The international financial community has become almost paranoid in its efforts to prevent another 2008-style collapse. That was more than six years ago but the trauma of the failure of major institutions like Lehman Brothers and the placing of many others on government life support has not faded.
Of course no one wants to see a repeat of that calamity, however there's a growing feeling in the boardrooms of banks and insurance companies that regulators have become overzealous in their pursuit of financial stability.
The current target of the industry's anger is the U.S. Financial Stability Oversight Council (FSOC), which was created under the Dodd-Frank Wall Street Reform and Consumer Protection Act, which became law in 2010. It's a super regulator, chaired by the Secretary of the Treasury. Members include such high-powered people as the chair of the Federal Reserve Board, the chair of the Securities and Exchange Commission (SEC), and the chair of the Federal Deposit Insurance Corporation.
FSOC is charged with monitoring the safety and stability of the U.S. financial system, in part by identifying non-banking companies that are systemically important financial institutions (SIFIs) or, in popular parlance, "too big to fail". This means firms that are deemed to pose a risk to the whole financial system should they run into serious trouble. All banks with assets in excess of $50 billion are deemed to be SIFIs and the council previously added American International Group, Prudential Financial, and GE Capital to the list.
A company's designation as a SIFI gives the council sweeping powers to demand that it increase its financial reserves, be subject to added regulatory oversight, and accept restrictions on the use of credit and borrowing.
Some politicians, economists, and academicians have been critical of the council's power, claiming it is ill-defined and overreaching. Writing in Forbes last July, Norbert Michel, a research fellow specializing in financial regulation for The Heritage Foundation's Thomas A. Roe Institute for Economic Policy Studies, described the creation of the FSOC as opening up "a regulatory jungle".
"The economy will suffer ... because the council - much like Dodd-Frank itself - was built on more faulty logic than the flat earth movement," he wrote. "We can expect the council to evolve and ultimately do much more damage to financial markets. Financial companies of all sizes now operate under the constant threat of having new, company specific, regulations thrust upon them for virtually any reason the FSOC can come up with. That's not the type of regulatory environment that helps companies grow."
Despite the criticism, no one had seriously challenged FSOC's authority until last week. Now MetLife has thrown down the gauntlet and is going to court in an effort to have a ruling adding it to the SIFI list overturned. This battle with America's most senior regulators is sure to make headlines in the months to come.
It all began shortly before Christmas when FSOC declared that MetLife could be a threat to the American economy if it ran into difficulties and had to sell off assets at fire-sale prices.
"A large-scale forced liquidation of MetLife's large portfolio of relatively illiquid assets...could disrupt trading or funding markets," the FSOC announcement said. It went on to warn that up to 65 money market funds could see their net asset value drop below $1 (the standard valuation in the U.S. compared to $10 in Canada) if the company defaulted on certain types of debt.
MetLife officials were not amused. The company quickly issued a statement saying it was "disappointed" by the decision and that it does not believe it is systemically important under the Dodd-Frank Act.
As we have said many times, singling out two large life insurance companies for SIFI designation will harm competition, lead to higher prices and less choice for consumers, and ultimately could result in less financial protection for middle-class families - who need it the most" the company said.
Last week, the company followed up by filing an action in U.S. Federal Court seeking to have the decision reversed. "We had hoped to avoid litigation after we presented substantial and compelling evidence to FSOC demonstrating that MetLife is not systemically important," said CEO Steven A. Kandarian. "Now we will take the next step in the process established by the Dodd-Frank Act and ask a federal judge to review FSOC's decision."
Calling the decision "premature", Mr. Kandarian said that FSOC acted before the rules relating to non-banking financial institutions were finalized.
"It is not enough to designate companies as SIFIs merely because they are big," he said. "The council should wait until the rules are in place and it knows the impact on designated firms."
This could turn out to be a milestone battle between regulators and the big banks/insurers, the outcome of which will have profound implications for Wall Street. Stay tuned - more fireworks to follow.
