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House Financial Services Committee Hearing

December 2, 2024 Uncategorized

OVERVIEW 

For questions on the note below, please contact Scott Parsons, Edmund Perry or Ruth Lunsford. 

On November 20, the House Financial Services Committee held a hearing entitled “Oversight of Prudential Regulators.”  Witnesses in the hearing were: 

Legislation noticed for the hearing: 

  •  H.R. 1574, “Calling for the removal of Federal Deposit Insurance Corporation Chairman Martin J. Gruenberg from his position, effective immediately.” 

Below is a summary of the hearing prepared by Delta Strategy Group.  It includes several high-level takeaways from both panels, 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.   

  • The hearing was focused on the regulatory oversight of the Federal Reserve (Fed), the Federal Deposit Insurance Corporation (FDIC), National Credit Union Administration (NCUA), and the Office of the Comptroller of Currency (OCC).  Key focuses in the hearing were the Basel Endgame proposal and digital asset regulation. 
  • Republicans criticized regulators for unnecessary and burdensome regulation and overstepping statutory authority.   
  • On Basel III, Republicans said that the Fed should go further in limiting capital requirement increases than the most recent proposal of the rule.  Chairman Patrick McHenry (R-NC) noted that the Fed had only addressed a portion of public complaints with the original proposal in its latest revisions.  Representative Frank Lucas (R-OK) urged the Fed to focus particularly on the impact that Basel will have on derivatives markets end-users.  The Fed committed to working with the Trump administration in the implementation of a final rule. 
  • Democrats voiced concerns about the incoming administration’s potential influence over independent agencies, with Barr continuing to reaffirm his commitment to 100 percent Fed independence. 
  • There were bipartisan concerns on digital asset regulation, centered on allegations of regulators using bank supervision to unfairly target certain industries, particularly in the digital asset space.  Representative Zach Nunn (R-IA) stated that regulatory hostility drove fourteen percent of crypto industry activity overseas, representing a $3 billion loss. Representative French Hill (R-AR) noted that there is bipartisan concern regarding Operation Chokepoint 2.0 and allowing digital assets to have access to the banking system, referencing comments made by Ranking Member Maxine Waters.  
  • Representative Warren Davidson (R-OH) called for the agencies to cease work on central bank digital currency. 

SUMMARY 

Opening Statements and Testimony 

Chair Patrick McHenry (R-NC) 

During the Biden presidency, a backward-looking regulatory approach has hindered innovation, the financial system, and consumers.  In contrast, the House overwhelmingly voted to embrace a technology-based future by passing the Financial Innovation for the 21st Century Act (FIT21), the most significant rewrite of financial regulation since Dodd-Frank.  Instead of collaborating with Congress, this administration has pushed new rules that lack proper analysis and public engagement, undermining the credibility and independence of agencies.  The politicized regulatory agenda has eroded trust with Congress and the courts, with rules that make financial products less accessible and more expensive for everyday Americans.  Vice Chair Barr’s Basel III Endgame proposal faced tremendous public backlash and was ultimately significantly revised.  The post-financial crisis regulatory era has ended, and the failure to adapt to new realities means the ship cannot be righted. 

Ranking Member Maxine Waters (D-CA) 

These agencies have strengthened our nation’s financial system coming out of the pandemic.  It is much more difficult to build something strong than it is to tear something down.  Trump’s policies will bring back inflation at the same time he is trying to abolish the one government agency charged with protecting against inflation, the Federal Reserve.  This is not what the American people voted for. 

Representative Andy Barr (R-KY) 

While cross border harmonization and regulatory convergence can protect the global economy, the primary focus of the Basel III Endgame should be fostering economic growth.  Basel Committee on Banking Supervision (BCBS) officials acknowledged that the original proposals for capital requirements were inconsistent with the capital neutrality principles of the Basel Agreement and would impose unnecessary burdens on the U.S. economy.  Implementing overly burdensome capital requirements could restrict the availability of credit, driving up costs and potentially stalling economic growth.  The American people, as demonstrated in the November elections, want policies that prioritize economic growth, not stagnation. 

Michael Barr, Vice Chairman for Supervision, Board of Governors of the Federal Reserve System 

The banking system remains resilient with strong capital and liquidity ratios, indicating its ability to withstand potential losses.  While bank lending continues to grow, demand has decreased due to tighter lending standards.  Stress test results confirm that large banks have sufficient capital for highly stressful scenarios.  Liquidity conditions are stable, with deposits in liquid assets remaining steady, and the share of uninsured deposits continues to decline.  However, rising delinquency rates in commercial real estate, particularly office loans, and certain consumer loans, require monitoring.  To address these risks, banks have increased loan loss provisions, while cybersecurity remains a priority for the Fed’s supervisory activities.  Ongoing improvements are being made in bank supervision, focusing on aligning risk management practices with the size and complexity of banks.    Proposals to adjust capital surcharges for large banks and improve liquidity resilience through the Basel Endgame continue to be discussed, with joint efforts between the Fed, FDIC, and OCC aimed at strengthening the financial system’s ability to withstand economic shocks. 

Martin Gruenberg, Chairman, Federal Deposit Insurance Corporation (FDIC) 

The banking industry remains resilient in 2024, with relatively high income and favorable asset quality.  However, weaknesses persist in loan portfolios, including commercial real estate and credit cards, with notable increases in non-current rates for commercial real estate and multifamily loans.  Unrealized losses on securities are also a concern, particularly following the Fed’s interest rate hikes since 2022.  The FDIC’s Deposit Insurance Fund balance increased by $7.5 billion in the first half of the year, totaling $129 billion by June 30. Additionally, the bankruptcy of non-bank company Synapse has raised concerns over third-party bank arrangements, leading to the proposal of new rules to strengthen record-keeping practices for FDIC-insured depositories.  The FDIC continues to focus on improving bank capital and mitigating the risks associated with large regional banks, particularly in light of past failures. 

Todd Harper, Chairman, National Credit Union Administration (NCUA) 

The credit union system remains strong, with a solid net worth ratio across the industry.  However, signs of weak loan performance are emerging, particularly in credit cards and auto loans, with nearly 20 percent of federally insured credit unions categorized as troubled.  The NCUA is working closely with these institutions to mitigate potential losses.  The agency is also focusing on improving compliance with consumer financial protection laws, such as overdraft programs and fair lending.  Efforts to increase transparency in overdraft fees have resulted in new disclosure requirements for credit unions with over $1 billion in assets.  Cybersecurity remains a major concern, with over 1,000 incidents reported, most linked to third-party vendors.  The NCUA is seeking enhanced authority to oversee these vendors, aiming to prevent potential risks to financial stability. 

DISCUSSION 

McHenry (R-NC): Of the 75 material issues raised with the Basel Endgame proposal by public comments, only 24 percent were addressed in your proposed changes.  Do you believe your revisions address just a quarter of the issues, or are they more comprehensive? How did you revise the proposal?  Barr: The changes made are broad-based and material, focusing on the major issues from public comments that have the most significant impact. While not comprehensive, they address the most critical feedback. Additional changes may still be appropriate before finalizing the Basel III Endgame rule. 

Waters (D-CA): Fed Chair Powell stated that, “The law gives me a four-year term and I fully intend to serve it.”  If Trump fired you, what would you do?  Barr: As Chair Powell said, we serve a fixed term of office, and I intend to serve mine. 

Waters (D-CA): Experts warn that across-the-board tariffs and mass deportations will cause inflation to skyrocket. What impact would these have on inflation?  Barr: Inflation has decreased significantly from its highs two years ago, and unemployment remains historically low.  As new policies are introduced, we will incorporate them into our economic forecasts and assessments. 

Waters (D-CA): Chairman Powell stated that the U.S. is on an unsustainable fiscal path. In 2017, we were told that Trump’s tax cuts for corporations and billionaires would pay for themselves, but they did not.  Would that make our fiscal path even more unsustainable?  What is your opinion on this?  Barr: Fiscal policy is the responsibility of Congress and the President, not the Federal Reserve.  I agree with Chair Powell that the current fiscal path is unsustainable in the long term, but we do not get involved in fiscal policy decisions. 

Lucas (R-OK): I am sensitive to the impact of over-the-counter derivatives costs for end users.  I know you have received feedback about the increase in capital charges for the types of uncleared derivatives that are used to hedge commodity prices and interest rates as well as impacts of the cost of over-the-counter derivatives for end users. In your speech in September, you said that the issues for client-cleared derivatives would be fixed, and it sounds like you are willing to work through these proposals next year.  Is that correct?  As you continue to work through the process, will you also address the concerns from the end-user community about how the market risk-weighting components of Basel III will drive up their price of hedging?  Barr: Yes.  I do not have an answer for you about the outcome of that review, but we are taking very seriously all the comments on all aspects of the rule, including over-the-counter derivatives.  

Hill (R-AR): Under the Obama and Biden administrations, we saw the government weaponized, and both sides of this Committee have voiced concerns about Operation Chokepoint 2.0. Do you agree that banking regulations should not be weaponized to target a specific industry?Gruenberg: Yes.  

Velázquez (D-NY): At a recent post-FOMC press conference, Chair Powell indicated that the Basel III Endgame rule could be finalized in the first half of next year.  Do you think this is a realistic time frame for the final rule?  Barr: I am committed to working on finalizing the Basel III capital rule and look forward to collaborating with my new colleagues at the OCC and the FDIC to achieve that in the coming year. 

Nunn (R-IA): Can I get a confirmation from each of you that you will halt your overly burdensome regulatory process, particularly in the final hours of your tenure before President Biden leaves office?  Hsu: We are going to do our job;  Harper: We still must pass an annual performance plan and budget.  We have one rulemaking underway, with ongoing negotiations across the agency and board offices to reach consensus where possible;  Gruenberg: We have several pending rulemakings, and some have extended comment periods.  None of them will be ready for action before the end of the President’s term;  Barr: We have three major regulatory rulemakings on Basel III capital rules, liquidity, and long-term debt.  I expect to work with the OCC and FDIC in the coming year to get their policy input and perspectives. 

Nunn (R-IA): You have all engaged in an anti-crypto crusade during your time here, which has discouraged many institutions from innovation and growth, particularly in digital assets.  Over the past 4 years, fourteen percent of the crypto industry has left the U.S., resulting in over $3 billion in losses.  Do you recognize your role in this?  All: No response.   

Sherman (D-CA): Can major institutions survive a temporary rupture in the U.S.-China trade relationship?  Have you done a stress test to reflect this risk?  Barr: We work with our regulated financial institutions to ensure they are using the appropriate tools, but we do not have a separate formal stress test for this scenario. 

Sherman (D-CA): If your colleagues in Basel III end up being unreasonable, are you prepared to go it alone to keep our banking system secure?  Barr: I am not going to engage with that question. 

Donalds (R-FL): Will each of you commit to pausing pending rulemaking and new proposals until the incoming administration takes office and can make new appointments to positions that are or will become vacant?  Barr: We have three major interagency rulemakings on capital liquidity and long-term debt, and I look forward to working with my incoming colleagues at the OCC and the FDIC on those rulemakings next year;  Harper: We must finalize the agency’s biannual budget and adopt an annual performance plan.  We are on track to do so;  Hsu: Similar to Vice Chair Barr, we do not intend to move forward on capital liquidity in this administration. 

Donalds (R-FL): On September 10th, you recommended changes to the Basel III Endgame rule, which would result in a nine percent increase in capital requirements for certain banks.  The Basel III proposal from July 2023 would have raised them by nineteen percent, which you defended before.  Why should the committee have confidence in the nine percent increase?  

Barr: We considered comments from this Committee, the public, and the banking sector in revising the proposal.  The goal is to raise capital standards for a level playing field internationally and incorporate risks not fully accounted for, like those from the global financial crisis and the lessons learned from March 2023, such as interest rate risk by being sure that unrealized losses on the balance sheet of banks are taken into account in capital share. 

Lynch (D-MA): Can you walk me through why the Basel proposal went from nineteen percent capital requirement increases to nine percent, and why it is still struggling to be finalized?  Barr: The proposal we worked on together would add $92 billion in capital and make the financial system more resilient.  We adjusted the proposal to address the comments we received from the public, mostly from banks.   

Lynch (D-MA): Most of those comments were from the banks, so this is not a case of ordinary citizens writing letters about capital reserves.  Should I be concerned about your lack of independence?  Barr: We made our best independent judgment in responding to the comments. 

Foster (D-IL): What lessons have you learned from the Synapse bankruptcy, what steps should we be taking to better protect fintech customers in the future?  Is there a need for legislation on this?  Hsu: The banking agencies, using our current authorities, are able to hold banks to a standard where third-party risk management is done in a way that ensures safety and soundness.   We recently put out a request for information specifically focused on bank-fintech relationships to ensure that healthy arrangements are in place.  However, I do think there is a regulatory gap for non-banks, and I believe a federal standard would be helpful.  

Barr (R-KY): Will you commit to a more capital-neutral Basel implementation approach that harmonizes our rules with international banking standards?  Barr: We put forward a new proposal in September.  I have not made any determination about the right set of trade-offs going forward. I look forward to getting input from others and having more comments but cannot commit until I understand the full range of public comments. 

Barr (R-KY): My proposed legislation would ensure that Congress can conduct proper oversight when the Fed or Treasury participates in international standard-setting bodies, protecting U.S. sovereignty when our central bank negotiates deals overseas.  Have you or anyone at the Fed examined this bill, and would the Fed support more transparency with Congress when entering into agreements overseas?  Barr: I think the oversight of this body is absolutely essential, and I am happy to look at the legislation in more detail. 

Vargas (D-CA): When you first started today, you said that the banking system is sound and resilient.  Do you still stand by that?  Barr: Yes, sir, it is sound and resilient.  There are areas of concern that we pay attention to and institutions that we focus on, but overall, the system is sound and resilient.  

Vargas (D-CA): Can you tell us what you are doing to combat climate risk?  Barr: The Federal Reserve has an important, though narrow, role in this space.  We have taken two significant steps.   One is to engage in a climate scenario pilot exercise to begin working with banks to understand how they are managing climate risk.  The second is issuing guidance with our colleagues at the OCC and FDIC for large banks, over $100 billion, to use the same risk management practices that they apply to other risks. 

Huizenga (R-MI): We heard today that Basel III is likely not to move forward this year, correct? Barr: Correct.   

Casten (D-IL):   Why is the Fed opposed to the Basel Committee’s revised climate disclosure framework?  Barr: We have indicated that we are still looking at the proposal, and the Basel Committee received public comments back.  We are still considering whether it is a good fit. 

Williams (R-TX): Given the clear interconnection between Basel III Endgame and the long-term debt rule, can you commit to pausing joint rulemakings with other prudential regulators until new appointees from the incoming administration are in place?  Barr: The major rules we are working on are liquidity, long-term debt, and capital.  I intend to take them up in the next year with my new colleagues at the OCC and FDIC.  I would like to find consensus with the new regulators to craft durable rules that serve the American public.  

Davidson (R-OH): On Basel III Endgame, given the size and scope of these broad and material changes, would not it be more appropriate and less subject to legal challenge to withdraw the initial proposals, make the changes, and then re-propose in a single unified text?  Barr: We adhere to the Administrative Procedure Act (APA).  We have followed that in the initial proposal, and we are prepared to do that in a re-proposal.  However, I think it is important to wait until my new colleagues come in from the OCC and FDIC, so we can look at the proposal together, share policy input, and have a conversation to ensure that the rule is durable and serves the American public.