Source: https://www.gao.gov/products/B-331324
Timestamp: 2020-05-29 18:57:37
Document Index: 256104842

Matched Legal Cases: ['§ 325', '§ 325', '§ 801', '§ 801', '§ 801', '§ 804', '§ 801', '§ 801', '§ 5323', '§ 553']

U.S. GAO - Board of Governors of the Federal Reserve System—Applicability of the Congressional Review Act to Supervision and Regulation Letter 11-7
B-331324: Oct 22, 2019
In response to a letter from Senator Thom Tillis, GAO issued an opinion on whether a Supervision and Regulation Letter (SR Letter) issued by the Board of Governors of the Federal Reserve System (FRB) is a rule for purposes of the Congressional Review Act (CRA). SR Letters are guidance documents which provide transparency to the industry and FRB staff concerning supervisory insights, practices, and approaches. The SR Letter at issue, SR 11-7, provided guidance on actions financial institutions should consider taking to ensure their safety and soundness. We concluded that SR 11-7 is a rule for purposes of CRA because it meets the definition of a rule and no exceptions apply.
Subject: Board of Governors of the Federal Reserve System—Applicability of the Congressional Review Act to Supervision and Regulation Letter 11-7
This responds to your request for our legal opinion as to whether Supervision and Regulation Letter 11-7, “Supervisory Guidance on Model Risk Management” (SR 11‑7) issued by the Board of Governors of the Federal Reserve System (FRB) is a rule for purposes of the Congressional Review Act (CRA). Letter from Senator Thom Tillis to the Comptroller General (Apr. 26, 2019). As explained below, we conclude that SR 11-7 is a rule under CRA, which requires that it be submitted to Congress for review.[1]
Our practice when rendering opinions is to contact the relevant agencies and obtain their legal views on the subject of the request. GAO, Procedures and Practices for Legal Decisions and Opinions, GAO-06-1064SP (Washington, D.C.: Sept. 2006), available at www.gao.gov/products/GAO-06-1064SP. We contacted FRB to obtain the agency’s views. Letter from Assistant General Counsel for Strategic Issues, GAO, to General Counsel, FRB (May 13, 2019). We received FRB’s response on June 13, 2019. Letter from General Counsel, FRB, to Managing Associate General Counsel, GAO (June 13, 2019) (Response Letter).
FRB has regulatory and supervisory jurisdiction over several types of financial institutions including state-chartered banks that are members of the Federal Reserve System, bank holding companies, and foreign bank holding companies operating in the United States. See, e.g., 12 U.S.C. §§ 325, 1844.[2]
FRB has the authority to inspect the financial condition of an institution under its jurisdiction to ensure the institution is not at risk of insolvency. See, e.g., 12 U.S.C. §§ 325, 1844. When FRB inspects the financial condition of an institution, it inspects the institution’s safety and soundness. FRB, The Federal Reserve System Purposes and Functions 74 (10th ed. 2016). FRB performs safety and soundness reviews through risk-based examinations. Id. These examinations are conducted through on-site examinations and inspections as well as off-site scrutiny and monitoring. Id. at 83. For the largest institutions, FRB maintains a continuous supervisory presence and full-time examiners. Id.
According to FRB, when examiners believe that guidance on a particular issue is necessary, they issue supervisory statements. Response Letter, at 2. These supervisory statements are called SR Letters. Supervision and Regulations Letters (SR Letters) are intended by FRB to address significant policy and procedural matters related to the FRB’s supervisory responsibilities.[3] The letters provide transparency to the industry and FRB staff concerning supervisory insights, practices, and approaches. Id. According to FRB, SR Letters are not binding on any institution. Id.; see also FRB, Interagency Statement Clarifying the Role of Supervisory Guidance: SR 18-5, (Sept. 18, 2018).FRB intended the SR Letters at issue to inform financial institutions of the agency’s supervisory views. Response Letter, at 2.Active SR Letters are publicly available on the FRB website.
SR 11-7[4] states that its purpose is to provide “comprehensive guidance for banks on effective model risk management.”[5] SR 11-7 at 2. In the document, FRB states, “[A]ll banks should ensure that internal policies and procedures are consistent with the risk management principles and supervisory expectations contained in this guidance.” Id. Banks model risk to perform activities such as underwriting credits; valuing exposures, instruments, and positions; measuring risk; managing and safeguarding client assets; determining capital and reserve adequacy; and many other activities. Id. at 1. SR 11-7 applies to all banks within FRB’s jurisdiction. See id. at 2.
CRA, enacted in 1996 to strengthen congressional oversight of agency rulemaking, requires all federal agencies, including independent regulatory agencies, to submit a report on each new rule to both Houses of Congress and to the Comptroller General before it can take effect. 5 U.S.C. § 801(a)(1). The report must contain a copy of the rule, “a concise general statement relating to the rule,” and the rule’s proposed effective date. 5 U.S.C. § 801(a)(1)(A). In addition, the agency must submit to the Comptroller General a complete copy of the cost-benefit analysis of the rule, if any, and information concerning the agency’s actions relevant to specific procedural rule making requirements set forth in various statutes and executive orders governing the regulatory process. 5 U.S.C. § 801(a)(1)(B).
FRB did not submit a CRA report for SR 11-7 to Congress or the Comptroller General. In its letter to our office, FRB did not provide its views regarding whether SR 11-7 is a rule under CRA or whether any exceptions would apply. Response Letter. FRB explained it is currently reviewing recent guidance from the Office of Management and Budget (OMB) on compliance with CRA.[6] FRB is reviewing the rules it submits to OMB for major rule determinations as well as its obligation to submit guidance documents.
To determine whether SR 11-7 is a rule subject to review under CRA, we first address whether it meets the APA definition of a rule. As explained below, we conclude that it does. The next step, then, is to determine whether any of the CRA exceptions apply. We conclude that they do not.
We can conclude that SR 11-7 meets the APA definition of rule upon which CRA relies. First, it is an agency statement as it was issued by FRB. Second, it is of future effect because it provides new guidance to banks on modeling risk going forward impacting future financial decisions, and setting expectations for future bank internal policies and procedures. SR 11-7 at 2; see B-316048, Apr. 17, 2008 (finding that an agency action was of future effect because the action was prospective in nature since it was concerned with policy considerations for the future rather than the evaluation of past or present conduct). Finally, SR 11-7 implements, interprets, or prescribes law or policy as it sets forth supervisory expectations as determined by FRB under its authority to supervise financial institutions to ensure they operate in a safe and sound manner.
SR 11-7 is similar in language and intent to other FRB guidance documents that we have previously determined to be rules under CRA. See B-329272, Oct. 19, 2017 (Leveraged Lending). In 2017, we found that interagency guidance on leveraged lending issued by FRB and other agencies was a rule under CRA. Id. The leveraged lending guidance also set forth agency supervisory expectations, stating that financial institutions should take certain actions for the sound risk management of leveraged lending activities. For instance, in one part, the leveraged lending guidance states, “A financial institution’s underwriting standard should be clear, written and measurable, and should accurately reflect the institution’s risk appetite for leveraged lending transactions.” 78 Fed. Reg. 17766, 17772 (Mar. 22, 2013). The language indicated that an institution may need to consider changes to its internal operations and procedures to ensure it was in line with the guidance. This language in the leveraged lending guidance is similar to language contained here in SR 11-7, which also states institutions should take certain actions to improve their model risk management.[7]
In its response letter, FRB stated SR Letters do not establish binding requirements on any institution but only provide transparency to the industry and FRB staff concerning supervisory insights, practices, and approaches. Response Letter. This fact, however, does not change our analysis. In Leveraged Lending, we also explained how the guidance document in that case was a rule under CRA. B-329272 at 4-6. We reached that conclusion based on our prior opinions and the legislative history of CRA. The legislative history states:
142 Con. Rec. H3005 (daily ed. Mar. 28, 1996). Based on this statement and others in the legislative history, we have concluded the provisions of CRA are to be interpreted broadly. See, e.g., B-329272 at 5. Consequently, even though SR 11-7 is a non-binding guidance document similar to the guidance document in our Leveraged Lending opinion, it still meets the APA definition of a rule.
Having concluded that SR 11-7 meets the APA definition of rule, we now turn to whether any of the three CRA exceptions apply. We conclude that they do not. First, SR 11-7 applies to all institutions under FRB jurisdiction and is, therefore, a rule of general and not particular applicability. See B-287557, May 14, 2001 (determining that all that is required to determine that an agency action is of general applicability is a finding that an agency action has “general applicability within its intended range, regardless of the magnitude of that range”). Second, SR 11-7 deals with actions the bank should take and not FRB management or personnel and is, therefore, not a rule relating to agency management or personnel.
This leaves the exception for rules of “agency organization, procedure, or practice that do not substantially affect the rights or obligations of non-agency parties.” 5 U.S.C. § 804(3)(C). We find that this exception does not apply because SR 11-7 has a substantial impact on the regulated community. We examined a similar issue in 2017, in our review of the 2016 Amendment to the Tongass Land and Resource Management Plan, finding that the plan at issue did not meet this exception because it had substantive impacts on the regulated community. B-238859, Oct. 23, 2017. In that case, the U.S. Department of Agriculture (USDA) sought to revise the Tongass National Forest Plan to identify the uses that could occur in each area of the forest. Id. at 3. Amongst other things, the agency wanted to amend the Tongass National Forest Plan by transitioning timber harvest activities from old-growth to new-growth trees. Id. at 5–6. This transition would affect the kind of timber harvesters could take from the forest, impacting the operations of the harvesters in various ways. Id. at 13. In doing so, we noted that USDA encoded the agency's substantive value judgment in favor of this transition which would have a substantial impact on the local timber industry. Consequently, because the plan would have a substantial impact on the regulated community, we found the exception did not apply to the plan.
We reached our conclusion in Tongass relying upon the Fifth Circuit’s decision in Phillips Petroleum Co. v. Johnson, 22 F.3d 616 (5th Cir. 1994).[8] In that case, the court held that an unpublished agency paper that changed the criteria for valuing liquid natural gas products, used to calculate royalties, was a substantive rule subject to APA notice-and-comment rule making requirements. Phillips Petroleum, 22 F.3d at 620–21. Because the agency paper would dramatically affect the royalty values of all oil and gas leases, the court concluded that the paper had a substantial impact on the industry.
As in our 2017 Tongass opinion and Phillips Petroleum, SR 11-7 has a substantial impact on the regulated community. SR 11-7 lays out actions banks should consider taking when developing, implementing, and using a model for risk management, among other things. SR 11-7 at 5–9. Banks rely on these models as they make decisions on underwriting credits, determining capital and reserve adequacy, and other activities; all of these are activities at the core of a bank’s business and internal operations. Id. at 1. The actions in SR 11-7 affect a bank’s model risk which in turn impacts how it conducts its business and internal operations. In Tongass and Phillips Petroleum, the agency actions at issue led to changes to what businesses and other regulated entities could expect from the agency, which could lead to changes in the regulated entities’ internal operations and polices as needed. Similarly, because the actions listed in SR 11-7 could lead to and encourage change to an institution’s internal operations, SR 11-7 has a substantial impact on the regulatory community and, therefore, the exception does not apply.
SR 11-7 meets the APA definition of a rule and no exception applies. Accordingly, given our conclusions above, and in accordance with the provisions of 5 U.S.C. § 801(a)(1), SR 11-7 is subject to the requirement that it be submitted to both Houses of Congress and the Comptroller General for review before it can take effect.
[1] In B-330843, issued today, we concluded that two other Supervision and Regulation Letters, SR 12-17 and SR 14-8, are rules under CRA and must be submitted to both Houses of Congress and the Comptroller General before they could take effect. 5 U.S.C. § 801(a)(1). We also concluded that SR 15-7 is not a rule.
[2] Some non-financial institutions are also subject to FRB’s jurisdiction. See 12 U.S.C. § 5323.
[3] FRB, Supervision and Regulation Letters, available at https://www.federalreserve.gov/supervisionreg/srletters/srletters.htm (last visited Oct. 2, 2019).
[4]FRB, Supervisory Guidance on Model Risk Management: SR 11-7 (Apr. 4, 2011) (SR 11-7).
[5] Banks use quantitative analysis and models in financial decision-making such as underwriting credits, valuing exposures, and measuring risk. SR 11-7 at 1. SR 11-7 expands upon existing guidance to incorporate all aspects of model risk management. Id. at 2.
[6] Office of Mgmt. & Budget. M-19-14, “Guidance on Compliance with the Congressional Review Act” (Apr. 11, 2019).
[7] For example, SR 11-7 states, “[A]ll banks should ensure that internal policies and procedures are consistent with the risk management principles and supervisory expectations contained in this guidance.” SR 11-7 at 2.
[8] Because CRA exceptions are closely modeled and similar to APA exceptions, we have used court decisions on the APA exceptions to guide our analysis of the CRA exceptions. See B-329926, Sept. 10, 2018, at 4–5. The APA exempts procedural rules from having to undergo notice-and comment rulemaking. 5 U.S.C. § 553(b)(A). The CRA exemption for rules of agency organization, procedure, or practice that do not substantially affect the rights or obligations of non-agency parties was modeled after this exception. See 142 Cong. Rec. S3683-01, S3687 (daily ed. Apr. 18, 1996).