Examining the Regulatory Regime for Regional Banks

Main Points

1. Section 165 of the 2010 Dodd-Frank Act authorizes the Board of Governors of the Federal Reserve System to establish "more stringent" standards and requirements for bank holding companies with assets over $50 billion compared with smaller bank holding companies. At the same time, the Fed is granted considerable discretion to determine exactly how to apply these standards, including what requirements are imposed on different sized banks (Section 165(a)(2)(A)). (The precise wording of the Act is discussed further in Section C below.)
2. As a matter of practice since 2010, the Fed has not applied one set of standards to all banks with assets over $50 billion. There is substantial differentiation, depending in part on size, but also varying according to factors such business model, complexity, and opaqueness.
3. This differentiation, to date, seems sensible and reasonably robust - subject to the points below. It also appears completely consistent with Congressional intent, expressed through Dodd-Frank and earlier legislation that is still in effect.
4. The Federal Reserve has long had responsibility for the safety and soundness of the American financial system. This role can be traced back to the panic of 1907, which led to the founding of the Fed in 1913. The bank runs and broader economic problems of the 1930s led to a re-founding of the Federal Reserve System, with a clear mandate to prevent the financial system from getting out of control.
5. In the run-up to 2007-08, the Federal Reserve failed: to protect consumers, to understand the build-up of risk around derivatives, to supervise appropriately some large financial institutions then under its jurisdiction, and to keep the system from imploding. These failures were not due to lack of resources or an unawareness of the changes happening within the financial system. Rather there was a deliberate strategy of noninterference, along with many instances of actually encouraging various forms of deregulation that, in retrospect, are clearly understood – including by Fed staff and governors – as having increased levels of systemic risk.