the availability of credit. 

Q.4. Under the Basel III proposals mortgages will be assigned to 

two risk categories and several subcategories, but in their proposals the agencies did not explain how risk weights for those subcategories are determined and why they are appropriate. How did 

your agency determine the appropriate range for those subcategories? 

A.4. The agencies currently are reviewing the numerous comment 

letters from banking organizations on whether the proposed methodology and risk weights for category 1 and 2 residential mortgages 

are appropriate. As stated in the preamble to the Standardized Approach NPR, the U.S. housing market experienced unprecedented 

levels of defaults and foreclosures due in part to qualitative factors 

such as inadequate underwriting standards, high risk mortgage 

products such as so-called payment-option adjustable rate mortgages, negatively amortizing loans, and the issuance of loans to 

borrowers with undocumented and unverified income. In addition, 

the agencies noted that the amount of equity a borrower has in a 

home is highly correlated with default risk. Therefore, the agencies 

proposed to assign higher risk weights to loans that have higher 

credit risk while assigning lower risk weights to loans with lower 

credit risk. 

The agencies also recognize that the use of loan-to-value (LTV) 

ratios to assign risk weights to residential mortgage exposures is 

not a substitute for and does not otherwise release a banking organization from its responsibility to have prudent loan underwriting 

and risk management practices consistent with the size, type, and 

risk of its mortgage business. In deliberations on the final rule, the 

agencies also are reviewing the interagency supervisory guidance 

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8 Reported foreign activities encompass sum of assets, the notional value of off-balance-sheet 

derivatives, and other off-balance-sheet items of foreign subsidiaries and branches. 9 ‘‘Resolving Globally Active, Systemically Important, Financial Institutions’’, http:// 

www.fdic.gov/about/srac/2012/gsifi.pdf. 

documents on risk management involving residential mortgages, 

including the Interagency Guidance on Nontraditional Mortgage 

Product Risks (October 4, 2006); the interagency Statement on 

Subprime Mortgage Lending (July 10, 2007), and the Appendix A 

to Subpart A of Part 365 of the FDIC Rules and Regulations–Interagency Guidelines for Real Estate Lending (December 31, 1992). 

Q.5. In a speech last year you stated that the failure of a systemically important financial institution will likely have significant 

international operations and that this will create a number of challenges. What specific steps have been taken to improve the crossborder resolution of a SIFI? What additional steps must be taken 

with respect to the cross-border resolution of a SIFI? 

A.5. As I stated in my testimony, the experience of the financial 

crisis highlighted the importance of coordinating resolution strategies across national jurisdictions. Section 210 of the Dodd-Frank 

Act expressly requires the FDIC to ‘‘coordinate, to the maximum 

extent possible’’ with appropriate foreign regulatory authorities in 

the event of the resolution of a covered financial company with 

cross-border operations. As we plan internally for such a resolution, 

the FDIC has continued to work on both multilateral and bilateral 

bases with our foreign counterparts in supervision and resolution. 

The aim is to promote cross-border cooperation and coordination 

associated with planning for an orderly resolution of a globally active, systemically important financial institution (G–SIFIs). 

As part of our bilateral efforts, the FDIC and the Bank of England, in conjunction with the prudential regulators in our jurisdictions, have been working to develop contingency plans for the failure of G–SIFIs that have operations in both the U.S. and the U.K. 

Of the 28 G–SIFIs designated by the Financial Stability Board of 

the G20 countries, four are headquartered in the U.K., and another 

eight are headquartered in the U.S. Moreover, around two-thirds of 

the reported foreign activities of the eight U.S. SIFTs emanate 

from the U.K. 8 The magnitude of these financial relationships 

makes the U.S.–U.K. bilateral relationship by far the most important with regard to global financial stability. As a result, our two 

countries have a strong mutual interest in ensuring that, if such 

an institution should fail, it can be resolved at no cost to taxpayers 

and without placing the financial system at risk. An indication of 

the close working relationship between the FDIC and U.K. authorities is the joint paper on resolution strategies that we released in 

December. 9

In addition to the close working relationship with the U.K., the 

FDIC and the European Commission (E.C.) have agreed to establish a joint Working Group comprised of senior staff to discuss resolution and deposit guarantee issues common to our respective jurisdictions. The Working Group will convene twice a year, once in 

Washington, once in Brussels, with less formal communications 

continuing in between. The first of these meetings will take place 

later this month. We expect that these meetings will enhance close 

122 

coordination on resolution related matters between the FDIC and 

the E.C., as well as European Union Member States. 

The FDIC also has engaged with Swiss regulatory authorities on 

a bilateral and trilateral (including the U.K.) basis. Through these 

meetings, the FDIC has further developed its understanding of the 

Swiss resolution regime for G–SIFIs, including an in-depth examination of the two Swiss-based G–SIFIs with significant operations 

in the U.S. In part based on the work of the FDIC, the Swiss regulatory authorities have embraced a single point of entry approach 

for the Swiss based G–SIFIs. 

The FDIC also has had bilateral meetings with Japanese authorities. FDIC staff attended meetings hosted by the Deposit Insurance Corporation of Japan and the FDIC hosted a meeting with 

representatives of the Japan Financial Services Agency to discuss 

our respective resolution regimes. The Government of Japan has 

proposed legislation to expand resolution authorities for the responsible Japanese agencies. These bilateral meetings, including an expected principal level meeting later this year, are part of our continued effort to work with Japanese authorities to develop a solid 

framework for coordination and information-sharing with respect to 

resolution, including through the identification of potential impediments to the resolution of G–SIFIs with significant operations in 

both jurisdictions. 

These developments mark significant progress in fulfilling the 

mandate of section 210 of the Dodd-Frank Act and achieving the 

type of international coordination that would be needed to effectively resolve a G–SIFI in some future crisis situation. The FDIC 

is continuing efforts to engage our counterparts in other countries 

in greater coordination to improve the ability to achieve an orderly 

liquidation in the event of the failure of a large, internationally active financial institution. We will continue to pursue these efforts 

through both bilateral and multilateral approaches. 

Q.6. In June of last year, the FDIC proposed a rule that mirrored 

the Federal Reserve’s proposed definition of ‘‘predominantly engaged in financial activity.’’ Since this definition triggers FDIC’s 

ability to exercise its orderly liquidation authority, the proposed 

rule has generated a considerable amount of concern. Does the 

FDIC intend to reconsider its proposed definition of ‘‘predominately 

engaged in financial activities’’ to address concerns raised in public 

comment letters? 

A.6. Section 201(b) of the Dodd-Frank Act requires the FDIC in 

consultation with the Secretary of the Treasury to establish certain 

definitional criteria for determining if a company is predominantly 

engaged in activities that the Board of Governors has determined 

are financial in nature or incidental thereto for purposes of section 

4(k) of the Bank Holding Company Act. A company that is predominantly engaged in such activities would be considered a ‘‘financial company’’ for purposes of Title II of the Act. 

On March 23, 2011, the FDIC published in the Federal Register 

a notice of proposed rulemaking titled ‘‘Orderly Liquidation Authority’’ (March 2011 NPR) that proposed, among other things, definitional criteria for determining if a company is predominantly engaged in activities that are financial in nature or incidental thereto 

123 

for purposes of Title II. On June 18, 2012, the FDIC published for 

comment a supplemental notice of proposed rulemaking, which proposed to clarify the scope of activities that would be considered financial in nature or incidental thereto for purposes of the March 

2011 NPR (June 2012 NPR). 

The FDIC received eight comments responding to the March 

2011 NPR and seven comments responding to the June 2012 NPR. 

The FDIC is currently in the process of reviewing these comments 

and will consider them carefully in developing its final rule. 

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21413003.eps

FEDERAL DEPOSIT INSURANCE CORPORATION. Wasllngton. OC 20429 

MARTIN J. GRUENBERG 

CHAIRMAN 

Honorable Mike Crapo 

Ranking Minority Mcmber 

Committee on Banking, Housing, and Urban Affairs 

United States Senate 

Washington, D.C. 20510 

Dear Senator Crapo: 

May 29, 2013 

I am writing to follow up on the discussion during the February 14 Senate Banking 

Committee hearing on "Wall Street Reform: Oversight of Financial Stability and Consumer and 

Investor Protections" regarding analyses and efforts by the financial regulators to understand and 

quantify the anticipated cumulative effects of the Dodd-Frank Wall Street Reform and Consumer 

Protcction Act (Dodd-Frank Act) rules. 

The Federal Deposit Insurance Corporation seeks to avoid imposing any unnecessary 

costs or burdens on the industry or the public in its rulemaking and other regulatory endeavors 

generally. As described in the FDIC's recently updated Statement of Policy on the Development 

and Review of FDIC Regulations and Policies, the FDIC gives careful consideration to the need 

for issuing a regulation and, once that need is determined, evaluates benefits and costs, based on 

available information, and considers reasonable and possible alternatives. The Statement of 

Policy makes clear that the main alternatives, once identified as available, should be described 

and analyzed for their consistency with statutory or policy objectives, effectiveness in achieving 

those objectives, and burden on the public or industry. As part of any notice-and-comment 

process, the FDIC typically seeks comment on the potential for less burdensome or more 

effective alternatives and carefully considers all comments, including those that focus on costs to 

the industry, before issuing a final rule. 

The FDIC is committed to ensuring that our rulemaking and supervisory activities do not 

impose unnecessary costs or burdens on the banking industry or the public and that we are 

mindful of the effectiveness of our regulations as a whole when deliberating on new ruleswhether under Dodd-Frank or otherwise. 

The Government Accountability Office (GAO) has noted the difficulty of determining 

the comprehensive costs of Dodd-Frank rulemakings and has stated that it is too soon to assess 

the effects of the Dodd-Frank Act. In its January 2013 report; the GAO stated that "the DoddFrank Act's full impact on [financial firms'] businesses, operations, and earnings remains 

uncertain, in part because of the rulemakings that still need to be completed," and that "even 

when the reforms have been fully implemented, it may not be possible to determine precisely the 

extent to which observed costs can be attributed to the act versus other factors, such as changes 

in the economy." 
125 


21413004.eps

In evaluating the extent to which the FDIC is considering the cumulative burden of all 

Dodd-Frank rulemakings on market participants and the economy, the FDIC's independent 

Office ofInspector General (DIG) has found that the "FDIC is working on a number of efforts to 

establish clear rules under the Dodd-Frank Act that will ensure financial stability while 

implementing those rules in a targeted manner to avoid unnecessary regulatory burden."( The 

FDIC will continue to evaluate the benefits and costs of its Dodd-Frank regulations as the entire 

regulatory structure is completed and its effects become more fully known and understood. 

Thank you for your continued interest in this important topic. If you have further 

questions or comments, please do not hesitate to contact me at (202) 898-3888 or Eric Spitler, 

Director, Office of Legislative Affairs, at (202) 898-7140. 

Sincerely, 

~l~ Martin J. Gruenberg 

I "Evaluation of the FDIC's Economic Analysis of Three Rulemakings to Implement Provisions of the Dodd-Frank 

Act," FDIC Office ofinspector General (June 2011): 19. 
126 

1Pub. L. 102-242, 105 Stat. 2236. The PCA requirements were enacted in section 38 of the 

Federal Deposit Insurance Act, 12 U.S.C. 1831o. 2 Currently, the market risk capital rule is codified in 12 CFR part 325, appendix C. As of 

the effective date of the Basel III consolidated final rule, the citation for the market risk rule 

will be: 12 CFR part 324, subpart F. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARNER 

FROM MARTIN J. GRUENBERG 

Q.1. As you know, a number of people including Sheila Bair have 

been advocates of using a simple leverage ratio as the primary 

measure of banks’ capital strength. Would focusing on a simple leverage ratio, using the Basel III definition of leverage which includes key off balance sheet exposures, help cut through the noise 

of risk weighting and models and cross border differences, and give 

us all greater confidence that large banks are holding a good 

amount of high quality capital? 

A.1. Maintaining a minimum ratio of capital to assets has been a 

regulatory requirement for U.S. banking organizations since the 

early 1980s, and a benchmark for supervisors’ evaluation of capital 

adequacy long before that time. Leverage ratio requirements were 

part of the statutory framework of the Prompt Corrective Action requirements introduced in the FDIC Improvement Act of 1991. 1 Leverage ratio requirements in the United States exist side-by-side 

with risk-based capital requirements, and each banking organization must have sufficient capital to satisfy whichever requirement 

is more stringent. 

Over time, as risk-based capital requirements have attempted to 

provide greater differentiation among types and degrees of risk, 

they also have become increasingly complex, particularly for advanced approaches banking organizations and those subject to the 

market risk rule. 2 Risk-based capital requirements for these institutions depend largely on the output of internal risk models and 

have been criticized for being overly complex, opaque, and difficult 

to supervise consistently. With only risk-based requirements, a 

banking organization can increase its permissible use of leverage 

by concentrating in exposures that receive favorable risk weights. 

Exposures with favorable risk weights, however, can still experience high losses. 

Leverage ratio requirements, in contrast, directly constrain bank 

leverage and thereby offset potential weaknesses in the risk-based 

ratios and generate a baseline amount of capital in a way that is 

readily determinable and enforceable. The introduction of a leverage ratio in the international Basel III capital framework is an important step that we strongly support. It is well established that 

banks with higher capital as measured by the leverage ratio are 

less likely to fail or experience financial problems. Avoiding capital 

shortfalls at large institutions is particularly important in containing risks to the financial system and reducing the likelihood of 

economic disruption associated with problems at these institutions. 

It is therefore important and appropriate to have a strong leverage 

capital framework to complement the risk-based capital regulations. This is needed to ensure an adequate base of capital exists 

in the event the risk-based ratios either underestimate risk or do 

not inspire confidence among market participants. 

127 

Q.2. The FDIC and Fed have joint jurisdiction over the completion 

of living wills from large firms. Now, I don’t think anyone expected 

the first year of plans to be perfect, but can you remind everyone, 

for the FDIC and Fed to approve the plans, isn’t the standard that 

they have to show how normal liquidation like bankruptcy or FDIC 

resolution could work under reasonable circumstances? And what 

progress have the plans made in getting firms to think through 

their structure, better inform you as regulators, and lead to simplification and rationalization? 

A.2. On July 1, 2012, the first group of living wills, generally involving bank holding companies and foreign banking organizations 

with $250 billion or more in nonbank assets, were received. In 

2013, the firms that submitted initial plans in 2012 will be expected to refine and clarify their submissions. The Dodd-Frank Act 

requires that at the end of this process these plans be credible and 

facilitate an orderly resolution of these firms under the Bankruptcy 

Code. Four additional firms are expected to submit plans on July 

1, 2013, and approximately 115 firms are expected to file on December 31, 2013. 

Last year (2012) was the first time any firms had ever created 

or submitted resolution plans. There were a number of key objectives of this initial submission including: 

• Identify each firm’s critical operations and its strategy to maintain them in a crisis situation; 

• Map critical operations and core business lines to material 

legal entities; 

• Map cross-guarantees, service level agreements, shared employees, intellectual property, and vendor contracts across material legal entities; 

• Identify and improve understanding of the resolution regimes 

for material legal entities; 

• Identify key obstacles to rapid and orderly resolution; and 

• Use plan information to aid in Title II resolution planning and 

to enhance ongoing firm supervision. 

Each plan was reviewed for informational completeness to ensure 

that all regulatory requirements were addressed in the plans, and 

the Federal Reserve and the FDIC have been evaluating each 

plan’s content and analysis. 

Following the review of the initial resolution plans, the agencies 

developed instructions for the firms to detail what information 

should be included in their 2013 resolution plan submissions. The 

agencies identified an initial set of significant obstacles to rapid 

and orderly resolution that covered companies are expected to address in the plans, including the actions or steps the company has 

taken or proposes to take to remediate or otherwise mitigate each 

obstacle and a timeline for any proposed actions. The agencies extended the filing date to October 1, 2013, to give firms additional 

time to develop resolution plan submissions that address the instructions. 

Resolution plans submitted in 2013 will be subject to informational completeness reviews and reviews for resolvability under the 

Bankruptcy Code. The agencies established a set of benchmarks for 

128 

assessing a resolution under bankruptcy, including a benchmark 

for cross-border cooperation to minimize the risk of ring-fencing or 

other precipitous actions. Firms will need to provide a jurisdictionby-jurisdiction analysis of the actions each would need to take in 

a resolution, as well as the actions to be taken by host authorities, 

including supervisory and resolution authorities. Other benchmarks expected to be addressed in the plans include: the risk of 

multiple, competing insolvency proceedings; the continuity of critical operations—particularly maintaining access to shared services 

and payment and clearing systems; the potential systemic consequences of counterparty actions; and global liquidity and funding 

with an emphasis on providing a detailed understanding of the 

firm’s funding operations and cash flows. 

Through this process, firms will need to think through and implement structural changes in order to meet the Dodd-Frank Act 

objectives of resolvability through the Bankruptcy Code. 

Q.3. Are you confident that Title II can work for even the largest 

and most complex firms? What are the areas where we can still 

make improvement, and how are we progressing on improving the 

cross border issues? 

A.3. We believe that Title II can work for even the largest and 

most complex firms. 

The FDIC has largely completed the rulemaking necessary to 

carry out its systemic resolution responsibilities under Title II of 

the Dodd-Frank Act. In July 2011, the FDIC Board approved a 

final rule implementing the Title II Orderly Liquidation Authority. 

This rulemaking addressed, among other things, the priority of 

claims and the treatment of similarly situated creditors. 

The FDIC now has the legal authority, technical expertise, and 

operational capability to resolve a failing systemic resolution. The 

FDIC introduced its ‘‘single entry’’ strategy for the resolution of a 

U.S. G–SIFI using the Order Liquidation Authority under Title II 

of the Dodd Frank Act. Since then the FDIC has been working to 

operationalize the strategy and enhance FDIC preparedness. 

Key activities to operationalize the strategy include: 

• Addressing vital issues, including valuation, recapitalization, 

payments, accounting, and governance, through ongoing internal FDIC projects. 

• Developing and refining Title II resolution strategies that consider the specific characteristics of each of the largest U.S. 

domiciled SIFIs. Summaries of these plans have been shared 

with domestic and international regulators. 

• Actively communicating this approach with key stakeholders to 

ensure that the market understands what actions the FDIC 

may take ahead of the failure to minimize irrational or unnecessarily disruptive behavior. In 2012, the FDIC participated in 

over 20 outreach events with academics and other thought 

leaders, industry groups, rating agencies, and financial market 

utilities in order to expand (domestic) communications/outreach efforts regarding Title II OLA. 

The FDIC has made great strides in developing cooperation with 

host supervisors and resolution authorities in the most significant 

129 

foreign jurisdictions for U.S. G–SIFIs to allow for a successful implementation of the Orderly Liquidation Authority. These dialogues 

with host supervisors and resolution authorities occur at both the 

bilateral and multilateral level. 

As part of our bilateral efforts, the FDIC and the Bank of England, in conjunction with the prudential regulators in our respective jurisdictions, have been working to develop contingency plans 

for the failure of G–SIFIs that have operations in both the U.S. and 

the U.K. Approximately 70 percent of the reported foreign activities 

of the eight U.S. G–SIFIs emanates from the U.K. An indication of 

the close working relationship between the FDIC and U.K. authorities is the joint paper on resolution strategies that the FDIC and 

the Bank of England released in December 2012. This joint paper 

focuses on the application of ‘‘top-down’’ resolution strategies for a 

U.S. or a U.K. financial group in a cross-border context and addressed several common considerations to these resolution strategies. 

In addition to the close working relationship with the U.K., the 

FDIC and the European Commission (E.C.) have agreed to establish a joint Working Group comprised of senior staff to discuss resolution and deposit guarantee issues common to our respective jurisdictions. The Working Group will convene twice a year, once in 

Washington, once in Brussels, with less formal communications 

continuing in between. The first of these meetings will take place 

later this month. We expect that these meetings will enhance close 

coordination on resolution related matters between the FDIC and 

the E.C., as well as European Union Member States. 

The FDIC also has engaged with Swiss regulatory authorities on 

a bilateral and trilateral (including the U.K.) basis. Through these 

meetings, the FDIC has further developed its understanding of the 

Swiss resolution regime for G–SIFIs, including an in-depth examination of the two Swiss-based G–SIFIs with significant operations 

in the U.S. In part based on the work of the FDIC, the Swiss regulatory authorities have embraced a single point of entry approach 

for the Swiss based U-SIFIs. 

The FDIC also has had bilateral meetings with Japanese authorities. FDIC staff attended meetings hosted by the Deposit Insurance Corporation of Japan and the FDIC hosted a meeting with 

representatives of the Japan Financial Services Agency, to discuss 

our respective resolution regimes. The Government of Japan has 

proposed legislation to expand resolution authorities for the responsible Japanese Agencies. These bilateral meetings, including an expected principal level meeting later this year, are part of our continued effort to work with Japanese authorities to develop a solid 

framework for coordination and information-sharing with respect to 

resolution, including through the identification of potential impediments to the resolution of G–SIFIs with significant operations in 

both jurisdictions. 

Q.4. The statutory language for funds defined under the Volcker 

Rule pointedly did not include venture funds, however the definition in the proposed rule seemed to indicate that venture funds 

would be covered. In addition to exceeding the statutory intent of 

Congress, this has created uncertainty in the market as firms 

await a final rule and refrain from making commitments which 

130 

might be swept up in the final version of the Volcker Rule. Can you 

clarify whether venture funds are covered by the Volcker Rule? 

A.4. Section 619(h)(2) of the Dodd-Frank Act defines the terms 

‘‘hedge fund’’ and ‘‘private equity fund’’ as ‘‘an issuer that would be 

an investment company, as defined in the Investment Company 

Act of 1940 (15 U.S.C. 80a-1, et seq.), but for section 3(c)(1) or 

3(c)(7) of that Act, or such similar funds as the appropriate Federal 

banking agencies, the Securities and Exchange Commission, and 

the Commodity Futures Trading Commission may, by rule, as provided in subsection (b)(2), determine.’’ This definition, as written, 

would cover the majority of venture capital funds. 

As part of the NPR, the agencies sought public comment on 

whether venture capital funds should be excluded from the definition of ‘‘hedge fund’’ and ‘‘private equity fund’’ for purposes of the 

Volcker Rule. In the NPR, the agencies asked: 

Should venture capital funds be excluded from the definition of ‘‘covered fund’’? Why or why not? If so, should the 

definition contained in rule 203(l)-(1) under the [Investment] Advisers Act be used? Should any modifications to 

that definition of venture capital fund be made? How 

would permitting a banking entity to invest in such a fund 

meet the standards contained in section 13(d)(1)(J) of the 

[Bank Holding Company Act]? 

In conjunction with the development of the final rule, the agencies are reviewing public comments responding to the NPR, including comments on this question related to venture capital funds. 

The agencies will give careful consideration to these comments in 

the development of the final rule. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP 

FROM MARTIN J. GRUENBERG 

Q.1. Chairman Gruenberg, I thank you for understanding that as 

relationship lenders in local communities, community banks are 

able to provide much needed financing to both residential and commercial borrowers in rural and underserved areas where larger 

banks are unable or unwilling to participate. Have you thoroughly 

considered the impact of higher risk weights from Basel III on community banks, as well as on the local communities where they 

serve? 

A.1. The FDIC recognizes the important role that community 

banks play in the financial system, which includes providing credit 

to small businesses and homeowners throughout the country. During the comment period, the agencies participated in various outreach efforts, such as engaging community banking organizations 

and trade associations, among others, to better understand industry participants’ concerns about the proposed revisions to the general risk-based capital rules and to gather information on their potential effects. To facilitate comment on the NPRs, the agencies developed and provided to the industry an estimation tool that would 

allow an institution to estimate the regulatory capital impact of the 

proposals. The FDIC conducted roundtables in each of our regional 

offices and hosted a nationwide Web cast to explain the compoVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00134 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
131 

nents of the rules and answer banker questions. Lastly we developed instructional videos on the two rulemakings applicable to 

community banks. These videos received more than 7,000 full 

views in the first 3 months of availability. We believe these efforts 

contributed to the more than 2,500 comments we received, which 

have provided valuable additional information to assist the agencies as we determine how to proceed with the NPRs. Particular attention is being given to the comments on the impact of the proposed rules on community banks. 

Q.2. Chairman Gruenberg, first, I’d like to thank you and the FDIC 

for making the community bank industry a priority for your agency. After conducting your study and hosting regional roundtables, 

what were the most significant problems you found on the ground? 

What did your agency do to address them? 

A.2. Community banks play a critical role in the national and local 

economies by extending credit to consumers and businesses. As you 

indicate, the FDIC has launched several initiatives to further the 

understanding of how community banks have evolved during the 

past 25 years, current opportunities and challenges facing community bankers, and what lies ahead. The FDIC launched the Community Banking Initiative in February 2012 with a national conference on community banking. Roundtable discussions were then 

held in the FDIC’s six regions, and the FDIC Community Banking 

Study was released in December 2012. We also conducted comprehensive reviews of our examination and rulemaking processes. 

Overall, the findings from these initiatives indicate the community 

banking model remains viable and that community banks will be 

an important part of the financial landscape for years to come. The 

findings also identified financial and operational challenges facing 

community banks as well as opportunities for the FDIC to 

strengthen the efficiency and effectiveness of its examination and 

rulemaking processes. 

The FDIC Community Banking Study is a data-driven effort to 

identify and explore community bank issues. The first chapter develops a research definition for the community bank that is used 

throughout the study. Subsequent chapters address structural 

change, the geography of community banking, comparative financial performance, community bank balance sheet strategies, and 

capital formation at community banks. This study is intended to be 

a platform for future research and analysis by the FDIC and other 

interested parties. 

Community bankers identified a number of financial challenges 

during the roundtable discussions, especially that there is an insufficient volume of quality loans available in many markets. They 

also stated that capital raises are increasingly difficult in the current banking environment and the low-rate environment is leading 

to a build-up of interest rate risk. Community bankers also expressed concern about the ability to retain quality staff and how to 

satisfy customers’ demands for greater availability of mobile banking technologies. Although the vast majority of banker comments 

regarding their experience with the examination process were favorable, a general perception exists that new regulations and 

heightened scrutiny of existing regulations are adding to the cost 

132 

of doing business. Community bankers also note there are opportunities to enhance communication with examination staff and expand and strengthen technical assistance provided by the FDIC. 

The FDIC has undertaken initiatives to address comments received from bankers during the roundtable discussions. To enhance 

our examination processes, the FDIC developed a tool that generates pre-examination request documents tailored to a bank’s specific operations and business lines. The FDIC is improving how information is shared electronically between bankers and examiners 

through its secure Internet channel, FDICconnect, which will ensure better access for bankers and examiners. We also revised the 

classification system for citing violations identified during compliance examinations to better communicate to institutions the severity of violations and to provide more consistency in the classification of violations cited in Reports of Examination. 

The FDIC also issued a Financial Institution Letter, entitled ‘‘Reminder on FDIC Examination Findings’’ (FIL-13-2011 dated March 

1, 2011), encouraging banks to provide feedback about the supervisory process. Since then, we continue to conduct outreach sessions and hold training workshops and symposiums, and have created the Director’s Resource Center Web page to enhance technical 

assistance provided to bankers on a range of bank regulatory 

issues. Also, the FDIC has developed and posted a Regulatory Calendar on www.fdic.gov to keep bankers current on the issuance of 

rules, regulations, and guidance; and we are holding industry calls 

to communicate critical information to bankers about pending regulatory changes. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY 

FROM MARTIN J. GRUENBERG 

Q.1. In response to concerns that the bank-centric Basel III capital 

standards are unworkable for insurers, the Fed has indicated that 

it would perform some tailoring of those standards. However, there 

is continuing concern among the life insurance industry that the 

proposed tailoring is inadequate and does not properly acknowledge 

the wide differences between banking and insurance. 

What kinds of more substantive changes will the Fed consider to 

the Basel III rulemaking to prevent negative impacts to insurers 

and the policyholders, savers, and retirees that are their customers? 

There is also a concern that the bank standards are a dramatic 

departure from the duration matching framework common to insurance supervision. 

What is your response to that concern and would the Fed consider doing more than just tailoring bank standards? 

Do you believe that, from an insurance perspective, Basel III 

bank standards are an incremental or dramatic departure from 

current insurance standards? 

A.1. Section 171 of the Dodd-Frank Act requires the establishment 

of minimum consolidated leverage and risk-based capital requirements for savings and loan holding companies, a number of which 

have significant insurance activities. The FDIC recognizes the distinctions between banking and insurance and the authorities given 

133 

to the States. In 2011, we amended our general risk-based capital 

requirements to provide flexibility in addressing consolidated capital requirements for low-risk nonbank activities, including certain 

insurance-related activities. We will continue to bear in mind these 

distinctions as we work with our fellow regulators to ensure that 

the final rule provides for an adequate transition period that is 

consistent with Section 171. 

Q.2. Regarding the Volcker Rule, some have suggested that the 

banking agencies should just go ahead and issue their final rule 

without waiting to reach agreement with the Securities and Exchange Commission and Commodities Futures Trading Commission, which have to issue their own rules. This scenario could result in there being more than one Volcker Rule, which would create 

significant confusion about which agency’s rule would apply to 

which covered activity. Do you agree that there should be only one 

Volcker Rule? 

A.2. All entities affected by the Volcker Rule should be operating 

under similar requirements. Section 619(b)(2) of the Dodd-Frank 

Act contains specific coordinated rulemaking requirements that 

serve to help clarify the application of individual agency rules, to 

ensure that agency regulations are comparable, and to require coordination and consistency in the application of the Volcker Rule. 

To that end, the Federal banking agencies, the SEC, and the CFTC 

are currently working together in the process of developing a final 

Volcker Rule. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM THOMAS J. CURRY 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. Our agency evaluates whether particular activities are hedging based on their effectiveness in managing risks arising from 

banking activities and their conformance with the bank’s hedging 

policies and procedures. OCC Banking Circular 277 discusses appropriate risk management of financial derivatives. 

The OCC expects banks to establish hedging policies and procedures that clearly specify risk appetite, hedging strategies, including the types of hedge instruments permitted, and to document 

hedge positions. Documentation should include identification of the 

assets or liabilities or positions being hedged, how the hedge manages the risk associated with those assets or liabilities or positions, 

and how and when the hedge will be tested for effectiveness. As an 

additional control, a bank’s risk management systems should facilitate stress testing and enable management and the OCC to assess 

the potential impact of various changes in market factors on earnings and capital. We also expect banks to establish prudent limits 

134 

and sub-limits on hedging instruments to protect against concentrations in any particular instruments. 

We expect banks to produce periodic risk, as well as hedging 

profit and loss (P&L) reports, and we use those reports to identify 

hedging activities that show an increase in risks and produce material amounts of continuing profits or losses and may warrant further review. As with any other significant positions on or off-balance sheet, the institution’s internal risk management function 

should review material hedged positions, resulting material profits 

or losses, and material risk measures (e.g., stress, value-at-risk, 

and relevant nonstatistical risk measures) to evaluate whether activities are effectively mitigating risk and whether the hedging activities present risks to the safety and soundness of the bank. 

The OCC recognizes that controls at smaller banks with simpler 

hedging activity need not be as complex and sophisticated as at 

larger banks. Nevertheless, at a minimum, these banks’ risk management systems should evaluate the possible impact of hedges on 

earnings and capital that may result from adverse changes in interest rates and other relevant market conditions. We expect these 

banks to periodically review the effectiveness of their hedges as a 

part of the bank’s overall risk management; including, where appropriate, back testing. In addition, examiners review large holdings in the investment and derivatives portfolios, as well as material changes that have occurred between examinations. 

We also note that the Volcker Rule provisions of the Dodd-Frank 

Act prohibit proprietary trading except for certain permitted activities, including risk-mitigating hedging. The proposed implementing 

regulations issued by the agencies, including the OCC, contain a 

number of requirements designed to ensure that a banking entity’s 

hedging activities reduce specific risks in connection with the entity’s individual or aggregate holdings and do not give rise to new 

exposures that are not simultaneously hedged. For example, the 

proposed regulations require banking entities to engage in permitted hedging activities in accordance with written policies and 

procedures, subject to continuing review, monitoring and management, and only if compensation arrangements of persons performing hedging activities are designed not to reward proprietary 

risk-taking. The interagency Volcker regulations, when finalized, 

will provide standards for distinguishing a hedge from a proprietary trade, in addition to the supervisory standards described 

above. 

Q.2. Federal Reserve, FDIC, and OCC have issued proposed rules 

to implement Dodd-Frank and Basel III capital requirements for 

U.S. institutions. Late last year, your agencies pushed back the effective date of the proposed Basel III rules beyond January 1, 2013. 

Given the concerns that substantially higher capital requirements 

will have a negative impact on lending, are your agencies using 

this extra time to conduct a cost-benefit analysis about the impact 

of the proposed rules on the U.S. economy, availability, and cost of 

credit, cost of insurance, and the regulatory burden on institutions, 

before implementing the final rules? 

A.2. In response to the three notices of proposed rulemaking, the 

Federal banking agencies received more than 4,000 total comVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00138 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
135 

ments, many of which expressed concern about the potential impact of the rulemaking on U.S. banking organizations and, in particular, their ability to serve as financial intermediaries. Late last 

year, the ace and the other Federal banking agencies determined 

that, rather than rushing to implement a final rule, it would be 

prudent to delay the final rulemaking in order to review all the 

comments carefully and ensure that the final rulemaking appropriately addresses the commenters’ concerns without sacrificing the 

goal of implementing substantial improvements to the agencies’ respective regulatory capital frameworks. The agencies now are 

working to complete the final rule and to update and revise their 

analyses, as appropriate. 

For the proposals, the OCC conducted those cost and burden 

analyses required by the Regulatory Flexibility Act, the Paperwork 

Reduction Act, and the Unfunded Mandates Reform Act of 1995, 

among others, the results of which were detailed in the proposals. 

For the final rulemaking, the OCC and the other Federal banking 

agencies are working to update those analyses. Additionally, the 

agencies must determine whether the rule is likely to be a ‘‘major 

rule’’ for the purposes of the Congressional Review Act, which is 

defined, in part, as any rule that results in or is likely to result 

in an annual effect on the economy of $100 million or more. 

In response to several specific questions in the proposals about 

potential costs related to the proposals, a substantial number of 

commenters provided a great deal of feedback both on the potential 

impact of specific provisions, and on the proposed framework in its 

entirety. During the comment period, the agencies also participated 

in various outreach efforts, such as engaging community banking 

organizations and trade associations, among others, to better understand industry participants’ concerns about the proposals and to 

gather information on their potential effects. These efforts have 

provided valuable additional information that the OCC and the 

other Federal banking agencies are considering as we develop the 

final rule and analyze its potential impact. 

The CCC continues to believe that all banking organizations 

need a strong capital base to enable them to withstand periods of 

economic adversity and continue to fulfill their role as a source of 

credit to the economy. Therefore, the CCC is working diligently 

with the other Federal banking agencies to complete the rulemaking process and develop a final rule as expeditiously as possible. 

Q.3. Given the impact that the Qualified Mortgages (QM) rules, the 

proposed Qualified Residential Mortgages (QRM) rules, the Basel 

III risk-weights for mortgages, servicing, escrow, and appraisal 

rules will have on the mortgage market and the housing recovery, 

it is crucial that these rules work in concert. What analysis has 

your agency conducted to assess how these rules work together? 

What is the aggregate impact of those three rules, as proposed and 

finalized, on the overall mortgage market as well as on market participants? 

A.3. This body of rules, covering securitization risk retention, riskbased capital, and consumer protection in the origination and servicing of mortgages, are all part of the Government’s response to 

136 

fundamentally unsound mortgage market practices that were the 

eventual triggering mechanism for the financial crisis. They address different aspects of the interlinked market mechanisms 

through which mortgages are created, funded, and administered. 

Several agencies are involved in fashioning these rules, including 

the banking agencies and the CFPB, the SEC, the FHFA, and 

HUD. 

The OCC has not been part of the rulemaking group for all these 

rules, but it has been involved in the rulemakings for securitization 

risk retention, Basel III, and appraisals for higher-risk mortgages. 

For each of these regulatory proposals, the OCC and the other 

agencies participating in the rulemakings have designed the proposed rules to impose new market protections in a fashion that appropriately preserves the availability of mortgages to creditworthy 

consumers at reasonable prices. In addition, the OCC conducted 

cost and burden analyses of the impact of the proposed rules on 

mortgage market participants that will be subject to the new rules, 

as required by the Regulatory Flexibility Act, the Paperwork Reduction Act, and the Unfunded Mandates Reform Act of 1995. For 

the final rulemaking, the OCC must determine whether the rule is 

likely to be a ‘‘major rule’’ for the purposes of the Congressional Review Act, which is defined, in part, as any rule that results in or 

is likely to result in an annual effect on the economy of $100 million or more. 

In addition, in response to the agencies’ request for public comments on these proposed rules, commenters have expressed concern 

to the agencies about the potential impact on mortgage availability 

and prices, and in certain instances provided quantitative analysis 

to support their views. We are considering these views and information as we go forward with the rulemakings. 

Q.4. Under the Basel III proposals mortgages will be assigned to 

two risk categories and several subcategories, but in their proposals the agencies did not explain how risk weights for those subcategories are determined and why they are appropriate. How did 

your agency determine the appropriate range for those subcategories? 

A.4. An overarching concern from the many comment letters the 

agencies received was the proposed treatment of residential mortgages in the Standardized Approach NPR. As stated in the proposal, residential mortgages would be separated into two risk categories based on product and underwriting characteristics and 

then, within each category, assigned risk weights based on loan-tovalue ratios (LTVs). 

During the market turmoil, the U.S. housing market experienced 

significant deterioration and unprecedented levels of mortgage loan 

defaults and home foreclosures. The causes for the significant increase in loan defaults and home foreclosures included inadequate 

underwriting standards, the proliferation of high-risk mortgage 

products, the practice of issuing mortgage loans to borrowers with 

undocumented income, as well as a precipitous decline in housing 

prices and a rise in unemployment. 

The NPR proposed to increase the risk sensitivity of the regulatory capital rules by raising the capital requirements for the 

137 

riskiest, nontraditional mortgages while actually lowering the requirements for relatively safer, traditional residential mortgage 

loans with low LTVs. These provisions in the Standardized Approach NPR were designed to address some of the causes of the crisis attributed to mortgages as well as to provide greater risk sensitivity in banks, capital requirements. 

Given the characteristics of the U.S. residential mortgage market, the agencies believed that a wider range of risk weights based 

on key risk factors including product and underwriting characteristics and LTVs were more appropriate. The proposed ranges and 

key risk factors were developed on an interagency basis with the 

expert supervisory input of policy experts and bank examiners. 

The OCC recognizes that some aspects of the proposed treatment 

for residential mortgages could impose a burden on community 

banks and thrifts. We are considering all the issues raised by the 

commenters as we develop the final rule in conjunction with the 

other banking agencies. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARREN 

FROM THOMAS J. CURRY 

Q.1. Can you provide a list of OCC consent orders with the top five 

national banks by asset size over the past 20 years? 

A.1. Attached is a list of the top five national banks by asset size 

over a 20-year period [OCC Large Banks] as well as a list that contains all public formal enforcement actions against those banks [Selected OCC Enforcement Actions Against Large Banks]. 

Q.2. Can you also describe the process by which OCC tracks consent orders and verifies bank compliance with the terms? 

A.2. Large Bank Supervision (LBS) teams provide ongoing supervisory oversight to ensure banks comply with Consent Orders and 

implement timely corrective action. They enter Consent Orders into 

LBS information systems. This includes LB–ID, which provides a 

high level record of the outstanding Consent Order. The enforcement document is housed in WISDM, which contains all documents 

of record for a particular institution. WISDM allows the examination team to create folders that contain the full document and bank 

responses, correspondence, and supporting information for each Article. Examination teams may also use official OCC shared sites 

(e.g., Sharepoint) as a working repository in conjunction with 

WISDM. Teams monitor compliance with each article of the Consent Order through regular discussions with bank management 

and internal audit, and confirm compliance through testing during 

the ongoing supervisory process and/or targeted reviews. The examiner-in-charge may assign individual examiners reporting through 

the team lead the responsibility for tracking and follow-up on particular Articles. 

LBS teams formally communicate the status of corrective actions 

and compliance with Articles in the Consent Order through Supervisory Letters. An LBS team generally requires the bank’s internal 

audit to test for compliance and correction of the identified weakness before the OCC will render judgment of the adequacy of the 

actions. LBS teams utilize the internal audit’s findings and recVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00141 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
138 

ommendations and also perform testing and sampling to ensure 

proper remediation and sustainability of corrective actions. If satisfactory, the examiner will provide documentation to the examinerin-charge to support a decision on compliance. 

Midsize and Community Bank Supervision (MCBS) examination 

teams continuously track Consent Order compliance through onsite examinations; off-site monitoring, and regular correspondence 

with banks. They maintain a detailed inventory of the individual 

actionable Articles within each Consent Order under a designated 

file structure on Examiner View (EV). EV allows examiners to 

identify and track due dates for each Article, the documentation 

the bank provides in response to each requirement, the examiners’ 

notes on the bank’s progress in achieving compliance, and ultimately whether the bank has achieved compliance. EV also ties 

each Article in an enforcement document to the relevant Matter 

Requiring Attention. if applicable. Because each Article has different requirements for the bank to submit information, EV also includes an inventoried location for storing all enforcement action related follow-up documentation. 

MCBS teams use EV to establish the supervisory strategy and 

develop examination resource requirements for each FDICIA cycle. 

Each full scope and interim examination will include an assessment and detailed description of enforcement action compliance. 

Occasionally, MCBS teams will conduct other targeted reviews or 

off-site reviews that focus on a discrete area of the enforcement action to supplement the supervisory cycle. Generally, MCBS teams 

communicate their conclusions regarding Consent Order compliance to the bank twice a year within examination reports; however, 

they often will send Supervisory Letters in response to individual 

bank submissions. 

Q.3. Has the OCC conducted any internal research or analysis on 

trade-offs to the public between settling an enforcement action 

without admission of guilt and going forward with litigation as necessary to obtain such admission? 

If so, can you provide that analysis to the Committee? 

A.3. The OCC does not have any internal research or analysis on 

the trade-offs of settling without an admission of liability. 

139 


21413011.eps

SELECTED OCC ENFORCEMENT ACTIONS AGAINST LARGE BANKS 

BANK NAME ENF ACTN ENF ACTN TYPE ENF ACTN ENF ACTN CMP 

NUMBER EFFECTIVE DT OR RESTITUTN 

AMT 

Bank 01 America, NA 974 Bank civilrnoney penalty t/t5/1992 S 100,000 -- Bank 01 America, NA 974 Securities enlorcement 1115/1992 -- Bank 01 America, NA 2005·10 Formal agreement 2/912005 

Bank 01 America, NA 2010·239 Formal agreement 121712010 S 9,217,218 --- - -- Bank 01 America, NA 201 t·048 Cease and desisl 4/13/2011 - Bank 01 America, NA 2012·039 Formal agreement 2/27/2012 

Bank 01 America, NA 2013·127 Cease and desist 2128/2013 -- -- Citlbank, NA 634 Securitios onlorcement 6/24/1992 - -- Citibank, NA 2003·77 Formal agreement 7/28/2003 ---. - Citibank, NA 2011 ·046 Cease and desist 4/13/2011 

Cilibank, NA 2012·041 Formal agreement 2124/2012 --- - - - Citibank, NA 2012·052 Cease and desist 4/5/2012 

Citibank, NA 2013·131 Cease and desist 2/28/2013 --- -- The Chase Manhattan Bank (NA) 94·158 Securities enlorcement 10/5/1994 -- JPMorgan Chase Bank, NA 2011·050 Cease and desist 4/1312011 

JPMorgan Chase Bank, NA 2011-094 Bank civil money penalty 6/14/2011 S 2,000,000 

JPMorgan Chase Bank, NA 2011·105 Bank civil money penalty 7/6120 11 S 22,000,000 

JPMorgan Chase Bank, NA 2011·108 Formal agreement 7/6/2011 S 13,051,527 . -- -- JPMorgan Chase Bank, NA 2012·040 Formal agrool11ont 2/22/2012 

· JPMorgan Chase Bank, NA 2013·001 Cease and desist 1/14/2013 - JPMorgan Chase Bank, NA 2013·002 Ceaso and dosist 1/14/2013 

· JPMorgan Chase Bank, NA 2013·129 Cease and desist 2128/2013 - U,S. Bank NA 2006·127 Bank civil money penalty 10/1812006 S 125,000 - U.S. Bank NA 2011·049 Cease and desist 4/1312011 

U.S. Bank NA 2013·128 Cease and desist 2/28/2013 

Wachovia Bank, NA 2008·027 Bank civil money penalty 4/2412008 S 10.000,000 - Wachovla Bank, NA 2008·028 Formal agroomont 4/24/2008 S 125,000,000 

Wachovla Bank, NA 2008·159 Formal agroemont 12/8/2008 -- Wachovia Bank, NA 2009·063 Bank civil money penally 5/812009 S 51,205 . 

Wachovia Bank, NA 2010·036 Bank civil money penalty 311 212010 S 50;000,000 - Wachovia Bank, NA 2010·037 Cease and deslsl 3/1212010 

Welts Fargo Bank, NA 2005·77 Bank civi l money penalty 6/27/2005 S 115,000 - - - Wells Fargo Bank, NA 2011·051 Cease and desisl 4/1312011 --- -- · 

Wells Fargo Bank, NA 2011-175 Bank civil money penalty 121812011 S 20,000,000 -- --- --- Wells Fargo Bank. NA 2011·174 Formal agreement 12/812011 5 14.518,013 --- Wells Fargo Bank, NA 2012·042 Formal agreemenl 212212012 - - Wells Fargo Bank, NA 2013·132 Cease and desisl 212812013 
140 


21413012.eps

acc large Banks 

Years(VE Five Largest Flnandallnstltutlons Charter Number 

Tota' Assets] 

2OU·2010 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Cltlbank, National Association, Sioux Falls, SO • 1461 

• Wells Fargo Bank, National Association, Sioux Falls, SO • 1 

• U.s. Bank National Association, Cincinnati, OH • 24 

2009-2002 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Citlbank, National Association, Sioux Falls, SD • 1461 

• Wells Fargo Bank, National Association, Sioux Fans, SO • 1 

• Wachovla Bank, National Association, Charlotte, NC • 1 

2001-2000 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National ~oc., Charlotte, NC • 13044 

• Citibank, National Association, Sioux Falls, SO • 1461 

• Wachovla Bank, National Association, Charlotte, NC • 1 

• Fleet National Bank, Providence, RI • 200 

1999 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Cltlbank, National Association, Sioux Falls, SO • 1461 

• Wells Fargo Bank, National AssocIation, Sioux Falls, SO • 1 

• Wachovla Bank, National Association Charlotte, NC • 1 

1998 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Cltlbank, National Assoclatlon, Sioux Falls, SO • 1461 

• Wachovla Bank, National Association, Charlotte, NC • 1 

• Bank of America, National Association, Charlotte, NC • 14448 

1997 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Otlbank, National Association, Sioux Falls, SO • 1461 

• Bank of America, National Association, Charlotte, NC • 14448 

• First Union National Bank, Charlotte, NC • 15650 

1996 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 ., Bank of America, National Assoc., Charlotte, NC • 13044 

• Citlbank, National Association, SioulC Falls, SO • 1461 

• Wells Fargo Bank, National Association, Sioux Falls, SO • 1 

• Bank of America, National Assoclation, Charlotte, NC • 14448 

1995 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc., Charlotte, NC • 13044 

• Otibank, National Assoclation, Sioux Falls, SO • 1461 

• Bank of America, National Association, Charlotte, NC • 14448 

• The Chase Manhattan bank (National Association I, NY,NY • 2370 

1994-1992 • JP Morgan Chase Bank, National Assoc., Columbus, OH • 8 

• Bank of America, National Assoc.; Charlotte, NC • 13044 

• Cltlbank, National Assoclatlon, Sioux Falls, SO • 1461 

• Wells Fargo Bank, National Association, Sioux Falls, SO • 1 

• The Chase Manhattan Bank (National Association), NY, NY • 2370 
141 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP 

FROM THOMAS J. CURRY 

Q.1. Comptroller Curry, I thank you for understanding that as relationship lenders in local communities, community banks are able 

to provide much needed financing to both residential and commercial borrowers in rural and underserved areas where larger banks 

are unable or unwilling to participate. Have you thoroughly considered the impact of higher risk weights from Basel III on community banks, as well as on the local communities where they serve? 

A.1. The OCC is very much aware of the special role that smaller 

banks play in our communities in providing financing of our country’s small businesses and families. Given the vital role that banks 

serve in our national economy and local communities, we are committed to helping ensure that the business model of banks, both 

large and small, remains vibrant and viable. 

As noted in the preambles to the proposals, the agencies assessed 

the potential effects of the proposed rules on banks by using regulatory reporting data and making certain key assumptions. The 

agencies’ assessments indicated that most community banks hold 

capital well above both the existing and the proposed regulatory 

minimums. Therefore, the proposed requirements are not expected 

to impact significantly the capital structure of most banks. 

One of the key purposes of the notice and comment process is to 

gain a better understanding of the potential impact of a proposal 

on banks of all sizes. To foster feedback from community banks on 

potential effects of the proposals, the agencies developed and posted on their respective Web sites an estimator tool that allowed a 

smaller bank to use bank-specific information to assess the likely 

impact on the individual institution. 

The OCC remains committed to reviewing and evaluating the 

issues and the comments received as we move toward a final rule. 


21413013.eps
142 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY 

FROM THOMAS J. CURRY 

Q.1. In response to concerns that the bank-centric Basel III capital 

standards are unworkable for insurers, the Fed has indicated that 

it would perform some tailoring of those standards. However, there 

is continuing concern among the life insurance industry that the 

proposed tailoring is inadequate and does not properly acknowledge 

the wide differences between banking and insurance. 

What kinds of more substantive changes will the Fed consider to 

the Basel III rulemaking to prevent negative impacts to insurers 

and the policyholders, savers, and retirees that are their customers? 

A.1. The Federal Reserve Board is the primary regulator of bank 

and savings and loan holding companies (SLHCs), including 

SLHCs that have insurance companies in their corporate structures. We therefore defer to the Federal Reserve Board to respond 

to this question. 

Q.2. There is also a concern that the bank standards are a dramatic departure from the duration matching framework common to 

insurance supervision. 

What is your response to that concern and would the Fed consider doing more than just tailoring bank standards? 

Do you believe that, from an insurance perspective, Basel III 

bank standards are an incremental or dramatic departure from 

current insurance standards? 

A.2. We defer to the Federal Reserve Board to respond to these 

questions. 

Q.3. Regarding the Volcker Rule, some have suggested that the 

banking agencies should just go ahead and issue their final rule 

without waiting to reach agreement with the Securities and Exchange Commission and Commodities Futures Trading Commission, which have to issue their own rules. This scenario could result in there being more than one Volcker Rule, which would create 

significant confusion about which agency’s rule would apply to 

which covered activity. 

Do you agree that there should be only one Volcker Rule? 

A.3. The Dodd-Frank Act envisions a coordinated effort among the 

Volcker Rule rulewriting agencies. It requires the Federal banking 

agencies to issue a joint regulation; it further requires the banking 

agencies and the Securities and Exchange Commission and Commodity Futures Trading Commission to consult and coordinate with 

one another for the purpose of assuring that their rules are comparable and provide for consistent application. The agencies have 

been regularly consulting with each other and will continue to do 

so to achieve the consistency that Congress clearly intended. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARNER 

FROM RICHARD CORDRAY 

Q.1. I am concerned that in Virginia we have a number of low-density areas that may not qualify for the rural or underserved category within Qualified Mortgages based on their Urban Influence 

Codes, lenders’ volume, or other reasons. However, these areas may 

143 

still have high-acreage properties and nonstandard loans that will 

have a hard time refinancing in the short-term and finding new 

originators in the long-term. Can you address these concerns, describe why the CFPB chose to use UICs, and respond to whether 

the Bureau would consider using borrower profiles in addition to 

geographical classifications? 

A.1. The Bureau followed the structure of the Federal Reserve 

Board’s proposal to use a county-based metric based on the Department of Agriculture’s ‘‘urban influence codes’’ which place every 

county in the United States into a category based upon size and 

proximity to a metropolitan or micropolitan area. This countybased definition was chosen in part because implementing it should 

be fairly straightforward; by contrast, we received some input indicating that definitions that split counties to isolate rural areas can 

create greater compliance burdens for small banks. The Bureau has 

expanded the list of eligible codes to include counties in which 

about 9 percent of the Nation’s population lives, up from about 3 

percent as originally proposed. We expect that the vast majority of 

community banks and credit unions operating predominantly in 

those areas meet the definition of small creditor—approximately 

2,700 institutions in total. 

The Bureau wants to preserve access to credit for small creditors 

operating responsibly in rural and underserved areas. So under the 

Ability-to-Repay rule, we extended Qualified Mortgage status to 

certain balloon loans held in portfolio by small creditors operating 

predominantly in rural or underserved areas. We also proposed 

amendments to the Ability-to-Repay rule to accommodate mortgage 

lending by smaller institutions, including those operating outside of 

what are designated as rural and underserved areas. Our proposal 

would treat loans made by smaller lenders and held in portfolio at 

certain small institutions as Qualified Mortgages even if the loans 

exceed 43 percent debt-to-income ratio, as long as the lender considered debt-to-income or residual income before making the loan, 

and as long as the loans meet the product feature and other requirements for Qualified Mortgages. This proposed exemption 

would cover institutions that hold less than $2 billion in assets 

and, with affiliates, extend 500 or fewer first lien mortgages per 

year. The Bureau estimates that approximately 9,200 community 

banks and credit unions would be affected by the proposed exemption. Under the proposal, these portfolio loans made by small creditors that are Qualified Mortgages would have a safe harbor from 

Ability-to-Repay liability if the interest rate is within 3.5 percent 

over the average prime offer rate. The Bureau also proposed to extend the same increase in the safe harbor threshold for Qualified 

Mortgage balloon loans made by small institutions predominantly 

serving rural and underserved areas. The comment period for our 

proposal recently ended, and we are now assessing the comments 

we received before finalizing this measure. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP 

FROM RICHARD CORDRAY 

Q.1. Director Cordray, as the President stated in the State of the 

Union address, overlapping regulations of our mortgage markets 

144 

have the potential to constrain credit and cause otherwise worthy 

borrowers from qualifying for mortgages. I’m especially concerned 

about the impact that these new rules will have on smaller institutions that serve States like North Dakota. What will the Bureau 

be doing to ensure those institutions have clear, written guidance 

to clarify these new regulations and to make sure lenders have the 

time to comply with them? 

A.1. The Bureau recognizes that the model of relationship lending 

and customer service for which small lenders such as community 

banks and credit unions are known was not a driver of the excesses 

in the mortgage market leading up to the financial crisis. And we 

want to preserve access to credit for small creditors operating responsibly in rural and underserved areas. So under the Ability-toRepay rule, we extended Qualified Mortgage status to certain balloon loans held in portfolio by small creditors operating predominantly in rural or underserved areas. 

The Bureau also proposed amendments to the Ability-to-Repay 

rule to accommodate mortgage lending by smaller institutions— 

particularly for portfolio loans made by small lenders—including 

those operating outside of what are designated as rural or underserved areas. Our proposal would treat these as Qualified Mortgages even if the loans exceed 43 percent debt-to-income ratio, as 

long as the lender considered debt-to-income or residual income before making the loan, and as long as the loans meet the product 

feature and other requirements for Qualified Mortgages. This proposed exemption would cover institutions that hold less than $2 billion in assets and, with affiliates, extend 500 or fewer first lien 

mortgages per year. The Bureau estimates that approximately 

9,200 community banks and credit unions would be affected by the 

proposed exemption. Under the proposal, loans made by small 

creditors that are Qualified Mortgages would have a safe harbor 

from Ability-to-Repay liability if the interest rate is within 3.5 percent over the average prime offer rate. The comment period for our 

proposal recently ended, and we are now assessing the comments 

we received before finalizing this measure. 

In addition, our escrow rule includes an exemption for small 

creditors in rural or underserved areas that have less than $2 billion in assets and that, with affiliates, originate 500 or fewer mortgages a year. Small creditors that meet these criteria and do not 

generally have escrow accounts for their current mortgage customers will be exempt from the escrow requirements with regard 

to loans that are not subject to a forward commitment at origination. 

Likewise, for the servicing rules, we recognize that smaller 

servicers typically operate according to a business model that is 

based on high-touch customer service, and that they typically make 

extensive efforts to avoid foreclosures. So smaller institutions that 

service 5,000 or fewer mortgage loans originated or owned by the 

servicer itself, or its affiliates, are exempted from large pieces of 

our servicing rules. This exempts many small servicers from, 

among other provisions, the periodic statement requirement, the 

general servicing policies and procedures, and most of the loss mitigation provisions. 

145 

We are committed to doing everything we can to help achieve effective, efficient, and comprehensive implementation by engaging 

with industry stakeholders in the coming year. To this end, we 

have announced an implementation plan to prepare mortgage businesses for the new rules. We will publish plain-English rule summaries, which should be especially helpful to smaller institutions. 

Over the course of the year, we will address questions, as appropriate, about the rules which are raised by industry, consumer 

groups, or other agencies. Any inquiries from your constituents in 

North Dakota about the meaning or intent of these regulations 

may be directed to CFPBlreginquiries@cfpb.gov or 202-435-7700. 

We will also publish readiness guides to give industry a broad 

checklist of things to do to prepare for the rules taking effect—like 

updating policies and procedures and providing training for staff. 

And we are working with our fellow regulators to help ensure consistency in our examinations of mortgage lenders under the new 

rules and to clarify issues as needed. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM ELISSE B. WALTER 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. In the proposed rules to implement Section 619 of the DoddFrank Act, commonly referred to as the ‘‘Volcker Rule’’, the SEC, 

the Federal banking agencies, and the CFTC set forth certain criteria intended to differentiate between permitted risk-mitigating 

hedging activities and prohibited proprietary trading. In particular, 

the proposed risk-mitigating hedging exemption required, among 

other things, that a banking entity’s hedging activities: (i) hedge or 

otherwise mitigate one or more specific risks arising in connection 

with and related to individual or aggregated positions, contracts, or 

other holdings of the banking entity; (ii) be reasonably correlated 

to the risk(s) that are intended to be hedged or otherwise mitigated; and (iii) be subject to continuing review, monitoring, and 

management. Moreover, a banking entity would be required to establish an internal compliance program, including reasonably designed written policies and procedures regarding the instruments, 

techniques, and strategies that may be used for hedging, internal 

controls and monitoring procedures, and independent testing. Similar procedures and controls are currently used by large firms to 

manage their risk and by regulators who assess the risk of those 

firms. The proposed rules also required the use of particular 

metrics to help assess compliance with the Volcker Rule. Similar 

questions arise when determining whether hedging activity is 

being conducted in connection with market making activity in compliance with the market making exemption under the statute. Further, as specified in the statute, the proposed rules included a provision that would disallow a permissible activity, including riskVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00149 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
146 

mitigating hedging, if the activity threatens the safety or soundness of the financial institution. We received a number of comments regarding these proposed rules. At this time, we are working 

with our fellow regulators to refine the proposed rules in response 

to comments. 

Q.2. The SEC has not yet proposed its extraterritoriality rule for 

security-based swaps. Why has there been a delay and when do you 

intend to issue the proposed rules? 

A.2. Since the time of this hearing, the Commission approved publication of its cross-border proposal on May 1, 2013. With very limited exception, the Commission had previously not addressed the 

regulation of cross-border security-based swap activities in our proposed or final rules because we believed these issues should be addressed holistically, rather than in a piecemeal fashion. In the 

Commission’s view, a single proposal would allow investors, market 

participants, foreign regulators, and other interested parties with 

an opportunity to consider, as an integrated whole, the Commission’s proposed approach. 

Doing so, however, was a time-consuming process for two main 

reasons. First, we believed that the cross-border release should involve notice-and-comment rulemaking, not only interpretive guidance, and, as such, we needed to incorporate an economic analysis 

that reflected our consideration of the effects of the proposal on efficiency, competition, and capital formation. Although the rulemaking approach takes more time, we believe that this approach 

was worth the effort: a full articulation of the rationales for—and 

consideration of any reasonable alternative to—particular approaches should enable the public to better understand our proposed approach and clarify how we see the trade-offs inherent in 

these choices as we continue to consult with the CFTC and our colleagues in other jurisdictions regarding how best to regulate this 

global market. 

Second, the scope of the proposal is broad and addresses the application of Title VII in the cross-border context with respect to 

each of the major registration categories covered by Title VII for security-based swaps: security-based swap dealers; major securitybased swap participants; security-based swap clearing agencies; security-based swap data repositories; and security-based swap execution facilities. It also addresses the application of Title VII in 

connection with reporting and dissemination, clearing, and trade 

execution, as well as the sharing of information with regulators 

and related preservation of confidentiality with respect to data collected and maintained by security-based swap data repositories. 

We believe that the proposal that the Commission approved in 

May reflects the effort that the Commission and its staff gave to 

fully considering the complex issues that invariably arise in any attempt to regulate a complex market that spans the globe. 

Q.3. When will the SEC propose rules to implement the provisions 

of the JOBS Act concerning general solicitation for Regulation D, 

Rule 506 offerings? When will the SEC issue other rule proposals 

to implement the law? 

A.3. Section 201(a) of the JOBS Act directs the Commission to 

amend Securities Act Rules 506 and 144A to eliminate, as a condiVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00150 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
147 

tion to both safe harbors, the ban against general solicitation. The 

Commission issued the rule proposal on August 29, 2012, and we 

received numerous comment letters with widely divergent views 

from commentators on this rulemaking. The staff has been working 

through the comments and developing recommendations for the 

Commission on how to move forward with this rulemaking as soon 

as possible. Completing this rulemaking, along with the other rulemaking required under the Dodd-Frank Act and the JOBS Act, is 

a priority for me. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARNER 

FROM ELISSE B. WALTER 

Q.1. The statutory language for funds defined under the Volcker 

Rule pointedly did not include venture funds, however the definition in the proposed rule seemed to indicate that venture funds 

would be covered. In addition to exceeding the statutory intent of 

Congress, this has created uncertainty in the market as firms 

await a final rule and refrain from making commitments which 

might be swept up in the final version of the Volcker Rule. Can you 

clarify whether venture funds are covered by the Volcker Rule? 

A.1. The treatment of venture capital funds in the proposed rule 

implementing Section 619 of the Dodd-Frank Act (the Volcker 

Rule) is an issue that has been raised by several commenters. 

The issue arises because Section 619 of the Dodd-Frank Act provides that a banking entity may not sponsor or invest in, or have 

certain other business relationships with, a hedge fund or private 

equity fund. However, Section 619 specifically defines hedge funds 

and private equity funds as issuers that would be investment companies under the Investment Company Act of 1940, but for Section 

3(c)(1) or 3(c)(7). Sections 3(c)(1) and 3(c)(7) are statutory exemptions from the definition of investment company that are commonly 

used by hedge funds and private equity funds, but also are routinely used by venture capital funds and other entities. In addition, 

in Title IV of the Dodd-Frank Act, Congress referred to venture 

capital as a ‘‘subset’’ of private equity when it provided venture 

capital advisers (and not private equity advisers) with an exemption from registration as investment advisers with the SEC. 

The proposed rule to implement Section 619 adhered closely to 

the language of the Dodd-Frank Act and defined hedge funds and 

private equity funds as issuers relying on the exemption in Section 

3(c)(1) or 3(c)(7) of the Investment Company Act. Many commenters have noted that this language would pick up many more 

types of vehicles than the hedge funds and private equity funds 

that are specifically referenced in the statute and that many commenters believe should be the main focus of the Volcker Rule prohibitions. In particular, many commenters have recommended that 

the SEC and other regulators implementing Section 619 revise the 

rule to exempt venture capital funds from Section 619’s prohibitions, in part in light of the impact that venture capital funds can 

have on U.S. economic growth and job creation. 

Our staff continues to work closely with staff from the bank regulatory agencies and the CFTC to determine whether the proposed 

definition can be refined and whether it would be appropriate to 

148 

exempt any entities or funds in light of the statute and its goals, 

including Section 619’s provision that the agencies may exempt any 

activity from the implementing rule upon a finding that such activity would promote and protect the safety and soundness of banking 

entities. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WARREN 

FROM ELISSE B. WALTER 

Q.1. As you know, the SEC has faced repeated attempts from Congress over the years to significantly cut its funding. Two years ago, 

as one example, Republicans in the House of Representatives 

sought to cut the President’s proposed budget for the Commission 

by $222.5 million—or about 15 percent. I am interested, given the 

repeated assaults on SEC’s funding, to learn more about the impact 

this sort of cut would have on the Commission’s functioning. 

Can you describe in particular what impact a cut of that magnitude would have on the SEC’s enforcement capacity and the 

Commission’s ability to hold those who break the law accountable? 

A.1. Reducing the SEC’s budget at this critical juncture—in the 

aftermath of the fiscal crisis and after the SEC has been granted 

significant new responsibilities—would diminish both our ability to 

police rapidly changing markets and the faith of the investing public. The Commission’s Enforcement program, which is charged with 

investigating and prosecuting violations of the Federal securities 

laws, has sought to maximize limited resources to address evermore complex and sophisticated fraudulent schemes. Three years 

ago, the Enforcement Division undertook a historic restructuring 

that, among other things, streamlined its management and created 

specialized units to pursue priority areas. As a result, the Commission has been better able to identify, investigate, and punish 

wrongdoing quickly and effectively. Our success in pursuing misconduct during the financial crisis, hedge fund and expert network 

insider trading, market structure deficiencies, and Ponzi and other 

offering frauds is a testament to the effectiveness of these efforts. 

A budget cut would only serve to magnify and accentuate the 

challenges brought on by the increase in the number of individuals 

and entities falling within our jurisdiction, the growing number of 

complex securities offered to the public, and the accelerating pace 

of financial innovation that has already fundamentally changed our 

markets. 

Currently, the SEC oversees approximately 25,000 entities, including about 11,000 registered investment advisers, 9,700 mutual 

funds and exchange traded funds, and 4,600 broker-dealers with 

more than 160,000 branch offices. The SEC also has responsibility 

for reviewing the disclosures and financial statements of approximately 9,000 reporting companies. In addition, the SEC oversees 

approximately 460 transfer agents, 17 national securities exchanges, 8 active clearing agencies, and 10 nationally recognized 

statistical rating organizations (NRSROs), as well as the Public 

Company Accounting Oversight Board (PCAOB), Financial Industry Regulatory Authority (FINRA), Municipal Securities Rulemaking Board (MSRB), and the Securities Investor Protection Corporation (SIPC). The agency also has new or expanded responsibilVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00152 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
149 

ities over the derivatives markets, hedge fund and other private 

fund advisers, municipal advisors, credit rating agencies, and clearing agencies. 

Enforcement is expected to shoulder additional work as a result 

of our expanded authority under the Dodd-Frank Act. For example, 

the Enforcement program is responsible for triaging and investigating additional tips and complaints received under the whistleblower program mandated by the Dodd-Frank Act. Although several thousand smaller advisers are transitioning to State registration due to the Dodd-Frank, the addition of entities such as municipal advisors, securities-based swap entities, and hedge fund and 

other private fund advisers to the Commission’s jurisdiction has resulted in an increase in the number of referrals to the Enforcement 

program. 

The sheer number of persons and entities falling within the Commission’s jurisdiction reflects only part of the challenge. These registrants offer ever-changing products in the market, from traditional bonds and stocks to structured financial instruments to derivatives, such as credit default swaps, that require expertise in 

understanding of the products, the trading methods, and the inherent risks. In addition, markets and companies also are becoming 

increasingly global, creating a new set of complexities, including 

the comparability of information from different countries and crossborder enforcement. As product offerings and fraudsters become 

more sophisticated, the complexity of enforcement cases increases 

and requires more resources dedicated to achieving a successful 

resolution. 

Furthermore, the Enforcement program must confront the risks 

to a fair securities marketplace posed by increasingly complex and 

fragmented market structures, alternative trading systems, and 

high-speed electronic trading. These innovations, fueled by technological advances, have resulted in a fundamental shift in market 

process and behavior. We must ensure that these innovations do 

not outpace our efforts to guard against illegal behavior masked by 

opaque trading platforms or the millions of bids, offers, buys, or 

sells that can be generated in milliseconds by automated computer 

algorithms. 

Amidst these challenges, we are under-resourced and lack sufficient human capital, expertise, and technology to address the ever 

more multifaceted and difficult-to-detect misconduct that threatens 

investors and the markets. In both FY2013 and FY2014, the SEC 

is requesting funds to hire additional attorneys, trial lawyers, industry experts, forensic accountants, and paraprofessionals for the 

Enforcement program, to maintain the momentum of our recent enforcement activities and strive to keep pace with markets of growing size and complexity. Our inability to hire additional staff and 

augment our capabilities will weaken the our investigative and litigation functions; reduce our ability to obtain, process, and analyze 

critical market intelligence; inhibit the adoption of valuable information technology and state-of-the-art investigative tools; and further reduce our ability to collect on ordered disgorgement and penalties, and distribute monies back to harmed investors. Further, 

our ability to proactively identify hidden or emerging threats to the 

markets to halt misconduct and minimize investor harm, adeVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00153 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
150 

quately address complex financial products and transactions, handle the increasing size and complexity of the securities markets, 

identify emerging threats and take prompt action to halt violations, 

and recover funds for the benefit of harmed investors would be severely hindered. 

Q.2. Has the SEC conducted any internal research or analysis on 

trade-offs to the public between settling an enforcement action 

without admission of guilt and going forward with litigation as necessary to obtain such admission? 

If so, can you provide that analysis to the Committee? 

A.2. The Commission is rigorous and methodical in analyzing each 

offer to settle an enforcement action. While we have not conducted 

a macro-analysis of the trade-offs to the public between settling an 

enforcement action without an admission of guilt or wrongdoing 

and going forward with litigation, every settlement offer is analyzed on a case-by-case basis in light of the unique facts and circumstances of that specific case. 

Recently, we reviewed our approach to ensure we make full and 

appropriate use of our leverage in the settlement process, including 

a discussion of the neither-admit-nor-deny approach. While the no 

admit/deny language is a powerful tool, there may be situations 

where we determine that a different approach is appropriate. 

We currently do not enter no-admit-no-deny settlements in cases 

in which the defendant admitted certain facts as part of a guilty 

plea or other criminal or regulatory agreement. Beyond this category of cases, there may be other situations that justify requiring 

the defendant’s admission of allegations in our complaint or other 

acknowledgment of the alleged misconduct as part of any settlement. In particular, there may be certain cases where heightened 

accountability or acceptance of responsibility through the defendant’s admission of misconduct may be appropriate, even if it does 

not allow us to achieve a prompt resolution. Staff from the Division 

of Enforcement have been in discussions with Chair White and 

each of the Commissioners about the types of cases where requiring admissions could be in the public interest. These may include 

misconduct that harmed large numbers of investors or placed investors or the market at risk of potentially serious harm; where admissions might safeguard against risks posed by the defendant to 

the investing public, particularly when the defendant engaged in 

egregious intentional misconduct; or when the defendant engaged 

in unlawful obstruction of the Commission’s investigative processes. In such cases, should we determine that admissions or other 

acknowledgement of misconduct are critical, we would require such 

admissions or acknowledgement, or, if the defendants refuse, litigate the case. 

Of course, we recognize that insisting upon admissions in certain 

cases could delay the resolution of cases, and that many cases will 

not fit the criteria for admissions. For these reasons, no-admit-nodeny settlements will continue to serve an important role in our 

mission and most cases will continue to be resolved on that basis. 

No-admit-no-deny settlements achieve a significant measure of accountability and deterrence because of the detailed factual allegations and findings contained in our complaints, orders instituting 

151 

proceedings, and settlement documents—factual allegations or findings that present a virtual road map of the wrongdoing that the 

Commission contends violated the Federal securities laws. In addition, the very public nature of our settlements enhances their deterrent impact—our settlements frequently are accompanied by 

press releases, dissected by the media, analyzed in detail by the financial industry and the defense bar in various public forums, and 

are the subject of speeches and other public statements by the 

Chair, the Commissioners, and other SEC officials. 

There is, in fact, economic research that indicates that SEC settlements have consequences for firms as well as management and 

directors. For instance, a group of economists found that the 

reputational penalties to a firm of an SEC enforcement action for 

financial fraud are highly significant: for each dollar that a firm 

misleadingly inflates its market value, on average, it loses both 

this dollar plus an additional $3.08 when its misconducts is revealed (Jonathan M. Karpoff, D. Scott Lee, and Gerald S. Martin, 

‘‘The Cost to Firms of Cooking the Books’’, 43 Journal of Financial 

and Quantitative Analysis, 2008). The same economists studied 

2,206 individuals identified as responsible parties for 788 SEC and 

Department of Justice enforcement actions for financial misrepresentation from 1978 through mid-2006. They found that 93 percent 

of the individuals lose their jobs by the end of the regulatory enforcement period, with the majority being explicitly fired (Karpoff, 

Lee, and Martin, ‘‘The Consequences to Managers for Financial 

Misrepresentation’’, 88 Journal of Financial Economics, 2008). In 

addition, economists have found that when the SEC settles a case, 

outside directors experience a decline in the number of other board 

positions held (Eliezer Fich and Anil Shivdasani, ‘‘Financial Fraud, 

Director Reputation, and Shareholder Wealth’’, 86 Journal of Financial Economics, 2007, and Eric Helland, ‘‘Reputational Penalties and the Merits of Class-Action Securities Litigation’’, 49 

Journal of Law and Economics, 2006). 

Q.3. In Section 953(b) of the Dodd-Frank Act, Congress required 

the SEC to issue a regulation mandating that companies disclose 

the ratio of pay between the company’s CEO and the company’s 

median employee. This disclosure requirement is intended to help 

investors evaluate total levels of CEO pay relative to other company employees. Many investors want to know about these pay ratios because high pay disparities between the CEO and other employees—particularly in a time of economic belt tightening—can result in lower employee morale, reduced productivity, and higher 

turnover, thereby signaling economic trouble for the company. It 

has now been more than 2 years since the SEC issued its rule implementing the Dodd-Frank ‘‘say-on-pay’’ vote requirement, but the 

SEC has not yet issued a rule implementing Section 953(b). 

Why hasn’t the SEC issued rules implementing Section 953(b)? 

When will these rules be issued? 

A.3. As I noted in my testimony, the Commission has made substantial progress in writing the huge volume of new rules the 

Dodd-Frank Act directs, but I recognize there is more work to do. 

The Commission and the staff are continuing to work diligently to 

implement the provisions of the Dodd-Frank Act, including Section 

152 

953(b), while balancing that work our other responsibilities, including the implementation of the provisions of the JOBS Act. The staff 

is actively working on developing recommendations for the Commission concerning the implementation of Section 953(b), which requires the Commission to implement rules requiring disclosure of 

the CEO’s annual total compensation, the median of the annual 

total compensation paid to all employees other than the CEO and 

the ratio between the two numbers. 

This rulemaking raises a number of new issues for the Commission and registrants that require careful consideration. As evidenced in the public comment file on the Commission’s Web site, 

which includes more than 20,000 comment letters relating to this 

rulemaking, the comments reflect a wide range of views concerning 

the implementation of the provision and the potential costs and 

benefits associated with the requirements. The staff is carefully reviewing and analyzing these comments as it develops recommendations for the Commission. 

Q.4. [Response to question during the hearing from Senator Warren]: ‘‘When was the last time you took a big Wall Street bank to 

trial?’’ 

A.4. We are fully prepared to go to trial every time we bring an 

enforcement action, but we believe there is no reason to delay justice and relief for investors when we can obtain through a settlement the relief that we could reasonably expect to receive at trial, 

without the delay of a lengthy and protracted litigation. We also 

believe that SEC settlements achieve a significant measure of accountability and deterrence because of the detailed factual allegations contained in our complaints and settlement documents—factual allegations that present a virtual road map of the wrongdoing 

that we contend violated the Federal securities laws. In addition, 

the very public nature of our settlements enhances their deterrent 

impact—our settlements often are accompanied by press releases, 

dissected by the media, analyzed in detail by the financial industry 

and the defense bar in various public forums, and are the subject 

of speeches and other public statements by the Chairman, the 

Commissioners, and other SEC officials. 

The reality is, as trial-ready as we may be, Wall Street banks 

and other large public companies often weigh the risks of litigating 

to trial against the SEC—including the risk of loss, litigation costs, 

reputational damage and other factors—and choose instead to offer 

a proposed settlement. On the other hand, individuals may weigh 

the risks of litigating against the SEC differently than do large 

banks and public companies, particularly given that our settlements often include remedies such as industry bars that restrict an 

individual’s ability to earn a living in the financial industry. 

While the SEC will continue to settle many of the cases that it 

files, the calculus for whether we settle or litigate a case will 

change under a new shift in approach to our traditional settlement 

policy. Recently, the Enforcement Division, in consultation with the 

Chair White and the other Commissioners, reviewed the SEC’s settlement policy and provided guidance to Enforcement staff about 

the types of cases where requiring a defendant, as part of a settlement, to admit the SEC’s allegations could be in the public interVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00156 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
153 

est. These cases may include those where the misconduct harmed 

large numbers of investors or placed investors or the market at 

risk of potentially serious harm; where admissions might safeguard 

against risks posed by the defendant to the investing public, particularly when the defendant engaged in egregious intentional misconduct; or when the defendant engaged in unlawful obstruction of 

the Commission’s investigative processes. In such cases, should we 

determine that admissions or other acknowledgement of misconduct are critical, we would require such admissions or acknowledgement, or, if the defendant refuses, litigate the case. Even 

under this shift in approach, many cases will not fit the criteria for 

admissions. Accordingly, no-admit-no-deny settlements will continue to serve an important role in the SEC’s mission and most 

cases will continue to be resolved on that basis. 

Regarding your particular question about litigating with large financial institutions, we have filed a significant number of litigated 

actions—actions where we stood ready to go to trial—in our financial crisis-related cases against individuals, many of whom were 

CEOs, CFOs, or other senior executives at major Wall Street banks 

or financial institutions. In total, we have filed crisis-related actions against 105 individuals—70 percent of which were filed as 

contested actions—employed by Goldman Sachs, J.P. Morgan, 

Citigroup, Wells Fargo, Bear Stearns, Bank of America, Fannie 

Mae, Freddie Mac, Countrywide, New Century, and other large financial firms. 

As to actions against particular Wall Street banks, our April 

2012 financial crisis-related case against Goldman Sachs arising 

from the Abacus CDO transaction was a contested litigated action 

before resolving in a landmark $550 million settlement that also 

required Goldman Sachs to make various compliance reforms. We 

continue to actively litigate towards an upcoming trial against 

Fabrice Tourre, the Goldman Sachs Vice President primarily responsible for structuring and marketing the transaction. 

A major firm, if not a major bank, we litigated to trial against 

the Reserve Fund Management Co., the investment firm running 

the $62 billion Reserve Primary Fund money-market fund that fell 

below $1 per share—breaking the buck, in Wall Street 

vernacular—when its $785 million in Lehman debt was rendered 

worthless in bankruptcy. We also litigated to trial against Bruce 

Bent, Sr., and his son, Bruce Bent II, for their conduct in allegedly 

deceiving investors about the risks facing the Reserve Fund after 

Lehman’s September 2008 collapse. The jury found that Reserve 

Management and a related brokerage operation, Resrv Partners 

Inc., violated antifraud provisions of the Federal securities laws 

and also found Bruce Bent II liable for one negligence claim. 

We also engaged in extended litigation against Brookstreet Securities Corporation, a California-based broker-dealer, along with its 

CEO, and several registered representatives for systemically selling 

risky mortgage-backed securities to retirees and other customers 

with conservative investment goals as the housing market was collapsing during the financial crisis. After nearly 3 years of litigation 

first initiated in December 2009, we won summary judgment—just 

before trial—against Brookstreet Securities and its CEO and both 

were ordered to pay a maximum penalty of $10 million, plus 

154 

disgorgement. The Brookstreet registered representatives went to 

trial and we are still awaiting a final decision. 

In sum, we think that our policy of obtaining settlements where 

they reasonably approximate what we could achieve at trial is an 

effective way to hold accountable those entities and individuals 

whom we believe to have violated the Federal securities laws far 

sooner than through protracted litigation. Although we believe our 

settlement policy is in the public interest we certainly stand ready 

and able to litigate to trial—a willingness that only strengthens 

our negotiation position when crafting a settlement that benefits 

and protects investors. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY 

FROM ELISSE B. WALTER 

Q.1. Section 120 of the Dodd-Frank Act states that ‘‘[t]he Council 

shall consult with the primary financial regulatory agencies [ . . . 

] for any proposed recommendation that the primary financial regulatory agencies apply new or heightened standards and safeguards for a financial activity or practice.’’ In its November 2012 

release on money market fund regulatory proposals, FSOC states 

that ‘‘in accordance with Section 120 of the Dodd-Frank Act, the 

Council has consulted with the SEC staff.’’ It is my understanding 

that FSOC did not consult with any of the SEC Commissioners 

serving at the time. 

Given that the SEC is solely governed by the commissioners, and 

especially considering that SEC staff serves at the will of the SEC 

Chairman rather than all Commissioners, how would such consultations with staff fulfill this statutory obligation going forward? 

A.1. The Dodd-Frank Act contains numerous consultation requirements applicable to the SEC, including requirements for the SEC 

to consult with other agencies, or for other agencies to consult with 

the SEC, in connection with rulemaking and other actions. These 

consultations typically involve discussions and coordination with 

staff, including senior staff, of the relevant agencies, which is consistent with the traditional way that agencies Government-wide 

have performed interagency consultations under numerous statutes. In developing its proposed recommendations for money market mutual fund reform, and consistent with the traditional manner of consultation, the FSOC consulted with the SEC staff. 

Q.2. What research has FSOC done to determine the reduction in 

assets held in money market funds that could result from the proposed section 120 recommendations? 

Have you done anything to quantify the economic effect of a substantial shift in assets from prime money market funds to Treasury 

money market funds, banks, or unregulated investment funds? 

A.2. I cannot speak to what research the FSOC did prior to issuing 

its Section 120 report, beyond what may be in those recommendations. The SEC’s recent rule proposal addressing potential money 

market fund reform generally tackled the difficult questions regarding the potential economic impacts of various reform alternatives and specifically addressed the question of whether there 

will be a reduction in assets held by money market funds and if 

155 

so, where those assets may go. The proposing release explicitly acknowledges that investors may withdraw some of their assets from 

affected money market funds. At the same time, however, the proposal makes clear that the SEC cannot make reliable estimates of 

the amount of dollars that will leave the industry or where those 

dollars will likely go. 

The release provides information regarding the holdings of 

money market funds, including the fraction of various types of securities that have been held by the money market fund industry 

(for example, Treasury securities, commercial paper, and certificates of deposit). This information demonstrates that money market funds are important players in certain asset classes. The release does not, however, directly estimate what might happen were 

money market funds to withdraw from certain asset classes. Quantifying the effects of movements from money market funds to other 

investment alternatives is challenging because the SEC is unable 

to estimate how the investment alternatives would invest the new 

monies. For example, if institutional investors moved their monies 

from prime money market funds to unregulated investment funds, 

it is possible that the unregulated investment funds would ultimately choose to invest in the same assets that were held previously by the prime money market funds. If this were to happen, 

the effects on issuers and the short-term financing markets would 

be negligible. However, there could be substantive effects if the unregulated investment funds invested in substantively different assets. Given the uncertainty, it is difficult to quantify those effects. 

The release contains questions on this issue and we look forward 

to receiving comments from the public. Moreover, the SEC’s proposal includes an expansion of the data required to be filed with 

the SEC regarding unregistered investment funds, known as ‘‘liquidity funds,’’ that potentially could serve as an alternative to registered money market funds. Such data would enable the SEC and 

the FSOC to monitor any growth in such funds as well as identify 

the asset classes in which those funds invest. 

Q.3. Under Title V—Private Company Flexibility and Growth, Section 501 Threshold for Registration will the Securities and Exchange Commission provide guidance as to the process for determining whether a shareholder meets the ‘‘accredited investor’’ definition for purposes of the JOBS Act? 

A.3. As you know, under Title V of the JOBS Act, an issuer that 

is not a bank or bank holding company is required to register a 

class of equity securities within 120 days after its fiscal year end, 

if on the last day of its fiscal year it has total assets of more than 

$10 million and a class of equity securities, other than an exempted 

security, held of record by either 2,000 persons or 500 persons who 

are not accredited investors. 

I understand that companies are uncertain about how to establish and track which shareholders qualify as accredited investors in 

order to be able to comply with this provision, particularly because 

investors, especially investors in secondary market transactions, do 

not have current or ongoing obligations to provide information to 

the issuer or the issuer’s agent as to whether or not they are accredited investors. Although the changes to Section 12(g) of the ExVerDate Nov 24 2008 13:50 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00159 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\02-14 Z DISTILLABLE\21413.TXT JASON
156 

change Act were effective upon enactment, the Commission will 

need to amend certain rules to reflect these statutory changes. The 

issue of how a company would determine whether a shareholder 

qualifies as an accredited investor for purposes of determining the 

number of holders of record is one that the Commission’s staff is 

aware of and is carefully considering as it prepares recommendations for the Commission. 

Q.4. Under Title V—Private Company Flexibility and Growth, Section 502 Employees are family members (including heirs of the employee and trusts established by the employee) included in the definition of persons for purposes of the following: ‘‘securities held by 

persons who received the securities pursuant to an employee compensation plan in transactions exempted from the registration requirements of section 5 of the Securities Act of 1933’’? 

A.4. In addition to raising the total assets and shareholder thresholds that require registration of a class of security by companies 

other than banks and bank holding companies, Title V of the JOBS 

Act excludes shares held by those who received them pursuant to 

employee compensation plans from inclusion in the number of holders of record. Title V also requires the Commission to adopt a safe 

harbor for the determination of whether such a holder received the 

securities pursuant to an employee compensation plan that was exempt from the registration requirements of Securities Act Section 

5. The issue of transfers among family members as it applies to the 

exclusion of employee compensation plan securities under Section 

12(g) is one that the Commission’s staff is aware of and is carefully 

considering as it prepares its recommendations for the Commission. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM GARY GENSLER 

Q.1. Given how complex it is to determine whether a trade is a 

hedge or a proprietary trade, it appears the real issue is whether 

a trade threatens the safety and soundness of the bank. What 

benchmark does your agency use to determine whether a particular 

activity is or is not ‘‘hedging’’? How does your agency determine 

whether the trade presents risks to the safety and soundness of a 

financial institution? 

A.1. The Dodd-Frank Act requires that the CFTC, the Federal Reserve Board, the Securities and Exchange Commission, the Office 

of the Comptroller Currency, and the Federal Deposit Insurance 

Corporation write regulations that implement the Volcker Rule. 

The CFTC’s related Proposed Rule was published on February 14, 

2012, along with request for public comment. The Proposed Rule 

describes seven criteria that a banking entity must meet in order 

to rely on the hedging exemption. Included is a condition that the 

transaction in question hedge or otherwise mitigate one or more 

specific risks, that the transaction be reasonably correlated to the 

risk or risks the transaction is intended to hedge, that the hedging 

transaction not give rise to significant exposures that are not themselves hedged in a contemporaneous transaction, and other related 

conditions. The CFTC and the other agencies are in the process of 

evaluating and reviewing each of the comments that were received 

157 

on the proposed Volcker Rule and will address those comments in 

a Final Rule. 

Q.2. Last year the CFTC issued proposed interpretive guidance on 

cross-border application of the swaps provisions of Dodd-Frank, the 

so-called extraterritoriality guidance. This guidance received widespread criticism from foreign regulators across the globe for, among 

other things, not conforming to a G20 agreement, being too expansive in scope and confusing in application. Recently, the CFTC approved an exemptive order delaying the effective date for some of 

the provisions and issued further cross-border guidance in an attempt to clarify the scope and definition of ‘‘U.S. person.’’ However, 

at least one foreign regulator (The Financial Services Agency of the 

Government of Japan) sent you a letter stating that the further 

guidance made the definition even less clear. What steps is the 

CFTC taking to address those concerns? 

A.2. The Commission is reviewing, summarizing, and considering 

all comments received as it works toward finalizing the cross-border guidance. We are also working bilaterally with domestic and 

foreign regulators, including the Japanese Financial Services Authority (JFSA), to answer any questions and discuss any issues 

they have regarding the CFTC’s proposals. 

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ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

HIGHLIGHTS OF GAO-13-180: FINANCIAL CRISIS LOSSES AND 

POTENTIAL IMPACTS OF THE DODD-FRANK ACT, JANUARY 2013 


21413002.eps
159 

1 According to Federal Reserve data, as of September 30, 2012, the top five banking institutions (all TARP recipients) held $8.7 trillion in assets, equal to approximately 55 percent of our 

Nation’s gross domestic product. By comparison, before the financial crisis, these institutions 

held $6.1 trillion in assets, equal to 43 percent of GDP. 

SUBMITTED WRITTEN TESTIMONY OF CHRISTY ROMERO, SPECIAL INSPECTOR GENERAL FOR THE TROUBLED ASSET RELIEF PROGRAM 

(SIGTARP) 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, I 

want to thank you for holding today’s hearing on Wall Street reform and an oversight of our Nation’s financial stability. The Office of the Special Inspector General 

for the Troubled Asset Relief Program (SIGTARP) serves as the watchdog over the 

Troubled Asset Relief Program (TARP), the Federal bailout resulting from the financial crisis. SIGTARP protects the interests of those who funded TARP programs— 

American taxpayers. Our mission is to promote economic stability through transparency, robust enforcement, and coordinated oversight. 

In order to determine where our Nation stands today in terms of Wall Street reforms and financial stability oversight, we must understand how our Nation found 

itself in a financial crisis and a bailout in 2008. SIGTARP has examined the past 

actions by Wall Street institutions that made them ‘‘too big to fail’’ and led to the 

TARP bailout. The issues that arose in the wake of the financial crisis, and our Government’s response, have implications for the future. Indeed, the Congressional 

hearings on the Dodd-Frank Wall Street Reform and Consumer Protection Act are 

largely focused on the reasons why Treasury and the Federal banking regulators believed that these institutions were ‘‘too big to fail’’ requiring a TARP bailout, and 

the reforms that were needed to prevent future bailouts. Only by examining the 

past, can we take advantage of lessons learned to protect taxpayers better in the 

future. 

Four years after the passage of the TARP bailout, critical questions remain prevalent about financial stability and Wall Street reform. Does moral hazard still exist? 

Is our financial system still vulnerable to companies that were considered ‘‘too big 

to fail?’’ Do taxpayers have a stronger, more stable financial system that is less 

prone to crisis—one in which the U.S. Government need not intervene to rescue a 

failing institution—as an owner or a shareholder—or else risk financial collapse? 

Taxpayers need and deserve lasting change arising out of the 2008 financial crisis. 

While there have been significant reforms to our financial system over the past 

4 years, more change is needed to address the root causes of the financial crisis and 

the resulting bailout, including vulnerabilities to highly interconnected institutions, 

and past failures in risk management. Financial institutions, regulators, and Treasury have a benefit that was missing during the financial crisis: the benefit of time 

. . . time to shore up existing strengths and to minimize vulnerabilities. 

There are lessons to be learned from the 2008 financial crisis and TARP. And as 

history has a way of repeating itself, we must take those lessons learned and put 

into place the changes that will bring a safer tomorrow—a future in which the flaws 

and excesses of corporate America do not create an undertow for families and small 

businesses. 

Too Interconnected To Fail 

One of the most important lessons of TARP and the financial crisis is that our 

financial system remains vulnerable to companies that can be deemed ‘‘too interconnected to fail.’’ In 2008, we learned that our financial system was akin to a house 

of cards, with a foundation built on businesses that were ‘‘too big to fail.’’ But these 

businesses were not only too big to fail, in and of themselves, they also were highly 

interconnected. If one were to fall, the house of cards could collapse. 

When the crisis hit, regulators were ill-prepared to protect taxpayers because they 

had failed to appreciate the interconnected nature of our financial system, and the 

resulting threats to American jobs, retirement plans, mortgages, and loans. Thus, 

Treasury and regulators turned to TARP. 

These same financial institutions continue to form the foundation of our economy. 

They continue to be dangerously interconnected. And, in fact, they have only gotten 

bigger in the past 4 years. 1 In 2012, the Federal Reserve Bank of Dallas reported 

that the biggest banks have grown larger still because of artificial advantages, particularly the widespread belief that the Government will step in to rescue the creditors of the biggest institutions if necessary—a belief underscored by TARP. 

Whether Dodd-Frank’s newly created resolution authority will ultimately be successful in ending ‘‘too big to fail’’ will depend on the actions taken by regulators and 

Treasury. Notwithstanding the passage of Dodd-Frank, the FRB Dallas reports that 

160 

2Testimony of Treasury Secretary Henry Paulson, Financial Crisis Inquiry Commission, May 

6, 2010. 

the sheer size of these institutions—and the presumed guarantee of Government 

support in time of crisis—have provided a ‘‘significant edge—perhaps a percentage 

point or more—in the cost of raising funds.’’ In other words, cheaper credit translates into greater profit. 

After Dodd-Frank, credit rating agencies began including the prospect of Government support in determining credit ratings. In 2011, Moody’s downgraded three institutions citing a decrease in the probability that the Government would support 

them, while stating that the probability of support for highly interconnected institutions was very high. Recently, a Moody’s official stated that Government support 

was receding. 

It is too early to tell whether full implementation of Dodd-Frank will ameliorate 

the need for taxpayers to bail out companies if there is a future crisis. Even without 

the failure of any one of these institutions, we have learned that their near failure 

or significant distress could cause ripple effects for families and businesses. Despite 

TARP and other Federal efforts preventing the failure of these institutions, much 

of Americans’ household wealth evaporated. Treasury Secretary Timothy F. 

Geithner testified before Congress in a hearing on Dodd-Frank that there was a 

‘‘threat of contagion’’ caused by the interconnectedness of major firms. Given this 

continued ‘‘threat of contagion’’ to our financial system, Treasury and regulators 

should take this opportunity to protect taxpayers from the possibility of any future 

financial crisis. 

Through Dodd-Frank, Congress significantly reformed the regulators’ authority to 

hold ‘‘systemically important’’ institutions to higher standards. However, it remains 

unclear how regulators will use that authority, and to what degree. The determination of which nonbank institutions are considered systemic also remains unclear. In 

addition, companies previously described as systemic, such as AIG, have gone without financial regulation for years. Despite the fact that the identity of banks that 

will be subject to higher standards has been known for 2 years, the standards for 

these companies are far from final. Regulators have moved more slowly than expected, due in part to strong lobbying efforts against change. 

Treasury and regulators must provide incentives to the largest, most interconnected institutions to minimize both their complexity and their interconnectedness. Treasury and regulators should send clear signals to the financial industry 

about levels of complexity and interconnectedness that will not be accepted. Treasury and regulators must set the standards through increased capital and liquidity 

requirements to absorb losses, as well as tighter margin standards. Treasury and 

regulators should limit risk through constraints on leverage. And companies, in 

turn, must do their part. 

Risk Management 

Companies must engage in effective risk management, and regulators must supervise this risk management. According to Treasury Secretary Geithner’s Congressional testimony in support of Dodd-Frank, the biggest failure in our financial system was that it allowed large institutions to take on leverage without constraint. 

Leverage—debt or derivatives used to increase return—has risk because it can multiply gains and losses. Large interconnected financial institutions had woefully inadequate risk management policies, which allowed problems to intensify. 2 Financial 

institutions made risky subprime mortgages, which they then sliced, diced, and repackaged into complex mortgage derivatives to be sold to each other and to other 

investors. These companies and investors were heavily dependent on inflated credit 

ratings. Institutions bought these long-term illiquid securities with short-term funding that froze in 2008, causing severe liquidity crises. Treasury asked Congress to 

approve TARP because these illiquid mortgage assets had, in essence, choked off 

credit. 

Insufficient attention was placed on counterparty risk, with many of the companies believing they were ‘‘fully hedged’’ with zero risk exposure. Companies developed elaborate methods of hedging, including buying insurance-like protection 

against the default of these investments (called credit default swaps). Companies 

hedged through offsetting trades that bet on the increase and decrease in the value 

of the security. These hedges, many of which did not fully protect against exposure, 

provided a false sense of protection that led to decreased risk management and decreased market discipline. 

The financial system was opaque, impeding an understanding of the true exposure 

to risk by institutions, rating agencies, investors, creditors, and regulators. Products 

such as credit default swaps went unregulated. Offsetting trades occurred on the 

161 

3Testimony of Treasury Secretary Timothy F. Geithner, Senate Banking Committee, June 18, 

2009. 

over-the-counter market—a market that, unlike the New York Stock Exchange or 

other exchanges, has no transparency. With no effective curbs on risk, executives 

often ignored risk, with many receiving extraordinary pay based on how many mortgages they created, while at the same time transferring their risk in the ultimate 

success of the mortgages. In short, Wall Street cared more about dollars than sense. 

And yet, we must ask ourselves: Has anything changed? 

In 2008, the U.S. Government assured the world that it would use TARP and access to the Federal Reserve’s discount window to prevent the failure of any major 

financial institution. But in so doing, it encouraged future high-risk behavior by insulating the risk-takers from the consequences of failure. This concept—known as 

moral hazard—is alive and well. A 2012 study by Federal Reserve economists found 

that large TARP banks have actually increased the number of loans that could be 

considered ‘‘risky,’’ which ‘‘may reflect the conflicting influences of Government ownership on bank behavior.’’ Fannie Mae and Freddie Mac also operated with an implicit Government guarantee, which led to lower borrowing costs that enabled them 

to take on significant leverage. According to Treasury, these entities ‘‘were a core 

part of what went wrong with our system.’’ 3 Dodd-Frank did not address Fannie 

Mae and Freddie Mac. 

Financial institutions must practice discipline and responsibility by reforming risk 

management and corporate governance. Companies cannot write off risk management believing that their exposure is removed by hedging. Companies must understand their exposure to risk, including conducting heightened reviews of 

counterparty risk. 

Recent scandals such as JPMorgan’s ‘‘London whale’’ and LIBOR manipulation 

have shown that excessive risk-taking continues unchecked by executives and 

boards of directors. Companies should make a deeper assessment of their assets. Assets carry different amounts of risk; collateral for some loans may be stronger than 

others. In determining the amount of TARP funds to invest in a bank, Treasury 

used the total risk-weighted assets, rather than total assets. Executives and boards 

must better understand, monitor, and manage risk. 

We learned from the crisis that we cannot expect companies to constrain excess 

risk-taking on their own initiative. Regulators therefore must protect hardworking 

Americans by setting constraints on leverage. Given their interconnectedness, risk 

at one institution (Lehman Brothers, for example) can shock our entire system. Our 

regulators must require ‘‘strong shock absorbers,’’ as described by Treasury Secretary Geithner. 

Bank examiners must increase their supervision of risk management at all banks, 

and the supervision of companies that pose a risk to our financial system must be 

even stronger. Regulators can use information from on-site examiners, Federal Reserve stress tests, and plans called ‘‘living wills’’ (submitted by these companies) to 

determine areas of risk. While regulators are still going through the process to write 

rules establishing these standards, other rules have not yet been written. 

Treasury and regulators should set strong capital requirements and liquidity 

cushions to absorb shock; longer-term funding to prevent a liquidity crisis; strong 

rules regarding leverage; and constraints on specific products or lines of business 

that hide true exposure to risk. 

In the wake of the 2008 financial crisis, we realized that change was necessary. 

There has been meaningful change to our financial system. But there is much more 

to be done. Americans need and deserve a financial system with regulation that encourages growth, but that minimizes susceptibility to current risks—and one that 

is flexible enough to protect against emerging risks. Treasury and regulators must 

have courage and steely resolve to enact change as they are up against Wall Street 

executives who simply wish to return to ‘‘business as usual,’’ with no public memory 

of the bailout or the lasting impact to the American taxpayer. Enduring progress 

will not be easy, but it can, and must, be achieved.