July 27, 2024 will mark the one-year anniversary of the Basel Endgame proposal. The negative response to the proposal means that a revised version isn’t likely until sometime next year. Meanwhile the Basel Endgame will remain in regulatory limbo. Finalizing regulations can take time, but some get enacted more quickly than others. The speed of enactment can vary due to the complexity of the proposal, interagency differences, and by the regulators’ own prioritization. At what point should the public and other stakeholders get impatient and press regulators to speed things up?
Regulation vs. Supervision
The role of regulators is akin to that of a fire department. A bank run is like a house on fire. Just as you need to put out the fire right away, regulators must stem the outflow of funds as soon as possible. That usually means in a matter of days or even hours. Bank supervisors are like fire inspectors. There is less immediacy when you identify an unsafe condition but there should still be some sense of urgency. Otherwise, it’s an accident waiting to happen. Timeframes run weeks or months. New regulations are like correcting a loophole in the fire code. There is less of a sense of urgency, but the problem still needs to be addressed sooner rather than later.
Bank supervision for SVB and other failed banks lacked a sense of urgency. But at least the bank supervision process follows some specific timelines. For example, at OCC, we needed to send a Supervisory Letter out within 45 days of completion of field work. Paradoxically, the higher the stakes, the slower the process. One reason corrective actions for SVB took so long was that the vetting process was so extensive. Similarly, an exam team can issue an MRA in several weeks (or shorter if it’s urgent) while formal enforcement actions take months, even years.
Regulatory Timelines
We don’t see the same hard deadlines with regulations. That not only means that regulations take longer but there is more variability around the timelines. (See some representative timelines below.) There can be good and bad reasons for this. Some regulations are much more complex than others. Some meet stiffer resistance, but the resistance can just as easily reflect lobbying efforts as democracy in action. Regulators usually prefer to enact big rules on an interagency basis. Getting each of the agencies to agree takes time. That’s not necessarily a good reason but it’s an understandable one. Speedy or slow enactment may also reflect a regulator’s preferences and priorities rather than practical impediments.
Timelines for Enacting Regulations
Fast & Slow Tracked Regulations
The Basel Endgame is a sprawling proposal that runs more than one thousand pages. However, the tailoring regulations for capital and liquidity were likewise extensive. Tailoring regulations took just ten months from Notice of Proposed Rulemaking (NPR) to the Final Rule. The NPR came six months after passage of the EGRRCPA, which raised the asset threshold for systemically important banks.
Regulators have broad authority to implement capital regulations, so the Basel Endgame proposal was not tied to a specific piece of legislation. However, some elements of the proposal had been in the works for years. For example, the Basel Committee on Bank Supervision (BCBS) issued consultive papers on the Fundamental Review of the Trading Book (FRTB) in May 2012 and October 2013. I went through FRTB training twice before retiring in early 2023.
The Basel Endgame proposal received more opposition than did the tailoring regulations, but the extent of the opposition should be kept in perspective. Regulators received about 400 comments. Many of those comments ran just a page or two and did little more than repeat the talking points supplied by stopbaselendgame.com. It need not take six months for regulators to wade through the comments.
Regulators can act quickly when they want to. Regulators issued an NPR in November 2020 to codify an earlier interagency statement on the limited use of supervisory guidance. The Final Rule came out just five months later. The proposal received relatively few (30) mostly positive comments. Even faster was the enactment of OCC’s Proposed Rule regarding “Fair Access to Financial Services.” OCC issued the NPR on November 25, 2020 and the Final Rule on January 13, 2020, just 49 days later. That proposal received 35,700 overwhelmingly negative comments but OCC went full speed ahead to a Final Rule. OCC later “paused” the regulation but did not formally rescind it. Both proposals were finalized in early 2021, before the new Administration made any key regulatory appointments.
Other regulatory initiatives move at an agonizingly slow pace. As I recounted in an earlier post, the FDIC Improvement Act of 1991 required each Federal banking agency to revise risk-based capital standards to account for interest rate risk. It took until 1996 for the commercial banking regulators to finalize a policy statement (not a regulation). The agencies took a principles-based approach that avoided any bright-line thresholds. The commercial banking agencies never implemented a regulation devoted to interest rate risk or explicitly incorporated IRR into capital requirements.
Incentive Compensation
A more recent example revolves around incentive compensation arrangements. Section 956 of the Dodd Frank Act of 2010 requires Federal regulators to “jointly prescribe regulations or guidelines that prohibit any types of incentive-based payment arrangement … that the regulators determine encourages inappropriate risks by covered financial institutions.” The agencies have yet to adopt a Final Rule. In contrast, regulators implemented the Volcker Rule provision of Dodd Frank in 2013.
In May of this year, the OCC, FDIC, FHFA, and NCUA finally got around to issuing an NPR dealing with incentive compensation. The Federal Reserve remains a holdout. During his semiannual testimony before Congress, Fed Chair Jerome Powell got into a testy exchange (at 1:20:23) with Sen. Elizabeth Warren over the Federal Reserve’s failure to join the other regulators on this proposal. Powell cited 2010 interagency guidance to suggest that further regulatory action was unnecessary.
Powell makes a curious defense on a couple of levels. First, the guidance on incentive pay predates Dodd-Frank by one month. Congress does not usually go to the trouble of directing regulators to do what they are already doing. Second, there is a big difference between regulations and guidance, as the agencies themselves have already noted in the 2018 Policy Statement and 2021 regulation. Both make clear that regulators cannot take formal enforcement actions based solely on guidance. The 2010 guidance uses the word “should” 113 times and “must” just twice, with neither “must” relating to what banks are required to do. In contrast, the proposed regulation on incentive pay uses the word “must” 182 times. The difference between “should” and “must” may seem like mere semantics but regulators understand they mean quite different things. “Must” signifies a requirement while “should” a mere suggestion.
In response to a question earlier in the year from Rep. Rashida Tlaib, Powell stated he “would like to understand the problem we’re solving and then I would like to see a proposal that addresses that problem.” Regulators can and do have good faith qualms regarding legislative directives, but that should not empower them to ignore the law. Recent court decisions invite legal challenges and are likely to make the rulemaking process even slower. Fear of litigation will probably also make regulatory timelines even more one-sided. Litigants need both standing and deep pockets, so banker-friendly initiatives will likely remain on the fast track. Regulations opposed by the banking industry or by other powerful interests will likely remain in limbo.