On December 12, the House Financial Services Subcommittee on Capital Markets held a hearing entitled “Examining the Agenda of Regulators, SROs, and Standards-Setters for Accounting, Auditing.” Witnesses in the hearing were:
· Erica Williams, Chair, Public Company Accounting Oversight Board (PCAOB)
· Richard Jones, Chair, Financial Accounting Standards Board (FASB)
· Robert Cook, President and CEO, Financial Industry Regulatory Authority (FINRA)
Below is a summary of the hearing prepared by Delta Strategy Group. It includes several high-level takeaways, followed by summaries of opening statements and witness testimonies and a summary of the Q&A portion of the hearing.
Key Takeaways
The following is a summary of the main topics explored in today’s hearing. Each is discussed in further detail in the Discussion section below.
- Members in today’s hearing discussed a wide range of topics, but most questions surrounded the Securities and Exchange Commission’s (SEC) Consolidated Audit Trail (CAT) proposal. Republican Members criticized CAT for its privacy concerns, high end-user costs, and redundancy. Democrat Members asked questions about cryptocurrency, and Members on both sides of the aisle asked questions regarding the level of collaboration and communication between the SEC and FINRA.
- FINRA’s CEO said that most of the costs associated with CAT have to do with processing the volume of data. He suggested there are better ways we can maintain market surveillance while still protecting data security and limiting costs to investors.
SUMMARY
Opening Statements and Testimony
Subcommittee Chairman Ann Wagner (R-MO)
- I am concerned that FINRA has become unaccountable and acts more like the SEC than the member-driven self-regulatory organization (SRO) that Congress originally established. I have reservations about FINRA’s leadership and its oversight of operations, particularly in enforcement, as market participants indicate it is causing unnecessary costs and uncertainty in the industry. The CAT raises substantial costs and privacy concerns, yet FINRA has not provided formal comments to the SEC on these key issues, instead accommodating SEC Chair Gensler’s progressive agenda. FINRA has escaped serious oversight from this Committee, and, under Republican leadership, those days are over. It is imperative that Congress keeps a vigilant eye on these new developments, and that our regulatory framework aligns with market needs, bolsters accountability, and stimulates growth while upholding the highest standards of integrity and transparency.
Subcommittee Ranking Member Brad Sherman (D-CA)
- I am not surprised that the crypto world advocates for their own SRO so that they can be in control and not have regulation answerable in any way to the American people. I commend the PCAOB for their involvement with the House on the Holding Foreign Companies Accountable Act.
Committee Ranking Member Maxine Waters (D-CA)
- It is concerning that functions typically associated with the government, such as rulemaking, record examination, and imposing fines, are being handled by SROs like FINRA. I am troubled by the weaker penalties imposed by FINRA compared to government regulators.
Erica Williams, Chair, PCAOB
· Protecting investors is our priority and we are doing that by holding auditors accountable. In passing the Holding Foreign Companies Accountable Act, the PCAOB secured complete access to inspect and investigate registered public accounting firms in China for the first time. As a direct result of that access, the PCAOB recently announced historic enforcement actions against China based audit firms. The days of China-based firms evading accountability are over.
Richard Jones, Chair, FASB
· We continuously engage with stakeholders in our standard setting process, with a commitment to transparency. We understand that high-quality accounting standards are crucial for the effective operation of capital markets, and we remain committed to this mission.
Robert Cook, President and CEO, FINRA
· Protecting investors, ensuring market integrity, and fostering robust capital markets are our main . We also promote transparency by making information on market transactions available to the public, which helps inform investors and reduce transaction costs. We are consistent with investor protection both by addressing unnecessary barriers and by stopping activities that could undermine confidence in the capital formation process.
Discussion
FINRA and the SEC
Wagner (R-MO): Has FINRA sent formal comment letter to the SEC on best execution proposal or the predictive analytics proposal? Cook: Yes, we have on the best execution proposal, but not on the predictive data analytics proposal.
Sherman (D-CA): SEC is currently working on a best execution standard. Have you been in contact with the SEC to align the best execution standards? Cook: We have had conversations with the SEC and will continue to engage in discussions.
Sessions (R-TX): Can you speak to the budget of FINRA? Cook: With costs increasing, it is important that we are properly funded to fulfill our purpose as an SRO.
Huizenga (R-MI): What is the level of coordination between the PCAOB and the SEC? Williams: Our enforcement activity is independent, but any rule approved by us going through the SEC as well.
Lawler (R-NY): What is the SEC and FINRA doing to address threats Chinese broker dealers pose to retail investors in the U.S.? Cook: FINRA’s role is to make sure our members comply with securities laws and FINRA rules.
CAT
Lucas (R-OK): Does the cost of operating CAT have any impact on the budget of FINRA or the SEC? Cook: It does not come out of the SEC’s budget. It comes out of a fee allocation approved by the SEC. We commented negatively on that proposal twice.
Lucas (R-OK): What has FINRA or the SEC done to reduce the cost of CAT? Cook: The initial estimates for market volume on CAT were wrong. We are now seeing volumes that are ten times what they were estimated to be.
Lucas (R-OK): Do you have an estimate as to how much of the cost of CAT are driven by usage from the regulators and SRO’s versus simply the processing of the incoming data? Cook: About 75 percent of the costs have to do with processing the data.
Lucas (R-OK): Is there a mechanism in place to examine the CATs funding and decision making? Cook: The funding went through the SEC approval process, which gives opportunity for comments. Within the CAT structure, there have been concerns about lack of industry participation.
Huizenga (R-MI): Are you concerned that FINRA can access private information from the CAT database? Cook: We have safeguards at FINRA, but I cannot speak to the SEC.
Hill (R-AR): Is it true that 3000 individuals that have access to querying the CAT data base? Cook: That was what the plan required the capacity to be.
Hill (R-AR): What is the security clearance of CAT data access? Cook: We do have controls around who is authorized to access the data.
Hill (R-AR): Would you support CAT if it were to be scaled back to only focus on large traders? Cook: I would love to work with the industry and the SEC to shrink the data collection of CAT.
Garbarino (R-NY): Who will ultimately pay for CAT? Cook: It is likely the cost will be passed on to investors and others down the chain.
Garbarino (R-NY): Does CAT provide enough surveillance to justify the cost? Cook: CAT does provide intelligence to regulators to ensure market integrity.
Garbarino (R-NY): How can we fix CAT? Cook: There is a request response system that would ensure data is only pulled in when it needed. This could help bridge the gap between data use cases and data privacy issues.
Crypto
Casten (D-IL): Can you explain proof-of-reserve reports as they relate of crypto? Williams: They are accounting reports that detail how much an entity has in reserves at a point in time. They are not an audit.
Casten (D-IL): In September, you issued new standards that require fair value reporting for any crypto that is held on the balance sheet. Do I understand that exchanges are not covered by that rule? Jones: We issued a narrow subset of cryptocurrency rules that would require certain cryptocurrency be accounted for at fair value.
Lynch (D-MA): Are there any lessons learned from recent legal proceedings regarding crypto activity like Binance? Cook: The traditional rules around securities and other regulated products are there to make sure that assets are safe, that their customers know who is using them, and why.
Lynch (D-MA): How will the volatile nature of crypto impact banks? Williams: The PCAOB put out an alert to auditors warning them of the risks that fluctuation in interest rates and volatility in certain markets could have, and we also have prioritized the inspections of audit engagements involving digital assets.