Feds Fight Over GAO SIFI Report
November 26, 2014 by Arthur D. Postal
WASHINGTON – Treasury and Federal Reserve officials are challenging a Government Accountability Office report calling for changes in the process that the Financial Stability Oversight Council (FSOC) uses in designating non-banks as systemically important financial institutions (SIFI).
Disclosure of strong disagreement with a GAO report is rare, with most federal agencies merely acknowledging the report in their comments in the document.
The report points out ways FSOC could improve the accountability and transparency of the process it uses to designate non-banks such as insurers as SIFI.
The GAO reported cited three areas of concern:
Tracking and monitoring. The GAO said that federal internal control standards call for clear documentation of transactions and monitoring to assess the quality of performance over time. FSOC has not centrally recorded key processing dates, tracked the duration of evaluation stages, or collected information on staff conducting evaluations, such as the number or type of staff contributed by member agencies. Without such data, FSOC’s ability to effectively monitor the progress and evaluate the quality and efficiency of determination evaluations is limited.
Disclosure and transparency. The GAO said that FSOC’s transparency policy states its commitment to operating transparently, but its documentation has not always included certain details. For example, FSOC’s public documents have not always fully disclosed the rationales for its determination decisions. The lack of full transparency has resulted in questions about the process and may hinder accountability and public and market confidence in the process.
Scope of evaluation procedures. The GAO said that FSOC has evaluated how companies might pose a threat to financial stability using only one of two statutory determination standards (a company’s financial distress, not its activities). By not using both standards when appropriate, FSOC may not be able to comprehensively ensure that it has identified and designated all companies that may pose a threat to U.S. financial stability.
The issues brought up in the report are timely, because at the moment the FSOC is making the final step under the law as to whether to designate MetLife as a SIFI. There are two insurance company SIFIs, American International Group and Prudential Financial. The FSOC designated MetLife as a potential SIFI, MetLife challenged the delegation, and at a hearing last week, MetLife appealed the designation.
There have been signs that MetLife is weighing a court challenge to the designation if its appealed is denied.
Moreover, the FSOC designation process has become a political football, with members of Congress, especially in the House, demanding more “transparency in the process.” Congress is reacting to concerns from insurers about the potential for designation, which they fear will create two separate regulators, current state regulators as well as new federal regulators. Insurers are also concerned about the efforts of international regulators to play a role in U.S. insurance regulation, especially through the International Association of Insurance Supervisors (IAIS).
In a blog to members, the Financial Services Roundtable, which represents large multinational insurers as well as banks, said that, “The power to designate a company as a potential systemic risk to the economy is a serious responsibility – and the FSOC’s exercise of that power should be transparent, based on strong empirical data, and involve substantive engagement with the companies under consideration.”
The roundtable added that the “FSOC claims the potential failure of these companies would cause another ripple in the U.S. economy. However, no one can dispute or confirm this to be true because FSOC won’t fully explain the criteria being used to reach that decision.”
A securities analysis group, Washington Analysis, has also said that there is strong support in Congress to raising the threshold for SIFI status to $100 billion from $50 billion, and that such legislation is likely to pass, with Democratic support, in the new Republican-controlled Congress.
But, after discussions with the Treasury and Federal Reserve officials about its preliminary report, the GAO made certain “revisions” to the report clarifying that its concerns about the designation process deal with “documentation,” and “not the quality of its decisions.” The GAO also acknowledged in the final report that its report dealt with the process of the designation system, and not the substance of the agency analysis supporting its determination decisions. The GAO said in the report that Treasury staff took issue with the “tone of the draft report’s title,” as well as its headings, saying they were “inconsistent with the report’s overall findings.”
The report said that, in particular, “Treasury staff noted that the report’s findings largely were positive, yet the findings associated with the recommendations appeared exaggerated, with broad statements unsupported by the majority of the report’s findings.”
The GAO defended the report, saying that, “We believe the headings and title have struck the proper tone and appropriately reflect the evidence in the report.”
Specifically, the GAO said, “ While the report identifies steps that FSOC has taken to make its designation process systematic and transparent, the report also describes parts of the process that are not systematic or transparent and recommends additional steps that FSOC could take to further improve the process.”
The GAO and FSOC officials, especially those at the Fed, also disagreed about the scope of the standards the FSOC used in determining whether a non-bank should be designated a SIFI. The GAO said the FSOC was using only one standard, whether a company’s financial distress could pose a threat to the financial system, rather than two, the second being whether its activities posed a threat to the financial system.
“By not using both standards when appropriate, FSOC may not be able to comprehensively ensure that it has identified and designated all companies that may pose a threat to U.S. financial stability,” the GAO said.
GAO then noted that, Federal Reserve staff members replied that the FSOC “has not determined to use only the first standard,” but in its past evaluations the FSOC has “concluded that the second standard was not appropriate.” Moreover, the GAO said, Fed staffers also said that the FSOC has “not been required to consider both standards for any particular nonbank financial company.”
