Financial Stability

Title I of the Dodd-Frank Wall Street Reform and Consumer Protection Act is intended to foster financial stability and reduce systemic risk in the U.S. financial system by creating a new interagency council called the Financial Stability Oversight Council (FSOC) to identify risks to the financial stability of the U.S., promote market discipline by eliminating expectations that the government will shield large companies from failure, and respond to emerging threats to the stability of the financial system.

Financial Stability Oversight Council

The FSOC will be composed of 10 voting and five nonvoting members. The voting members are the Treasury Secretary, who serves as the FSOC chair, and the heads of the Federal Reserve Board, OCC, Bureau of Consumer Financial Protection, SEC, FDIC, CFTC, FHFA, NCUA, and an independent member having insurance expertise. The nonvoting members are the directors of the newly created Office of Financial Research and the Federal Insurance Office along with a state insurance commissioner, a state banking supervisor and a state securities commissioner.

Powers and Duties

• The FSOC generally acts by majority vote of its voting members. However, several key actions require a two-thirds vote, including an affirmative vote by the Treasury Secretary.
• The FSOC is tasked with identifying potential threats to U.S. financial stability, monitoring domestic and international regulatory proposals, facilitating information sharing among financial services regulators, designating nonbank financial companies as systemically significant and providing recommendations to the FRB on prudential standards.
• The FSOC may subject certain nonbank financial companies to Federal Reserve Board supervision if it determines, by a two-thirds vote (with an affirmative vote by the Chair), that material financial distress at the nonbank financial company, or the nature, scope, size, scale, concentration, interconnectedness, or mix of the activities could pose a threat to the financial stability of the U.S.
• U.S. nonbank financial companies can only be designated for Federal Reserve Board Supervision if they are "predominantly engaged" in financial activities. A nonbank company is predominantly engaged in financial activities if 85 percent or more of the consolidated annual gross revenues or consolidated assets of the company are attributable to activities that are "financial in nature" or from ownership of an insured depository institution. The term "financial in nature" is defined in the Bank Holding Company Act and includes a broad range of banking, securities, and insurance activities

Prudential Standards and Requirements

To mitigate risks to the financial system from large, interconnected financial institutions, the FRB is directed to establish prudential standards, on its own or at the FSOC's recommendation. The standards would apply to bank holding companies with assets equal to or greater than $50 billion and covered nonbank financial companies. The standards are to be more stringent than those applicable to other nonbank financial companies or holding companies. In establishing more stringent prudential standards, the Federal Reserve Board, on its own or on recommendation of the Council, may differentiate among companies on an individual basis or by category, taking into consideration their capital structure, riskiness, complexity, financial activities, size, and any other risk-related factors deemed appropriate.

Holding Company and Nonbank Company Capital

The federal banking agencies must adopt minimum leverage and risk-based capital requirements on a consolidated basis for all insured depository institutions, depository holding companies and nonbank financial companies supervised by the Federal Reserve Board. The requirements cannot be less than current minimum ratios for depository institutions. These requirements are part of the "Collins Amendment."

• Bank holding companies with assets of less than $500 million are not subject to this requirement.
• The Collins Amendment limits use of trust preferred securities as Tier 1 capital.

The "Hotel California" Provision

Title I contains the so-called "Hotel California" provision which is designed to prevent large bank holding companies which received TARP funds from dropping their banks to avoid supervision by the Federal Reserve Board.

Office of Financial Research

The Act establishes, within the Treasury Department, the Office of Financial Research. The purpose of the new office is to support the FSOC in fulfilling its purposes and duties and to support FSOC members by collecting data, performing applied research, providing results of data collection and research to regulatory agencies, and reporting annually to specified Congressional committees.

Mitigation of Risk to Financial Stability

If the Federal Reserve Board determines that a bank holding company with total consolidated assets of $50 billion or more, or a nonbank financial company supervised by the Federal Reserve Board, poses a grave threat to U.S. financial stability, the FSOC can vote to have the FRB limit the company in enumerated ways, including compelling the company to transfer assets or off-balance-sheet items to unaffiliated entities.