On Friday, April 21, President Donald Trump signed two presidential memoranda, directing the Secretary of the Treasury (the “Secretary”), Steve Mnuchin, to review two major provisions of the Dodd-Frank Act: orderly liquidation authority (“OLA”) for financial companies under Title II, and the decision-making processes of the Financial Stability Oversight Council (“FSOC”). Consistent with the Trump Administration’s February Executive Order ordering the Secretary to review financial regulations—which we discussed in a client alert—these memoranda highlight the Administration’s concerns with certain provisions of Dodd-Frank but will not effect major changes on their own.
Dodd-Frank gave the Secretary the authority to place a failing financial company in receivership under the control of the Federal Deposit Insurance Corporation (“FDIC”) and initiate liquidation after making a determination that the institution is in default or in danger of defaulting. Dodd-Frank directs regulators to only invoke this authority if doing so would avoid or mitigate adverse effects on United States financial stability. Essentially, the OLA provision creates a process for a financial company that presents systemic risk to bypass the normal bankruptcy process and be liquidated at the direction of the FDIC as receiver.
President Trump’s memorandum directs the Secretary to review this provision in light of a concern that OLA may encourage excessive risk-taking. The memorandum states that, to the extent OLA creates a federal backstop that bypasses the normal bankruptcy process, it may create moral hazard by shielding creditors, counterparties, and shareholders from losses they would have otherwise suffered. Further, though any funds used for the OLA process are intended to be covered by assessments on financial institutions, the memorandum expresses concern that it may be necessary to use taxpayer money to carry out the liquidation. Finally, the memorandum notes that the Secretary should also evaluate whether the Bankruptcy Code itself or changes to it could better fulfill the objectives of OLA.
The memorandum directs the Secretary to study the issue and provide a report to the President within 180 days. While that review is pending, the memorandum directs the Secretary, to the extent consistent with law, to refrain from exercising OLA.
The FSOC, which is an interagency council that includes the leaders of the major federal financial regulators, was established by Dodd-Frank to identify and monitor risks to the U.S. financial system. Two of the FSOC’s powers are addressed by the memorandum: The Committee is empowered to determine that nonbank financial companies may pose a risk to the financial system and thus subject them to supervision by the Federal Reserve Board; and it is empowered to designate certain financial market utilities and financial activities as “systemically important,” which subjects them to certain risk management standards.
The memorandum raises concerns about the transparency and fairness of the processes the FSOC uses to make these determinations. It directs the Secretary to review and provide a report on these processes within 180 days.
As part of this review, the President directs the Secretary to consider a number of factors, including the fairness and transparency of the processes, whether affected financial companies are afforded due process and an adequate and timely avenue to seek reevaluation of FSOC determinations, and whether the FSOC should provide information on how potentially affected financial companies could mitigate risk before they are subject to these determinations or designations. The memorandum also directs the Secretary, to the extent consistent with law, to refrain from voting for a determination or designation under these provisions of Dodd-Frank while the review is pending.