June 25, 2014 –Well, the Financial Stability Oversight Council’s (FSOC) hearing over its 2014 annual report is over and done with. Treasury Secretary Jack Lew testified that FSOC has an important, unprecedented job to do, it is doing that job with rigor and transparency, agencies are no longer “siloed,”and that Dodd Frank Act and its FSOC really shouldn’t be meddled with — except perhaps for technical reasons.
During the June 24 hearing, lawmakers on the House Financial Services Committee pointed out “push back” from the primary regulators on the Council, such as from the independent insurance expert Roy Woodall and from the Securities and Exchange Commission (SEC), on some of the reviews of their sectors’ companies and products.
The lawmakers complained about lack of transparency, the possible avoidance of systemically risky financial institution (SIFI) designations, international capital standards, insurance accounting principles, and how a financial company might be trapped in the label with no way out once it got its SIFI designation, the suggestion that it was not the insurance portion or the state insurance regulators that were at fault with the AIG financial meltdown in a credit default swaps blaze and a variety of problems perceived by their constituents and others with regard to the FSOC process.
After all, the Committee passed two bills last week that put the FSOC on a shorter leash, one a moratorium on SIFI designations for six months and the other opening up FSOC to the Sunshine Act and the meetings to select members of Congress and federal agency board members.
“I believe the review of the record was a robust one and it warranted the decision,” Lew stated in a reference to Prudential Financial’s SIFI designation last year, after a hearing. The decision stands and the company has not appealed it through the courts as it could have, Lew noted. The bar for winning such a court appeal is high, though, the industry has noted.
The FSOC process with Prudential was one that “reflected rigor and analytic quality and I am both comfortable with and concur with the judgment that was made,” Lew said.
Designation is “a big deal” and there is not an opportunity at all for the potential designee to directly address the final information charges that are used to justify the decision before full FSOC or have the FSOC justify the charges that made their decision, charged Rep. Gwendolynne “Gwen” Moore, D-Wis.
Lew said this was not correct. “There is extensive back and forth between a company and the FSOC ” in the stage three process, Lew said.
Other Committee members wanted to know what a company could do to fend off stage 3 review, perhaps ditching some of its risky business beforehand, so to speak. Lew said full disclosure before stage 2 might not make sense for the company because it would have to report to financial markets and might affect the company before a decision had been made.
There is a company in Stage 2 now that is an insurer or has large insurance elements, based on a review of the FSOC meeting minutes, which is believed to be Berkshire Hathaway. Bloomberg first reported Berkshire Hathaway may be under FSOC scrutiny in January.
Berkshire Hathaway sort of passes the criteria for stage 1 of a SIFI if one looks at size. But insurance, although core, is mixed with massive investments and holdings, including now a major interest in RJ Heinz and is not 85% of the holding company. A SIFI must be “predominantly engaged” in financial activities, a US nonbank SIFI “must derive 85% or more of its consolidated annual gross revenues from financial activities or have 85% or more of its consolidated assets related to activities that are financial in nature.”
Of 2013 sated balance sheet revenues, about $36.7 billion were insurance premiums earned, about $94.8 billion were in sales ad service revenues, about $34.8 billion were in revenues from railroad, utilities and energy businesses, and almost $16 billion in interest, dividend, investment income, revenue of financial and financial products and derivative gains, all totaled.
Whether it is systemically risky from a reinsurance perspective, even as it appears to be in stage 2 FSOC analysis, is another question. Warren Buffett wrote in the 2012 annual report AND the 2013 annual report that “if the insurance industry should experience a $250 billion loss from some mega-catastrophe – a loss about triple anything it has ever experienced – Berkshire as a whole would likely record a significant profit for the year because it has so many streams of earnings.”
Indeed, “All other major insurers and reinsurers would meanwhile be far in the red, with some facing insolvency,” Buffet wrote.
Lew also said once the SIFI designation is made, companies get reviewed once a year. The FSOC chair, said sometimes it will be a product and not a firm that is an issue, and urged lawmakers to let “the process run its course,” and not put FSOC in a place where “you are afraid to ask the question” about whether some company or product is indeed systemically risky.
There are many instances [under review] where there is not a risk and where FSOC does not need to take action, Lew stated. One lawmaker made it seem as if there was a “gotcha” situation with the SIFI designation. He pushed for something called “self-correctness,” something a company can do before it reaches stage 3.
“What?” asked Lew, calling FSOC’s review process of companies very transparent.
As for international accounting and/or capital standards, Lew acknowledged it might be difficult to go about creating them but it was a good thing to “eliminate some of the noise between different systems.”
Lew also told lawmakers that the goal of going in and amending Dodd -Frank Act was not a good idea on a broader basis, unless it involved a technical fix (perhaps the reworking Collins Amendment legislation to free Fed-supervised insurers fro the same minimum capital standers under Basel 3 than the banks).
Lew answered multiple inquiries into the IRS and White House handling of issues, computer crashes at the White House, cybersecurity and information-gathering initiatives and other elements of the financial and political system.