What is a Systemically Important Financial Institution?

August 17, 2017

By Samuel Pizzichillo

This article is part of a series of Mazars USA articles regarding banking regulations. Refer to the June 2017 Mazars USA financial services trends article on the Financial CHOICE Act and its implications for community banks.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) was written in response to the repercussions of the 2008 financial crisis—and to prevent (or lessen the impact) of the next one. A key part of the Dodd-Frank Act was establishing the Financial Stability Oversight Council (“FSOC”). In this article, we discuss some of the expected changes under the new administration.

A Systematic Approach to Financial Stability

Title I (Subtitle A, Section 111) of the Dodd-Frank Act established the FSOC, comprising 10 voting members: the senior officials at each of the nine federal financial regulators and an independent member with insurance expertise who is appointed by the President and confirmed by the Senate for a six-year term. The FSOC also has five nonvoting advisory members: three from various state financial regulators and the Directors of the new Federal Insurance Office and Office of Financial Research.

According to the U.S. Department of the Treasury, the FSOC was established to bring together federal and state financial regulators to look across the financial system to identify risks to financial stability, promote market discipline, and respond to emerging threats to the stability of the US financial system. One of the FSOC’s statutory purposes is to identify those risks that could arise from the material financial distress or failure, or ongoing activities, of nonbank financial companies.

Designation of Systemically Important Financial Institutions (“SIFI”)

Under Section 113 of the Dodd-Frank Act, if the FSOC determines that the material financial distress of a US nonbank financial company, or the nature, scope, size, scale, concentration, interconnectedness, or the mix of activities of the US nonbank financial company, could pose a threat to the financial stability of the United States, the FSOC has the authority to subject that company to consolidated supervision by the Federal Reserve and to enhanced prudential standards.

Section 165 of the Dodd-Frank Act set a statutory asset threshold for automatic designation of nonbank financial companies and bank holding companies as systematically important. This asset threshold is currently set at a static $50 billion. Former US Congressman and co-author of the Dodd-Frank Act, Barney Frank, has stated on numerous occasions that the $50 billion threshold was an arbitrary number that was determined during the legislative process. After Dodd-Frank had passed, he (and many others) believed that the $50 billion threshold was too low. In addition, Mr. Frank contended that the threshold should have been indexed to inflation—so that it would remain a static figure. In interviews and various events, he has suggested a better threshold might be a $125 Billion benchmark.

Recent Developments

In April 2017, President Trump issued a memorandum for the Secretary of the Treasury regarding the FSOC. In the memorandum, Trump directed the Secretary to conduct a thorough review of the FSOC determination and designation process and provide a written report addressing the FSOC’s processes, potential improvements, and recommendations for any legislative changes necessary to improve their processes.

In June 2017, the U.S. Department of Treasury released a summary of its recommendations for regulatory reform. With regard to the SIFI asset threshold, the report stated “Treasury recommends that Congress amend the $50 billion threshold under Section 165 of Dodd-Frank for the application of enhanced prudential standards to more appropriately tailor these standards to the risk profile of bank holding companies.” Although this report did not specify a new asset threshold, it telegraphed that the Treasury agreed with the commentary that many other Republicans and Democrats had expressed regarding this particular requirement of the Dodd-Frank Act.

For example, Senate Banking Committee Chairman, Mike Crapo, has also stated that he intends to review the current $50 billion statutory asset threshold, codified in Section 165 of the Dodd-Frank Act, for automatic designation of systematically important financial institutions. Crapo pledged to work with the House Financial Services Committee to “craft a more appropriate standard” for SIFI designations. He has suggested that he may explore a more qualitative approach to designating bank holding companies as SIFIs. (Refer to the June 2017 Treasury department report here for further details.)

On July 27, 2017, Secretary of the Treasury, Steven Mnuchin, provided testimony to the Committee on Financial Services on “The State of the International Financial System.” In response to a question from Congressman Jeb Hensarling regarding what the asset threshold should be, Mr. Mnuchin stated, “I think that it should be raised substantially, at least to $250 billion or $300 billion.” Additionally, Mr. Mnuchin noted that regulators should also have flexibility to look at qualitative factors in determining whether the SIFI designation is appropriate (i.e., in cases where there are “simple” financial institutions that happen to exceed the asset threshold).

Based on the above developments, and bipartisan support for the changes to the Dodd-Frank Act, we believe that a change to the SIFI asset threshold as prescribed by Section 165 should be passed relatively quickly through the legislative process. Stay tuned for future updates on the status of the Dodd-Frank Act, any changes or amendments made, and the potential effect it will have on financial institutions.


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