[Senate Hearing 114-58]
[From the U.S. Government Publishing Office]


                                                        S. Hrg. 114-58


               FSOC ACCOUNTABILITY: NONBANK DESIGNATIONS

=======================================================================

                                HEARING

                               BEFORE THE

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                    ONE HUNDRED FOURTEENTH CONGRESS

                             FIRST SESSION

                                   ON

      EXAMINING THE TRANSPARENCY AND ACCOUNTABILITY OF THE FSOC'S 
 SYSTEMICALLY IMPORTANT FINANCIAL INSTITUTIONS DESIGNATION PROCESS FOR 
                      NONBANK FINANCIAL COMPANIES

                               __________

                             MARCH 25, 2015

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs
                                
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            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                  RICHARD C. SHELBY, Alabama, Chairman

MICHAEL CRAPO, Idaho                 SHERROD BROWN, Ohio
BOB CORKER, Tennessee                JACK REED, Rhode Island
DAVID VITTER, Louisiana              CHARLES E. SCHUMER, New York
PATRICK J. TOOMEY, Pennsylvania      ROBERT MENENDEZ, New Jersey
MARK KIRK, Illinois                  JON TESTER, Montana
DEAN HELLER, Nevada                  MARK R. WARNER, Virginia
TIM SCOTT, South Carolina            JEFF MERKLEY, Oregon
BEN SASSE, Nebraska                  ELIZABETH WARREN, Massachusetts
TOM COTTON, Arkansas                 HEIDI HEITKAMP, North Dakota
MIKE ROUNDS, South Dakota            JOE DONNELLY, Indiana
JERRY MORAN, Kansas

           William D. Duhnke III, Staff Director and Counsel

                 Mark Powden, Democratic Staff Director

                    Jelena McWilliams, Chief Counsel

                      Elad Roisman, Senior Counsel

            Laura Swanson, Democratic Deputy Staff Director

                Graham Steele, Democratic Chief Counsel

                       Dawn Ratliff, Chief Clerk

                      Troy Cornell, Hearing Clerk

                      Shelvin Simmons, IT Director

                          Jim Crowell, Editor

                                  (ii)


                            C O N T E N T S

                              ----------                              

                       WEDNESDAY, MARCH 25, 2015

                                                                   Page

Opening statement of Chairman Shelby.............................     1

Opening statements, comments, or prepared statements of:
    Senator Brown................................................     2

                               WITNESSES

Jacob J. Lew, Secretary, Department of the Treasury..............     3
    Prepared statement...........................................    43
    Responses to written questions of:
        Senator Vitter...........................................    84
        Senator Toomey...........................................    84
Paul Schott Stevens, President and Chief Executive Officer, 
  Investment Company Institute...................................    26
    Prepared statement...........................................    45
    Responses to written questions of:
        Chairman Shelby..........................................    87
Douglas Holtz-Eakin, President, American Action Forum............    28
    Prepared statement...........................................    55
    Responses to written questions of:
        Chairman Shelby..........................................    87
        Senator Vitter...........................................    89
Dennis M. Kelleher, President and Chief Executive Officer, Better 
  Markets, Inc...................................................    29
    Prepared statement...........................................    61
    Responses to written questions of:
        Chairman Shelby..........................................    89
Gary E. Hughes, Executive Vice President and General Counsel, 
  American Council of Life Insurers..............................    31
    Prepared statement...........................................    78

              Additional Material Supplied for the Record

Letter submitted by the National Association of Insurance 
  Commissioners..................................................    91
Statement submitted by Peter J. Wallison, Arthur F. Burns Fellow 
  in Financial Policy Studies at the American Enterprise 
  Institute......................................................    94
Statement submitted by Aaron Klein, Director of the Bipartisan 
  Policy Center's Financial Regulatory Reform Initiative.........   100
Report submitted by the Bipartisan Policy Center.................   106
Letter of dissent submitted by Benjamin M. Lawsky, Superintendent 
  of Financial Services, New York State Department of Financial 
  Services.......................................................   122
Roy Woodall and John Huff dissents on Prudential.................   127
Roy Woodall and Adam Hamm dissents on MetLife....................   140
Statement of the National Association of Mutual Insurance 
  Companies......................................................   153
Statement submitted by Stephen D. Steinour, Chairman, President, 
  and CEO, Huntington Bancshares, Inc............................   159

                                 (iii)

 
               FSOC ACCOUNTABILITY: NONBANK DESIGNATIONS

                              ----------                              


                       WEDNESDAY, MARCH 25, 2015

                                       U.S. Senate,
          Committee on Banking, Housing, and Urban Affairs,
                                                    Washington, DC.
    The Committee met at 2:01 p.m., in room SD-538, Dirksen 
Senate Office Building, Hon. Richard Shelby, Chairman of the 
Committee, presiding.

        OPENING STATEMENT OF CHAIRMAN RICHARD C. SHELBY

    Chairman Shelby. The Committee will come to order.
    Today, the Committee will examine how the Financial 
Stability Oversight Council, or FSOC, designates certain 
nonbank companies as ``systemically important.'' First we will 
hear testimony from Treasury Secretary Jack Lew, who chairs the 
FSOC. We will then turn to a panel of experts.
    Dodd-Frank established FSOC to identify and mitigate risk 
to the financial stability of the United States that may arise 
from the material financial distress of bank holding companies 
or nonbank financial companies. There is no precedent in our 
regulatory regime for a Council like this. Further, when you 
give such a body extraordinary powers, those powers must be 
exercised with requisite care.
    The Council has the authority to designate a nonbank 
institution as ``systemically important'' and subject it to 
enhanced prudential standards and regulation by the Federal 
Reserve. This new layer of regulation does not come without a 
cost to our economy. Enhanced prudential requirements impose 
significant costs on banks and nonbank entities.
    Because much rests on an institution's designation, I 
believe that FSOC has a heightened duty to be as transparent 
and judicious as possible. However, FSOC's previous 
designations have been criticized for lacking transparency, 
failing to produce clear indicators to guide others, and merely 
following the international regulatory bodies. If such 
criticism has merit, Congress should be concerned because this 
is not how a regulatory regime ought to function.
    Our regulators should be transparent, issue clear guidance, 
and be free from the undue influence of international bodies. 
The Financial Stability Board, or FSB, is one such 
international body that monitors and makes recommendations 
about the global financial system. The FSB, however, is not a 
U.S. regulator, and it is not accountable to Congress or to the 
American people.
    Nonetheless, two out of the three insurance companies that 
FSOC has designated as ``systemically important'' were first 
designated by the FSB. I believe this creates a regulatory 
conflict because 3 of the 10 FSOC voting members--Treasury, the 
Fed, and the SEC--first engage at the FSB level to determine if 
a U.S. company is systemically important.
    When they return to the U.S. and supposedly engage with the 
rest of the Council to consider whether a company is 
systemically important, they have for all intents and purposes 
already, I believe, made up their minds. I think we must ask if 
the influence that the FSB seems to exert over the FSOC's 
process is real and whether it is appropriate. FSOC designation 
process has little merit if it is merely used to justify an 
international organization's determination, rather than engage 
in an independent analysis.
    Moreover, given that the designation is a determination of 
risk to the U.S. financial system, I think it should ensure 
that the steps to mitigate that risk are identified and 
articulated before a company is designated.
    While it has announced a series of steps aimed at 
increasing transparency, most critics do not believe that such 
efforts sufficiently address the concerns that have been 
raised. We must, therefore, ask the following questions:
    First, has FSOC clearly disclosed what factors make a 
company systemically important and the relative weight it has 
assigned to those factors?
    Second, is it clear what needs to occur to reduce the 
systemic risk of such a company? In other words, does a company 
know how to avoid designation to know how to be undesignated?
    Third, is the designation process sufficiently open, 
objective, data-driven, and free from the influence of outside 
organizations? Today's panels will hopefully shed some light on 
these questions as the Committee considers whether changes to 
this process need to be made.
    At this point, without objection, I would like to enter 
into the record statements from the National Association of 
Insurance Commissioners; Mr. Peter Wallison; the Bipartisan 
Policy Center, including its report entitled ``FSOC Reform: An 
Overview of Recent Proposals''; Mr. Benjamin Lawsky, 
Superintendent of New York State Department of Financial 
Services, regarding the MetLife designation; dissents of Mr. 
Roy Woodall, independent member having insurance expertise on 
that; Mr. John Huff and Mr. Adam Hamm, State Insurance 
Commissioners representatives regarding the MetLife and 
Prudential designations.
    Today's hearing will be compromised of two panels. The 
first panel will be the Treasury Secretary, Jack Lew, who also 
chairs the FSOC.
    Mr. Secretary, at this point we want to welcome you to the 
Committee. You are no stranger here. Your written testimony 
will be made part of the record, and we look forward to having 
a chance to talk with you.
    Senator Brown has joined us. Any statement you want to 
make?

               STATEMENT OF SENATOR SHERROD BROWN

    Senator Brown. I am sorry, Mr. Chairman. I did not hear 
your opening statement, but it is good to be here. Thank you so 
much.
    Secretary Lew, welcome, and to the second panel, thank you 
also for joining us.
    As one of our witnesses on Tuesday pointed out, regulators 
did not exactly cover themselves in glory leading up to the 
2008 financial crisis. Congress certainly played a role as 
well. We had a patchwork financial framework that allowed 
financial institutions to evade oversight and often pitted 
regulators in a race to the bottom. Nonbanks like AIG and Bear 
Stearns built up risks by moving activities to unregulated 
space. American taxpayers paid the price in lost homes and jobs 
and billions of bailout dollars. My wife and live in a zip code 
in Cleveland, Ohio, that had the highest rate of foreclosures 
of any zip code in the country several years ago.
    Secretary Lew's predecessor, Secretary Geithner, proposed 
the FSOC to fill gaps in the regulatory framework and create a 
forum for agencies to resolve issues. The idea had the support 
of appointees of President Bush and of President Obama.
    FSOC is working. If anything, it is working too slowly. 
Since FSOC's creation 5 years ago, it has only designated four 
nonbanks as ``systemically important.'' By my math, that is 
less than one a year. They have designated eight systemically 
important financial market utilities without any objections 
that I am aware of.
    This is a critical responsibility given the increased 
importance of clearinghouses under the derivatives clearing 
mandates in Dodd-Frank. FSOC provided a forum to force reforms 
to the structure of some money market mutual funds. It has been 
responsive to consumer and industry groups in their concerns 
about transparency. We hear a lot about transparency and 
accountability because they are concepts that no one should 
oppose.
    But I am concerned by proposals that would tie the FSOC's 
hands, making it too burdensome for FSOC to designate any 
institutions, and taking us back to a time when no entity was 
responsible for watching over the entire financial system. That 
is why we welcome Secretary Lew to discuss that. I would look 
forward to hearing about FSOC's work identifying and addressing 
risks, and I appreciate the Chair calling this hearing.
    Thank you.
    Chairman Shelby. Mr. Secretary, welcome again to the 
Committee.

    STATEMENT OF JACOB J. LEW, SECRETARY, DEPARTMENT OF THE 
                            TREASURY

    Secretary Lew. Thank you very much, Chairman Shelby, 
Ranking Member Brown, Members of the Committee. I appreciate 
being here and look forward to my testimony today.
    As everyone here today remembers well, the financial crisis 
caused enormous hardship for millions of individuals and 
families and communities throughout the country, and it 
revealed a number of central shortcomings in our financial 
regulatory framework. We saw the consequences of lax regulation 
and supervision at financial firms like Lehman Brothers and 
AIG, names that are now written into history as companies whose 
failure or near failure contributed to the near collapse of our 
financial system.
    At the time, the regulatory structure was ill equipped to 
oversee these large, complex, and interconnected financial 
companies. This outdated structure also meant that regulators 
had limited tools to protect the financial system from the 
failure of these companies.
    As a result, the American taxpayer had to step in with 
unprecedented actions to stop the financial system from 
collapsing. Congress responded with a historic and 
comprehensive set of financial reforms: the Dodd-Frank Wall 
Street Reform and Consumer Protection Act, which put in place 
critical new consumer protections.
    Equally important, this reform guarded against future 
crises while establishing as a matter of law that taxpayers 
never again be put at risk for the failure of a financial 
institution.
    To lead the effort to better protect taxpayers, Wall Street 
reform created the Financial Stability Oversight Council, for 
the first time bringing together in one body the entire 
financial regulatory community to identify risks in the 
financial system and work collaboratively to respond to 
potential threats to financial stability. Over the past 5 
years, FSOC has demonstrated sustained commitment to fulfilling 
this critical statutory mission in a transparent and 
accountable way.
    The work has not been easy. We built a new organization and 
developed strong working relationships among FSOC members and 
their staffs to foster candid discussions, the exchange of 
confidential, market-sensitive information, and to encourage 
tough questions that must be addressed to make our financial 
system safer.
    FSOC now convenes regularly to monitor market developments, 
to consider a wide range of potential risks to financial 
stability, and, when necessary, to take action to protect the 
American people against potential threats to the financial 
system.
    Our approach from day one has been data-driven and 
deliberative, while providing the public with as much 
transparency as possible regarding our actions and views. We 
have published four annual reports that describe our past work 
and future priorities. Regularly we have opened FSOC meetings 
to the public. We have published minutes of all of our meetings 
that include a record of every vote the FSOC has ever taken, 
and solicited public input on both our processes and areas of 
potential risk.
    I and the other members nonetheless recognize that FSOC is 
a young organization that should be open to changes in its 
procedures when good ideas are raised by stakeholders. Just 
over the last year alone, FSOC has enhanced its transparency 
policy, strengthened its internal governance, solicited public 
comment on potential risks from asset management products and 
activities, and adopted refinements to its nonbank financial 
company designation process.
    I believe that our adoption of these changes to the nonbank 
financial company designation process represents the right way 
for FSOC to refine its processes without compromising its 
fundamental ability to conduct its work.
    After extensive stakeholder engagement, FSOC adopted 
supplemental procedures last month under which companies will 
know early in the process where they stand, with earlier 
opportunities to provide input. The changes will also provide 
the public with additional information about the process while 
still allowing FSOC to meet its obligation to protect 
sensitive, nonpublic materials.
    And, finally, FSOC will provide companies with a clearer 
and more robust annual review process. This will open the door 
to more engagement with FSOC following a designation to make 
sure there is ample opportunity to discuss and address any 
specific issues that a company wants to put before the Council. 
These changes strengthen the FSOC process while also addressing 
many of the suggestions made from stakeholders.
    On a related note, I am pleased to report to this Committee 
that the vast majority of key reforms contained in Wall Street 
reform are now in place due to the hard work and diligence of 
the independent regulatory agencies. Today, because of the 
passage of Wall Street reform nearly 5 years ago, the financial 
system is more robust and resilient than it was before the 
crisis. We have reduced overall leverage in the banking system. 
Banks have added over $500 billion of capital since the crisis 
to serve as a buffer for absorbing unexpected losses. And the 
recently completed annual stress tests cover a wide swath of 
institutions, illustrating that our largest banks have 
sufficient capital to withstand adverse shock scenarios and 
continue to lend to businesses.
    The true test of reform should not be whether it prevents 
firms from taking risk or making mistakes, but whether it 
shapes a financial system strong and resilient enough to 
support long-term economic growth while remaining innovation 
and dynamic. In working toward this end, Treasury and the 
independent regulators continue to carefully monitor the 
effects of new reforms. Both the law and the implementing 
regulations make clear that there is no one-size-fits-all 
approach and that requirements must be calibrated to the 
different size, complexity, and risk profile of institutions.
    Just as the business environment is constantly evolving, 
the regulatory community must be flexible enough to keep up 
with the new challenges, including making adjustments where 
necessary and remaining vigilant to new emerging threats.
    Promoting financial stability and protecting the American 
public from the next financial crisis should be an objective 
shared by the Administration, regulators, the financial sector, 
and Members of Congress regardless of party or point of view.
    I look forward to working with you to make certain our 
financial system becomes even more resilient and stable, and I 
look forward to answering your questions.
    Chairman Shelby. Thank you, Mr. Secretary.
    Mr. Secretary, in Stage 2 of the designation process, FSOC 
applies a six-category framework in its analysis of a nonbank 
financial company. Commentators have noted that the public has 
no clear understanding of the relative value or weight of these 
factors.
    What is FSOC doing to provide both the public and the 
designated companies with a better understanding of the 
relative weight of each factor? And what makes a designation 
more likely?
    Secretary Lew. Mr. Chairman, as you know, the process that 
FSOC uses is a very transparent one. It has been published. The 
criteria are out there. And each one is a separate review.
    I think it is a mistake to think about a one-size-fits-all 
approach because no two large, complex financial institutions 
will be exactly the same. So the relative weight of factors 
will be different depending on what the composition of a firm 
and the nature of the risk is.
    In each case, we apply the same review, which is a 
deliberative review. It involves details analysis, much back-
and-forth between the firm and FSOC, and in the end hundreds of 
pages of analysis published and shared with the company. And we 
analyze basically three transmission channels for risk in each 
case, and we go through each of those, and if there is a 
determination that there is systemic risk, as the statute 
requires, we make a designation. But----
    Chairman Shelby. Do you go through those risks with who you 
are thinking about designating? Or do you just do this 
internally?
    Secretary Lew. Well, there is a lot of back-and-forth 
between the firm and the FSOC, and based on the new procedures 
we have put in place, it will be somewhat more formal. But I 
want to be clear: Even before the rules change, there was a lot 
of back-and-forth between the firms and FSOC already. So it is 
not that there was not thousands of pages of data and analysis 
provided.
    Chairman Shelby. It is my understanding that multiple 
members of FSOC have submitted additional recommendations for 
improving transparency, which you mentioned, and 
accountability. What additional recommendations were submitted 
by members but not incorporated, in other words, you considered 
and did not incorporate? And what additional recommendations 
will FSOC adopt next and when?
    Secretary Lew. Well, Senator----
    Chairman Shelby. Is that too soon to tell?
    Secretary Lew. I was going to say, over the past year we 
have made two rounds of changes, which I think represent a 
consensus of the changes that we needed to make and actually 
reflect the views expressed by many Members of Congress and 
parties, stakeholders as well.
    We are going to continue to look at ideas that come forward 
and have not in any way ruled out taking further action. But I 
think that we ought to let the changes that we have made settle 
in so that the parties can deal with the system as it now 
stands. But we welcome an ongoing discussion, and as I think 
the actions show, we have made changes when they seem 
appropriate.
    Chairman Shelby. Mr. Secretary, it would seem to me that in 
order to properly assess if FSOC's designations are, in fact, 
reducing threats to our financial system, the FSOC would need 
to know what regulations and standards the Federal Reserve will 
impose on the designated companies. In other words, how can 
FSOC designate a company if the Fed has yet to promulgate rules 
to regulate such a company? Do you follow me?
    Secretary Lew. I do follow you, but, Mr. Chairman, as the 
statute requires, FSOC has to make a determination as to 
whether or not there is systemic risk. The task of supervisory 
responsibility goes to the Fed. The Fed is in the process of 
implementing those rules, and obviously Congress has now 
enacted some legislation that gives them greater flexibility to 
adopt rules that distinguish between, say, insurance companies 
and traditional financial institutions.
    So I think that the process is moving sequentially, and as 
the firms have to comply, that process will unfold in an 
orderly way. But it is the Fed's responsibility going forward.
    Chairman Shelby. My follow-up question here would be: How 
can FSOC determine that it is reducing systemic risk when it 
has, one, neither identified the specific activities that 
create systemic risk or, two, has the knowledge of what 
regulatory steps would be taken to mitigate such risk?
    Secretary Lew. Well, the task of going through the analysis 
to determine whether there is a systemic risk is the 
responsibility of FSOC. By designating the firm, the firm then 
is subject to supervision under the statute by the Fed. I think 
that process is one that makes our system safer. I have 
confidence that the Fed will take that responsibility very 
seriously.
    Chairman Shelby. But has the Fed done that yet?
    Secretary Lew. They are in the process of working it 
through.
    Chairman Shelby. So they have not done it yet.
    Secretary Lew. No firm has had to go through the process of 
actually submitting all of the documentation through the 
process. They have been designated, and now there is a time 
where the Fed will put in place the rules that they comply 
with, and they will then comply.
    So I think some of this is a bit--it is a young 
organization. We have just designated the firms, and it is 
happening in proper order and due course.
    Chairman Shelby. Are you building the cart before you buy a 
horse here?
    Secretary Lew. No, I do not think so, Senator. I think that 
the task that was given to FSOC, which no entity in the Federal 
Government had prior to the creation of FSOC, was to look 
across the spectrum: Where is the risk of the future possibly 
going to come from? The designation process was given to FSOC. 
The actual regulatory supervision is not--FSOC does not do that 
directly. So I think it is working in the right order, and I am 
not sure how to take the cart and the horse metaphor, but you 
need a cart and you need a horse, and----
    Chairman Shelby. Well, what do you need first?
    Secretary Lew. You need both.
    Chairman Shelby. Yeah, but a cart without the horse is not 
going very far, is it?
    Secretary Lew. I think I have a lot of confidence that the 
Fed has a lot of experience with supervisory matters, and they 
are going through this in an orderly way to make sure that it 
is done in an appropriate way.
    Chairman Shelby. Senator Brown.
    Senator Brown. Thanks, Mr. Chairman.
    Mr. Secretary, you know this Committee has been discussing 
and improving regulation for credit unions and community banks. 
I have said that we on this side will support ideas that have 
broad bipartisan consensus. One issue as an example is the 
written privacy notice requirement if a policy has been 
changed.
    Today the House Financial Services Committee is marking up 
a set of proposals. Tell us what you think about the proposals 
they are marking up, particularly those that would roll back 
some of Dodd-Frank's consumer protections.
    Secretary Lew. You know, Senator, I think that if you look 
at the financial crisis and where the kind of root cause of the 
financial crisis was, a lot of it started with individuals 
entering into mortgages that were being sold to them on terms 
that could not be understood by a normal human being getting a 
mortgage. And then the financial crisis hit, and all these 
mortgages were exploding.
    We have created a set of protections for consumers now 
which I think will make it almost impossible for that to happen 
again. We have much clearer documentation. We have much simpler 
documentation. We have more disclosure. We have prohibitions on 
some of the most dangerous practices, you know, things that--
the low-doc, no-doc loans and, you know, balloon payments that 
you could not really see that were in the documents.
    And I think if you take away those kinds of consumer 
protections, you are exposing individuals to a great deal of 
risk, which is one problem. You are also reopening the 
possibility of a broader set of systemic risks.
    So I think that these are important things that we have 
accomplished through Dodd-Frank and the implementation of Dodd-
Frank, and, you know, the Consumer Financial Protection agency 
has done, I think, a tremendous job taking these issues and 
putting them in place in a way where actually, as you talk to 
people in the industry as well as consumer advocates, there is 
a lot of respect for the way a lot of that was done. And I 
think, you know, rolling that back would be a mistake.
    We have made clear that any amendments to Dodd-Frank that 
undermine the core provisions of Dodd-Frank are just not going 
to be acceptable, and I certainly hope that as the Congress 
proceeds, it is with a spirit for strengthening financial 
protection, not weakening it.
    Senator Brown. Thank you, and that is why I am hopeful in 
discussions on this Committee that we come together in a way 
that there really is bipartisan consensus not to score 
political points but to really fix some of the more minor parts 
of Dodd-Frank on which we have agreement. So thank you for 
coming today.
    Let me talk about yesterday and some other discussions we 
have had. The Committee has talked about the $50 billion 
threshold for the Fed's enhanced prudential standards for bank 
holding companies. What have you heard from industry? Do you 
believe the agencies can tailor these regulations to address 
these concerns? Do you believe that we should?
    Secretary Lew. Senator, I believe that the law was written 
with a great deal of flexibility, and it has been implemented 
with a great deal of flexibility. It is not a one-size-fits-all 
approach. I think that $200 million financial institutions are 
different than $50 billion institutions, which are different 
from $2 trillion institutions.
    You know, I think if you look at the work that the 
regulators are doing, they are open to the ideas of using that 
flexibility to provide the kind of nuanced approach that the 
law envisioned.
    I think it is premature to legislate in this area because I 
think there still is regulatory flexibility, and the regulators 
have shown a desire and an interest in using that flexibility.
    I would also say that we have to be careful to assume that 
there is only risk above a certain size. We have seen financial 
crises come from large institutions, and we have seen them come 
from smaller institutions. And we should not be overregulating 
small institutions that do not present risk. But if there are 
issues of risk, we ought to not just say that because an 
institution is X dollars that risk is not there.
    Senator Brown. Thank you. One final issue. Last year, we 
discussed concerns that I and a number on this Committee had 
about financial deregulation and disarmament, if you will, 
through international agreements. I am especially worried that 
including financial services in the TTIP, the Transatlantic 
Trade and Investment Partnership, could undermine U.S. 
financial regulations. Last year and in your testimony before 
the House Committee last week, you stood firm in not including 
financial services in TTIP. I urge you to continue that 
advocacy in international negotiations to preserve our 
regulators' authority to do whatever is necessary to make sure 
that this financial system, which you have worked so hard to 
make safer and sounder, will--you will be consistent in that.
    Secretary Lew. Senator, I can assure you that I have 
reiterated that view with the new leadership in Europe. They 
have changed over who is responsible for this. I met with Lord 
Hill recently. So I have reiterated our very strong view that 
prudential regulation ought not to be subject to review in a 
trade context.
    Chairman Shelby. Senator Corker.
    Secretary Lew. On the other hand, we do believe market 
access is an appropriate issue to be addressed in the trade 
context.
    Chairman Shelby. Senator Corker.
    Senator Corker. Thank you, Mr. Chairman. I appreciate it. 
Mr. Secretary, thank you for being here and for your service.
    Let me ask you, would you consider Freddie and Fannie or 
GSEs to be systemically important?
    Secretary Lew. Senator, I think that there is no doubt but 
that when you look at the financial crisis in 2007-08, they 
were----
    Senator Corker. A ``yes'' will work.
    Secretary Lew. The question of using a label until it has 
been reviewed is one I am going to avoid.
    Senator Corker. I do not mean definitionally, but it is 
certainly systemically very important. Is that correct?
    Secretary Lew. I think there is no doubt that the GSEs were 
at the heart of the last financial crisis.
    Senator Corker. And at present, we are in essence 
controlling 100 percent of them. We are guaranteeing every 
single security, our Federal Government is, that they offer. Is 
that correct?
    Secretary Lew. Well, as long as they are in 
conservatorship, yes.
    Senator Corker. And as I understand it, the administration 
has no plans whatsoever to sell off our preferred shares and 
IPO them. You are waiting for Congress to act. Is that----
    Secretary Lew. Well, Senator, as you know, we worked 
closely, as you and others were developing legislative 
proposals in this area. We believe it is important for there to 
be legislation, and GSE reform can only really happen properly 
through legislation. We are using the tools we have to manage 
effectively in the interim, but I think taxpayers are exposed 
to the risk still.
    Senator Corker. A hundred percent.
    Secretary Lew. And GSE reform is the answer to it.
    Senator Corker. And every single security they issue, the 
taxpayer is on the line for, right? Because we are standing 
behind what they are doing. They could not sell a security 
without the eagle stamp. Is that correct?
    Secretary Lew. Now, I will say that they are under 
heightened supervision compared to before the financial crisis, 
so the practices are different, and a lot of the laws that we 
have put in place and the FHFA oversight is meaningful. But 
fundamentally, as long as they are in conservatorship, there is 
a guarantee.
    Senator Corker. So we certainly have an explicit, explicit, 
explicit guarantee because we as taxpayers are guaranteeing 
everything they are doing.
    Secretary Lew. And I know that I do not need to tell you 
this because you put so much time and effort into the issue of 
housing finance reform, but the process of defining what 
exposure the taxpayer has would limit and contain that risk in 
a way that it is not without legislation.
    Senator Corker. So, in essence--you sure are taking a lot 
of my time with your answers. In essence----
    Secretary Lew. I was trying to compliment you.
    Senator Corker. Thank you. I do not need it.
    [Laughter.]
    Senator Corker. So, you know, in essence, while we do not 
act, we continue to have a huge liability. And for those who 
are worried about guarantees, we have the maximum guarantee we 
could possibly have right now because we are guaranteeing every 
single thing that they do. And we need to move ahead to deal 
with that, or we keep this liability on our books. So I 
appreciate that.
    Let me ask you another question. Forget yourself. The 
FSOC--I know we all debated this FSOC being set up, and I know 
that you are getting some questions from the Chairman and 
others, questions that I have also about de-designation and all 
of those kind of things.
    Do you think it would be better, as you sit where you are--
you are part of an administration, have not been exactly high 
levels of cooperation between the branches. Would it be better 
if we had someone who was not a political appointee as head of 
FSOC, somebody that truly was more independent, and when that 
calls it over time--forget yourself. I am sure you believe you 
are 100 percent independent. But in the future, would it make 
any sense for us to consider someone other than the Treasury 
Secretary being the head of FSOC? And keep it fairly short, if 
you will.
    Secretary Lew. If you look back before FSOC, there was no 
mechanism to have the kind of conversations we have now. You 
look at how much progress we have made in a fairly short period 
of time, and you look how central the players are, including 
the Treasury Secretary, to this process, I think bringing 
somebody independent in to do it is not necessarily going to 
lead to a better, more cohesive result.
    Coordinating independent regulators is going to be a 
challenge for whoever chairs the Commission because they each 
have an independent charter and they each have independent 
responsibilities. And, you know, I may bring my own unique 
perspective to this, having been in a coordinating role in 
other jobs. I think it behooves whoever is Chair, whatever 
their position is, to be respectful of that independence, but 
also driving toward a common understanding of where risks are 
and what actions need to be taken. And I am actually pretty 
proud of the work that FSOC has done in a short period of time. 
So I would not be in a rush to make a change like that.
    Senator Corker. If I could just say one last thing, Mr. 
Chairman, I believe that America should honor its commitments, 
and I think when we do not do that, we undermine ourselves. And 
as you know, I have supported us carrying out the IMF reforms 
that actually began under George Bush that you all have 
followed through with--or actually have not, and that is the 
point I want to make. I support those. We have tried to work 
with the administration to make those happen and just have 
found it difficult to get the administration to make one phone 
call in some cases to work out something where Republicans and 
Democrats could agree with IMF reforms.
    I got a letter from you in the last couple days where you 
said--insinuated that we could do away with the NAB, the line 
of credit, if we could actually put our quota in place, and I 
think that would be very helpful if you all would proffer that 
as a real proposal. But I just have to tell you, as I watched 
the Asian--the AIIB being formed--I know they have been looking 
at it for a decade. I got it. But I just think this 
administration's inability--inability--to competently move 
ahead and put the Senate and the House in a position to put 
those reforms in place, because you do not really pursue it 
aggressively, you do not do the things that you need to do to 
sell it, I think it damages our country. And I think we are 
seeing it play out right now, and I could not be more 
disappointed. And even though I agree with you on the reforms, 
I just do not think you all are carrying out your 
responsibilities appropriately.
    Secretary Lew. Mr. Chairman, may I just respond briefly?
    Chairman Shelby. Go ahead.
    Secretary Lew. Senator, I know that you and I agree on the 
critical importance of the IMF reforms being approved. I 
obviously do not agree with your characterization of the 
administration's efforts. I think we have been pursuing this 
zealously. It should have happened a long time ago. It should 
never have been tied to unrelated extraneous political issues. 
And I think there is a growing understanding now with the Asian 
Infrastructure Bank's formation of how much it weakens the 
United States that we have been unable to ratify the IMF 
reforms, which do not actually commit new resources; it just 
shifts resources from the New Arrangement to Borrow into the 
capital fund.
    I remain optimistic that we can get it done. We are 
continuing to press forward. We will continue to press forward. 
And I think I have made every phone call anyone has even 
thought about, much less suggested. You know, it has not been 
for lack of contact. It has not happened yet. It needs to 
happen, and it needs to happen in a bipartisan way because it 
is in our country's interest. It hurts the United States every 
day that it is not ratified.
    Chairman Shelby. Senator Warren.
    Senator Warren. Thank you, Mr. Chairman. Thank you for 
being here, Mr. Secretary.
    You know, a company does not need to be a bank to pose a 
serious threat to the financial system and to the economy. AIG, 
Lehman Brothers, Bear Stearns--we learned that lesson the hard 
way during the financial crisis. And that is why Dodd-Frank 
gives the Financial Stability Oversight Council the authority 
to designate nonbanks as ``systemically important'' and subject 
them to extra scrutiny by the Federal Reserve.
    Now, the whole point of the FSOC designation process is to 
make the financial system safer, and one way it does that is by 
imposing higher capital standards and greater oversight on 
systemically important companies.
    But the other way it can make the system safer is by 
providing an incentive for designated companies to change their 
structure or their operations so they can reduce the risks that 
they pose and change their designation and the amount of 
oversight that they require.
    In many ways, the second outcome is even more desirable 
than the first because it would allow businesses to find the 
most efficient way of reducing the risks that they pose to the 
economy.
    Secretary Lew, do you think the FSOC designation process 
currently provides companies with the information and the 
opportunities they need to make changes in their business 
activities and potentially reverse the designation as 
systemically important?
    Secretary Lew. Senator, I do. I think if you look at the 
designation process, there is a huge amount of information that 
goes back-and-forth between the companies and FSOC, and then 
there are several hundred pages of analysis which shows where 
the risk transmission is and what it is related to.
    For most of these firms--let us leave the market utilities 
to the side; they are kind of a special case. But for the 
complex financial firms that have been subject to designation, 
they have inherently complex business structures. So it is not 
necessarily an easy thing to unpack what it would take for them 
to become--to de-list. But they know--they know what it is that 
creates the basis for the designation, and----
    Senator Warren. Good. And----
    Secretary Lew. ----every year they are reviewed, so it is 
not like you are designated and we never look again. It is an 
annual review.
    Senator Warren. Well, let me just ask then about how 
collaborative the process is. Can companies meet periodically 
with FSOC staff? Can they appear before the full Council to 
discuss possible approaches to deleveraging their risk?
    Secretary Lew. Well, to date, the appearances before the 
Council have been at an appeals stage after the designation was 
initially put before the Council. So it is not an ongoing 
contact. There is ongoing contact between the firms and the 
FSOC staff, which I think is appropriate.
    Senator Warren. All right. And I just want to be clear on 
this, because I want to make sure nobody has any doubts about 
how this works. Is FSOC willing to reverse the designation of a 
company if it finds that the company no longer poses systemic 
risk?
    Secretary Lew. That is what the annual review process is 
all about. Every year you have to make the determination again.
    Senator Warren. So use the magic word here: Yes?
    Secretary Lew. Yes.
    Senator Warren. Yes. Good, good. I know that Dodd-Frank 
also permits FSOC to designate specific activities that 
companies engage in rather than specific companies as posing 
significant risks. Is FSOC open to the possibility of reversing 
designation of a company as high risk and instead designating 
only certain activities within the company that the company 
engages in as risky?
    Secretary Lew. Well, I am going to have to say that I am 
not sure I understand what the process that you are describing 
is. The designation authority applies to the firm. When we are 
doing an activity review----
    Senator Warren. Well, let me just make sure that we are on 
the same wavelength on the question. Dodd-Frank also permits 
not just the designation of a whole firm, but not designating 
the firm and focusing on a specific portion, a specific 
activity that the firm engages in.
    Secretary Lew. So in our review, for example, of asset 
managers, we put out a public notice where we ask for comment 
on our inquiry into an activity review of those firms. We have 
not yet completed that, so I do not know what form an action 
would take, if there were any action required. I am also not 
sure it would be FSOC as opposed to regulatory agency action 
that would flow from that.
    So I think it is hard to answer the question in a simple 
yes-or-no way. We have gone through the designation process for 
firms. We have never designated an activity that I am familiar 
with.
    Senator Warren. All right. It is simply a reminder. Dodd-
Frank gives you a lot of flexibility in these circumstances. 
And if you need it, I just want to be sure that you are there 
to use it when appropriate.
    Secretary Lew. And we think it is very necessary to be 
looking at activities, which is why we have opened up in the 
asset manager area the activity review, because, frankly, 
starting by looking at firms, it seemed like we might miss 
where the real risk was if we did not look at the activities.
    Senator Warren. So the FSOC designation process is 
critically important to ensuring the safety of our financial 
system and guarding against another crisis. I think it is 
important to recognize that designation can achieve that out by 
encouraging companies to change their structure or the 
operations. I am glad FSOC is committed to working with 
companies to make sure that they can accomplish that 
alternative results. Thank you, Mr. Secretary.
    Chairman Shelby. Senator Cotton.
    Senator Cotton. Thank you, Mr. Secretary, for your time 
today. I want to follow up on Senator Warren's line of 
questioning about the FSOC designation process. You said that 
FSOC can reverse a decision at its--I think you said the annual 
review.
    Secretary Lew. Each of the designations is subject to an 
annual review after designation, so we have to officially act 
on that annual review.
    Senator Cotton. And you have not done that yet, have you?
    Secretary Lew. Well, we have on a number, but it is 
obviously very early in the process to be going--we have only 
had the first annual review.
    Senator Cotton. So rather than the FSOC changing, 
modifying, or reversing a decision, what if the designated 
institution simply disagrees? What recourse does it have?
    Secretary Lew. Well, institutions have multiple points of 
recourse. At the point of designation, they can appeal to the 
Council itself, and they have recourse to the courts if they 
continue to want to pursue their appeals.
    Senator Cotton. So as with any traditional agency decision, 
an institution designated as systemically important could just 
use the Administrative Procedures Act to appeal to a Federal 
court?
    Secretary Lew. They can go to court to challenge the 
determination, yes.
    Senator Cotton. Has that happened yet?
    Secretary Lew. There is one pending appeal.
    Senator Cotton. OK. Thank you.
    The Financial Stability Board, are its decisions binding on 
the United States?
    Secretary Lew. The Financial Stability Board is a 
deliberative body that sets goals that countries aspire to, but 
it does not make policy for any of the constituent countries. 
Each of us has our national authorities that make decisions for 
the companies that we are responsible for in the economy that 
we are in.
    So we make at FSOC the decision to designate a firm. The 
FSB cannot designate a firm for us.
    Senator Cotton. Is there an instance in which FSOC has 
deviated from the FSB's statements or policy----
    Secretary Lew. I would have to go back and check. 
Obviously, there is a limited amount of history here because 
both are relatively new organizations. But I would be happy to 
get back to you.
    Senator Cotton. OK. So the FSOC has issued a notice asking 
for comments about whether asset management activities can pose 
systemic risk. I believe that closes out today.
    Secretary Lew. I believe today is the deadline.
    Senator Cotton. The FSB has moved forward, though, with a 
proposal that seems to make a number of assumptions that SIFI 
designation of asset managers or funds is a virtual foregone 
conclusion. Would you explain, you know, the FSB's announcement 
and, given the tendency of the FSOC to follow FSB, whether or 
not this is already a foregone conclusion?
    Secretary Lew. No. I mean, I can tell you that there is no 
foregone conclusion of what the action at FSOC will be. I think 
if you look at the course that we have taken as we have looked 
into asset management, it has reflected what I think is the 
right approach, which is to be data-driven and analytically 
driven. As we went through the process of thinking about doing 
it on a firm-by-firm basis, we came to the conclusion that we 
thought an activities review was the better way to put most of 
our current energy. We have reserved the right to go to firms. 
We have not said we are going to go one way or the other. But 
we indicated that we are putting additional resources into the 
activity review. The notice that you are describing was the 
outgrowth of that discussion. We have not yet even gotten all 
the comments. So I would never prejudge what our action is 
until we have done a complete analytic review.
    Senator Cotton. OK. While I have you here, I want to ask 
you a question about Iran and specifically Iran sanctions. 
Ayatollah Khamenei over the weekend said that all sanctions 
must be lifted immediately for there to be any agreement with 
the P5 plus 1. Could you explain to us the administration's 
position relative to that statement?
    Secretary Lew. I think that we have been clear that our 
sanctions will remain in place until we reach an agreement and 
will not be removed unless we reach an agreement that assures 
us that Iran will not be able to get nuclear weapons. 
Obviously, there is a negotiation going on, so there is not yet 
an agreement to describe, and I cannot tell you whether it will 
reach a positive outcome. But I can tell you that there will 
not be any lifting of sanctions if we do not get an agreement 
that assures us that Iran will not get nuclear weapons.
    Senator Cotton. Well, he had said that for there to be an 
agreement, sanctions must be lifted. In fact, I think his exact 
words were, ``The lifting of sanctions is part of the 
agreement, not the outcome of the agreement.''
    Secretary Lew. Sanctions have always been a means to an 
end. The goal is to stop Iran from getting nuclear weapons. The 
time at which sanctions will either be suspended or terminated 
is subject to negotiation, but it is conditional on reaching a 
successful end, which means that Iran cannot have nuclear 
weapons. And that is what they are in place for, and they will 
not be removed if we do not get that assurance.
    Senator Cotton. Subject to negotiations is also subject to 
congressional action since this Congress created the sanctions 
in the first place?
    Secretary Lew. I think the termination could only be done 
by congressional action. Obviously, they are implemented 
pursuant to Executive authority, and there could be a 
suspension without congressional action but not a termination.
    Senator Cotton. How long do you think the President has the 
authority to suspend those sanctions?
    Secretary Lew. I am not aware of its conditions based on a 
time basis, as best I understand.
    Senator Cotton. All right. Thank you. I am over my time.
    Chairman Shelby. Senator Menendez.
    Senator Menendez. Thank you, Mr. Chairman. I am tempted 
almost to follow on that line of questioning, but I am not.
    As we saw in the financial crisis, risk can build anywhere 
in the financial system regardless of the types of entities 
involved or the jurisdictional boundaries of regulators. And 
the Wall Street Reform Act established the Financial Stability 
Oversight Council to identify financial stability risk that may 
be building in the shadows and bring them to the light to 
improve coordination and fill in any gaps in supervision. And 
its most important tool is its power to designate nonbank 
financial companies for enhanced supervision and regulation. 
And that is a tool that is both powerful but also one that 
needs to be appropriately used. So let me ask you some 
questions in this regard. I want to follow up Senator Warren's 
just to make sure I understood your answer.
    Earlier this year, FSOC announced an updated procedure for 
considering possible nonbank SIFI designations, including more 
engagement earlier in the process when a company is under 
consideration. So the question is: When FSOC is considering a 
company for possible designation, to what extent does the 
updated process allow for a discussion of steps the company can 
take if it wants to avoid a designation, for example, by 
reducing its size or modifying its activities?
    Secretary Lew. Senator, there is enormous back-and-forth 
between the firms and FSOC as we go through the analytic 
process. I think that the revised procedures formalize some 
things in a way that is helpful, but it was the case before we 
changed the rules and it is certainly the case going forward.
    In the exchange, the analysis of where the risk 
transmission channels are is discussed. There are very 
different views presented sometimes by the firms in terms of 
ways to analyze it. As you analyze where the risks come from, 
it also shows you, you know, what it is about the structure of 
the firm that is giving rise to the designation.
    It is often in the case of a complex financial firm, the 
inherent business model, you know, that is the issue. So while 
there is a path for understanding it, it may or may not be 
attractive to change some of the basic structure.
    Senator Menendez. But if it is not just the entirety of a 
business model that has to be changed, but if, in fact, a 
particular size is the trigger that FSOC is looking at, or if 
it is particularly an individual or series of activities, is 
there an opportunity for the company, if it chooses to do so--
it may not. It may choose to refute your assertion of them 
being systemically risky. But is there an opportunity for them 
to modify their activities or size based on its engagement with 
FSOC where the Council would take into account those steps----
    Secretary Lew. Sure.
    Senator Menendez. ----if the company sought to do so?
    Secretary Lew. Yeah, I mean, it is not--as I said to 
Senator Warren, it is true not just in the initial review 
process, but each year there is an annual review of a 
designated firm, and if a firm changed its business model, its 
structure so that the risk issues had changed, that could give 
rise to a de-listing, having the designation removed.
    Senator Menendez. Is it possible before--let us say you 
have not designated a company yet, and you identify that, in 
fact, here is why we are looking to--we may be listing you, can 
the company before you get to that point say, ``Well, wait a 
minute. If you think X, Y, or Z activity is what is going to 
create systemic risk, then I want to be able to change the 
course''?
    Secretary Lew. I think it would theoretically be possible. 
Obviously, as a theoretical matter, it is different than in the 
real world.
    Senator Menendez. I am not looking for theory. I am looking 
to know if, in fact, there is--what is the use of engaging with 
a company if it is not to both come to a conclusion as to 
whether it is systemically risky, what activities are 
systemically risky, and if it wishes to avoid the designation 
because of the consequences that flow from that, give it the 
opportunity to do so? To me, that is not theoretical. It just 
makes common sense.
    Secretary Lew. So if I can just take one step back, the 
designation is rarely related to one specific marginal 
activity. I am not aware of any designation that turns on one 
marginal activity. It is looking at the entirety of a complex 
financial institution's actions and the risks created.
    In the course of that discussion, the firms understand what 
it is that is being looked upon as the source of risk. They 
have the opportunity to offer evidence, A, to contradict that 
view and to challenge it and give rise to us reaching a 
different conclusion. And they would also have the ability to 
change the nature of their business to eliminate the source of 
risk. And the thing that I am trying to be clear about is that 
it is not that there is--it would be a mistake, I think, to 
have kind of a notion of this being a mechanical, mathematical 
process where there is a number that determines where the risk 
is. It is a much more complicated review process in there. That 
is why there is a several-hundred-page analysis that supports 
the designation. It is not just a mechanical, arithmetic 
exercise.
    Senator Menendez. I get it. I think there is a--one final 
question, if I may. To the extent that FSOC is considering 
designating an entity as a nonbank SIFI, a company from a 
different industry or with a different structure from previous 
designees or companies historically regulated by the Federal 
Reserve, what step is the Council taking with the Fed to refine 
what the consequences of designation would be? And how is the 
FSOC working with the Fed to make sure its rules and 
supervision are properly calibrated to the risks identified by 
FSOC and appropriately tailored to the type of firm that is 
being proposed to be covered?
    Secretary Lew. Senator, I think that the Fed has a fair 
amount--some flexibility within its existing authorities and 
with the enactment of legislation, the Collins amendment, they 
now have additional authority to come up with capital standards 
that are appropriate for insurance companies, say. And I think 
it is important that they have the flexibility to do it in a 
way that is sensible in supervising institutions that have 
different characters. I do not believe that there are--or one-
size-fits-all solutions and the flexibility to treat companies 
of different size and of different characters differently is a 
good thing.
    Senator Brown. [Presiding.] Senator Heller.
    Senator Heller. Thank you very much to the Ranking Member. 
I am just pleased that there is not a nonsourced inaccurate 
chart here today.
    Senator Brown. Your jokes are better all the time, Senator 
Heller.
    [Laughter.]
    Senator Heller. Mr. Secretary, thank you for being here, 
and thank you for your time.
    Secretary Lew. Nice to be here, Senator.
    Senator Heller. And thanks for your expertise and for 
everything that you do.
    Some of the changes that FSOC made recently for these 
institutions, obviously like everybody here in this room, they 
are certainly hearing a lot from their small banks, their 
medium-sized, the regional size, and obviously the big banks 
out there. And some of the changes that you did make there, I 
think it is moving in the right direction.
    Secretary Lew. Thank you.
    Senator Heller. And I think others are saying the same 
thing, that these are good movements, going the right 
direction. Can I ask you just a series of questions to ask you 
a little bit more about some of these changes so that when I 
get these phone calls, I can answer certain questions?
    Secretary Lew. Sure.
    Senator Heller. The first one has to do with Stage 2 
designation. The changes that you made with FSOC, will it now 
provide a financial institution under consideration access to 
all that information before the Stage 2 review? In other words, 
will they know what the criteria is for Stage 2 review?
    Secretary Lew. Senator, I think that the general criteria 
are clear to all the firms. They are laid out in the rules that 
were adopted by FSOC. They are not kind of simple, quantitative 
lines where you are above or below, it is on or off. And I do 
not think that would be appropriate because there are no two 
firms that present with exactly the same risk profile. So there 
are different kinds of firms, and these are complex financial 
institutions. So it is an iterative process. It is a 
conversation.
    What is consistent is that the analysis is done to look at 
the different risk transmission channel mechanisms, and the 
firms very much understand the analysis that we are doing and 
what factors influence that analysis.
    Senator Heller. Did the recent changes change any of the 
criteria for Stage 2?
    Secretary Lew. It changed the process, not the substantive 
criteria.
    Senator Heller. Can you say the same thing is true at Stage 
3?
    Secretary Lew. Well, these were just process--these were 
not meant to be substantive changes in the sense of what the 
standards for review are. It was meant to open--it was to 
address the concerns that firms had, that they wanted to have 
more interaction in a more formal way earlier in the process.
    Senator Heller. Did any of these changes say that FSOC 
would provide the primary regulator of any financial 
institution its full nonpublic basis for designation before 
FSOC actually voted on it?
    Secretary Lew. FSOC has its own independent 
responsibilities. It consults broadly. It hears from primary 
regulators. It hears from interested parties. And in the end of 
the process, it issues a public statement that is rather 
lengthy. It is like 30, 40 pages of what the basis is. And the 
party gets hundreds of pages which they are obviously----
    Senator Heller. Is that before or after the designation, 
though? Before or after the designation?
    Secretary Lew. Well, they see the review in its final form 
after, but they are very much aware of the analysis during the 
process.
    Senator Heller. Some of these changes that you made 
recently with the FSOC, are they nonbinding? In other words, 
can this change in the future?
    Secretary Lew. Obviously, rules that are made can be 
changed. We changed them, I think as you indicated, to respond 
in what I think is an appropriate way to comments that we 
received. I think that the effort to make the process more 
transparent is a good one. I do not think there is going to 
be----
    Senator Heller. I do, too, by the way.
    Secretary Lew. And I do not think that there is going to be 
any meaningful pressure to go the other way. So while as a 
technical matter, you know, just like Congress can change the 
law, the Council can change its procedures. But there is no 
intention here to be going back and forth.
    It is a young organization, 5 years old. It was a good 
process from the beginning. It has been made stronger. And, you 
know, I would say that the only changes that I would anticipate 
are ones that were further refinements and improvements. I just 
do not hear any debate about kind of going back.
    Senator Heller. I am running out of time, but just real 
basically, what I am hearing and what the concerns of these 
financial institutions are is that they do not know if there is 
an off ramp. In other words, once you are designated, is there 
a way to get out? They are not certain that there are criteria 
out there today that they can look at--actually, they do not 
know what the criteria are to getting designated, let alone how 
to get out once they are designated and if they are designated. 
Do you believe you are closer to answering that question with 
these new changes?
    Secretary Lew. Well, Senator, I have tried this afternoon 
to answer. I think there is an--there is an annual review 
process. That annual review process is one that is serious and 
gives rise to the possibility of removing a designation. 
Obviously, a firm would have to change the character of the 
risk it presents in order for that change to be made. They have 
a very clear analysis, hundreds of pages of detail, and if they 
choose to change their business to address those issues, that 
would be something the Council would review and could lead to a 
removal of the designation.
    Senator Heller. Mr. Secretary, thank you.
    Thank you, Mr. Chairman.
    Senator Brown. Senator Warner.
    Senator Warner. Thank you, Mr. Chairman. I would like to 
thank Senator Tester for letting me jump line.
    I want to stay in this same vein, and I want to just for 
the record note as well that the original draft of Title 1 and 
2--nothing to do with you, Mr. Secretary; I think you have done 
a fine job--did have an independent Chair, because the notion 
of an independent Chair that had sole focus of trying to bring 
this level of collaboration I think would be important.
    I do feel what Senator Heller has mentioned, Senator 
Menendez has mentioned, Senator Warren has mentioned, and I 
want to mention is I do not--I think many of the firms, 
particularly the nonbank financials, you know, those of us who 
were very involved in Dodd-Frank, there was no intent to create 
a Hotel California provision. You know, there was always this 
ability, I think as Senator Warren said, to de-designate. And I 
personally believe that, again, new organization, new entity 
that in these original designations, there was not that lack 
of--there was a lack of clarity and information sharing that 
would have allowed a firm to make a determination to sever one 
type of activity, because as we said earlier, it is not just 
size. It is activity. And I think your improvements in the 
process potentially take us a step further down that path. My 
hope is that we will have some evidence of some firm with this 
new collaborative process, you know, being able to make the 
choices and exit out early.
    But I would ask--what I would say--what I would wonder is 
you are saying they have this chance at the end of each annual 
review. Has any firm started down--perhaps you do not want to 
designate a specific firm, but has any firm said, ``Hey, on the 
annual review we want out, and we are going to go about the 
following items'' or indicated that intention?
    Secretary Lew. Senator, we are so early in the process, 
firms have not even yet really been subject to the Fed 
supervision. So we are in the first innings of this process.
    I think that the test will come over time as firms think 
through what the supervisory process means and make the 
business judgments as to whether or not they want to change 
their business in order to have the annual review reach the 
conclusion that they should be de-designated. It was never 
meant to be, you know, a process that only could go one way. 
And I think even the early designations give the kind of 
analysis that firms understand the basis of what they would 
have to change in order for the annual review----
    Senator Warner. But I think what we, at least this Senator 
will be watching, because I do think there are firms who have 
indicated that they would like to find a way out, certain firms 
have been taking certain actions to appropriately deleverage 
and shrink in size.
    Secretary Lew. It certainly is possible if they do that, 
yes.
    Senator Warner. Well, again----
    Secretary Lew. And I do not mean to be skeptical about it. 
I just----
    Senator Warner. I know. There are firms that I think are 
affirmatively saying they are going--would like to go through 
that process, and hopefully we will see an example of it.
    Let me hit a couple of other points since Senator Tester 
has been patient. I want to go back again as well to Senator 
Corker's point on GSE reform, and I appreciate the 
administration's support. I wish we could----
    Secretary Lew. I would offer the same compliment, but I got 
criticized for taking time when I did it before.
    Senator Warner. No, no. I will take it.
    [Laughter.]
    Senator Warner. But I do think about the fact of the $5 
billion a year that would have been committed, close to $5 
billion for low-income, first-time, minority homebuyers that 
would have been extraordinarily valuable, and the fact that we 
would have dramatically removed this risk to the taxpayer. Do 
you have any comment about the Inspector General's recent 
report about the health of Fannie and Freddie?
    Secretary Lew. Look, I think that the potential risk 
remains there until we have real GSE reform. I think that we 
are much better off now, in a better position now than we were 
before, the different kinds of mortgages, different kind of 
oversight. But it is not a good permanent situation.
    Senator Warner. It is not a good permanent situation, nor--
--
    Secretary Lew. And we need legislation to really fix it, as 
you know.
    Senator Warner. Neither would recapitalization of the 
existing entities----
    Secretary Lew. You need to recapitalize, you need to define 
what the Federal exposure is narrowly, and you need to deal 
with----
    Senator Warner. I am saying I do not think recapitalization 
would make the right--let me go--because I have been--Senator--
--
    Secretary Lew. No, I do not think recapitalization of these 
firms, but you need to have firms that are capitalized.
    Senator Warner. Right. You need private capital in.
    Secretary Lew. That is right.
    Senator Warner. The last question I would have is as much a 
comment as a question. My hope was going to be that FSOC was 
going to not only be something that added additional regulatory 
structure but in many cases would be that court of last appeal 
for regulations when you have conflicts between regulatory 
agencies. So far we have not seen much of that. I hope that 
would be in its future.
    Secretary Lew. You know, I would say this: FSOC does not 
have the power to tell independent regulators what to do in 
most of their areas of independent authority. But where it has 
been given authority to coordinate them, I think we have done 
it quite effectively. The Volcker rule came out identical from 
five agencies. There were a lot of people who did not believe 
that could ever happen. I am not sure it has ever happened 
before that five independent regulators passed an identical 
rule out.
    There are issues that we do not have the power to write a 
rule, but you look at something like money market funds, FSOC 
intervened, and the regulator with authority has taken action, 
and we are in a better place than we were.
    I think there are a lot of issues where we have the 
ability--half of it is power of persuasion, and we have to be 
clear that it is not a power of compulsion. And I think that if 
you think about that kind of--the character of independent 
regulatory bodies and look at the amount of collaboration and 
coordination that is going on now compared to 5 years ago, it 
is a world of difference. And that does not mean everything is 
exactly where it should be and there is not more work to do. 
But I think you should be proud of the FSOC actually doing the 
job that you intended for it to day.
    Senator Warner. Thank you, and thank you to Senator Tester 
as well.
    Chairman Shelby. [Presiding.] Thank you.
    Senator Tester, you have been patient.
    Senator Tester. Thank you, Mr. Chairman. And thank you for 
being here, Jack. I appreciate the work you do. And just for 
the record--and I know this is not a hearing about Iran, but I 
appreciate the administration's willingness to engage on what I 
think may be the most important issue facing the world today.
    Secretary Lew. Thank you.
    Senator Tester. And so please pass that along.
    Look, I and others have been concerned about FSOC's 
transparency in the designation process, so most of my 
questions will--well, I will not say that. Some of them will.
    On the businesses that have been designated so far, do they 
know why?
    Secretary Lew. Yes, Senator, they do know why. I mean, they 
have engaged in lots of back-and-forth at a staff level, and in 
the end there is a several-hundred-page analysis that describes 
where the risk is and the transmission mechanisms or the basis 
for the determination.
    Senator Tester. So you feel confident that when you 
designate a business, they know pretty darn----
    Secretary Lew. They may not agree, but they----
    Senator Tester. They may not agree, but they----
    Secretary Lew. They know why.
    Senator Tester. They know why. So by your answer to Senator 
Warner's question, we have not been to a point where the 
reevaluation has taken place. Correct me if I am wrong.
    Secretary Lew. We have only been at the earliest stages. 
Firms go to their first anniversary, but it is before they were 
even subject to full Fed supervision. So I think we have to 
kind of just be cognizant of it being very early in the game.
    Senator Tester. I have got that. And from some of--and I am 
sorry I was not here the whole time, but some of the previous 
questions dealt with numerical metrics. Let me approach the 
numerical metrics from a little different way, because I do 
not--and correct me if--I do not believe you believe in 
numerical metrics as far as designation goes. Is that correct?
    Secretary Lew. Well, I do not think numerical metrics would 
capture what is unique about each individual firm's complex 
structure.
    Senator Tester. And then plus, it is my understanding that 
you did not think that they could change with the markets 
either. Is that correct? If you had numerical metrics, you 
would not--and the markets changed, they are very fluid, you 
would not be able to keep up with that change.
    Secretary Lew. I am not so sure if--since I--I do not think 
that we could just draw a hard line and say the number is the 
difference between risk or nonrisk, so I do not even get to the 
change.
    Senator Tester. That is OK. So let me get back to where I 
was originally going. On the reevaluation--and so you have got 
a business that has been designated. I am not sure the 
designation is a plus thing for them. It may be a necessary 
thing, but it may not be something that they really like. And 
so do they have the ability, when it comes to redesignation, 
to--or should I say do you have the ability--if we are not 
involved with metrics, what do you use to reevaluate?
    Secretary Lew. Well, first, something has to have changed. 
I mean, so a firm would have to come in and show what has 
changed, and if those changes would have an impact on the 
analysis that led to the original designation, we would have to 
go through the analysis again and make a fresh determination 
that the risk was still worthy of designation.
    Senator Tester. OK. So it is your belief that the companies 
know why they were designated, and that when the reevaluation 
comes around, they would have the ability to change some things 
if they wanted to lose that designation?
    Secretary Lew. Yes. And what I said, Senator, prior to your 
asking the questions, was that it is not the case that it is 
just one marginal activity that is the basis for designation. 
It is----
    Senator Tester. It is multiple----
    Secretary Lew. It is the entire complex business structure. 
So it would really mean making some--in each of the 
designations we have made, some pretty dramatic decisions about 
business structure.
    Senator Tester. OK. So now we will go back to the original 
designations. My staff member told me, I think, that Senator 
Warren talked about this, and that was whether companies were 
allowed to meet with voting members individually during a Stage 
3 designation vote--before that. And I believe you said no.
    Secretary Lew. No, we have left the direct meeting with the 
Council members to be an appeals process at the end.
    Senator Tester. Right.
    Secretary Lew. But a lot of contact with the staff 
throughout.
    Senator Tester. Yes, but they are appealing to the same 
people that made the designation, correct?
    Secretary Lew. But then they can appeal to the courts if 
they disagree. So they have an independent appeals route.
    Senator Tester. OK. But let me get back to where I was 
going, and I do not have a pre-answer for this, but why not 
allow them to talk?
    Secretary Lew. You know, the practice of having a lot of 
individual conversations that are different conversations while 
you are going through the process I think would not improve the 
clarity of the review. I mean, there is an orderliness to the 
way the information is brought in and analyzed and exchanged. 
There is an opportunity for the company to come in. And each of 
us on the Council ultimately makes a judgment based on the 
shared information that we have.
    I do not think that it is common practice in a lot of 
regulatory agencies for there to be a lot of individual 
meetings of the decision makers with the parties throughout the 
process.
    Senator Tester. Yeah, I am not sure--and look, Jack, you 
are a lot smarter guy than I am. And I am not sure----
    Secretary Lew. I would not say that.
    Senator Tester. ----that I am advocating for a lot of 
individual meetings. But it seems to me communication is really 
important. Look at what an anvil Congress is. Why? It is 
because people are talking and nobody is listening. And I think 
that there is an opportunity not to have a lot of meetings but 
at least give them the input before--the opportunity for input 
before the designation.
    Secretary Lew. So I totally agree with you about the 
importance of communication, and the reason we made the changes 
was to open the process up so that the companies that were 
under review would feel--would have actual knowledge of what is 
going on----
    Senator Tester. Right.
    Secretary Lew. ----and notice and the ability to engage. 
Before we made the rules changes, we were doing much of that 
informally. We formalized and made it more clear. I think that 
is a good thing.
    The line between what we do now and the kind of 
conversations you are talking about is something we should keep 
looking at. I am not saying that it is something you could 
never think about. I just think it would be an unusual process 
for regulators to do.
    Senator Tester. I got you. I think it could be overblown. 
But, anyway, I will end where I started. Thank you very much 
for your work. I very much appreciate it and look forward to 
working with you, whether it is through this Committee or 
individually, on making things work right.
    Secretary Lew. Thank you, Senator.
    Chairman Shelby. Thank you, Senator Tester.
    I have a couple of quick questions, and then I hope in a 
few minutes we can go to our second panel.
    Secretary Lew, I have two quick questions that I would hope 
you would answer with a simple yes or no. I do not know if you 
would, but I wish you would.
    Secretary Lew. Those are usually the hardest questions, 
Senator.
    Chairman Shelby. Maybe not for you. Do you agree that the 
FSOC's designation process should be transparent--you talked 
about that--objective, driven by rigorous data, and not 
influenced by outside organizations?
    Secretary Lew. I believe that a transparent process is 
good. I think we should be driven always by data and analysis, 
and we should be open to information that is appropriate----
    Chairman Shelby. What about influenced by outside stuff 
that you do not really find in your analysis?
    Secretary Lew. I do not think that any of our process is 
subject to influence other than by facts and analysis.
    Chairman Shelby. OK.
    Secretary Lew. The sources of it obviously come from, you 
know, work that is done inside and coming from the parties.
    Chairman Shelby. Is the U.S., the United States of America, 
under any obligation to implement decisions or determinations 
made by the FSB?
    Secretary Lew. National authorities retain their authority 
to make their own decisions. The FSB is an organization that I 
think helps us to bring global standards up to the high 
standards the United States has set. But we make our own 
policy.
    Chairman Shelby. Sure. That is good.
    Mr. Secretary, as a matter of policy, which you make, the 
Government, do you believe that fewer systemically important 
financial institutions is a good thing?
    Let me ask it again. As a matter of policy, do you believe 
that fewer, rather than more, systemically significant 
financial institutions is a good thing? In other words, if you 
did not have so many systemically risky, wouldn't the economy 
be better?
    Secretary Lew. I think that we have the deepest and most 
liquid financial markets in the world. We have the widest 
variety of financial institutions, and I think we have to make 
sure that, regardless of size, our institutions are safe and 
sound.
    Chairman Shelby. And we want to keep them that way, don't 
we?
    Secretary Lew. Yeah, and we--so I do not have a 
predisposition of the number of firms we need.
    Chairman Shelby. OK.
    Secretary Lew. But whether you are big or you are small, 
you ought to be safe.
    Chairman Shelby. Under the current law, it is my 
understanding that a firm has the opportunity ``to contest the 
proposed designation.'' I think you have indicated that. If 
they are unsuccessful contesting the Council's decision, would 
you oppose a statutory process to allow a firm, working with 
the Council, to avoid the designation before the designation is 
made final? In other words, give them a chance to work their 
problems out.
    Secretary Lew. I think that in its wisdom Congress created 
a process for these matters to be decided and resolved and 
adjudicated, and that process should stand.
    Chairman Shelby. My last question: The designation 
decisions have, as we all know, a large impact on the subject 
company and the economy. I believe--and I think you would 
agree--that such decisions should be justified and supported by 
empirical evidence and based on rigorous economic analysis.
    Does FSOC conduct any economic or cost-benefit analysis 
prior to making a decision?
    Secretary Lew. We do rigorous analysis and only designate 
firms if the risk determination is made. And I think if you 
look at the benefits that come from having systemic soundness, 
it is--you just need to look back to 2000 and 2008 to see what 
it costs the economy, what it costs taxpayers, working 
families, when the system collapses. That is hard to take into 
account on a case-by-case basis, but that is the reason that 
Dodd-Frank was enacted. It is the reason FSOC was created.
    Chairman Shelby. Is there any reason that you can think of 
that FSOC could not share all this information with the public, 
subject to confidentiality concerns of the company?
    Secretary Lew. Well, we share quite a lot of information--
--
    Chairman Shelby. I know that.
    Secretary Lew. ----with the public, and I think we have 
made great efforts to share as much as we can without shutting 
down a process that requires that we deal with confidential 
supervisory information. I think transparency is an important 
goal, but I think in supervisory matters, confidentiality has 
always been respected and needs to be in this process as well.
    Chairman Shelby. Thank you, Mr. Secretary, very much.
    Secretary Lew. Thank you, Mr. Chairman.
    Chairman Shelby. If we can, I would like to go to the next 
panel. First, we will hear the testimony of Mr. Paul Schott 
Stevens. He is the president and CEO of the Investment Company 
Institute. Mr. Stevens is a well-known lawyer and previously 
served in senior Government positions at the White House and 
the Defense Department.
    Second, we will hear from Mr. Douglas Holtz-Eakin, 
president of the American Action Forum, no stranger to the 
Congress. He is an economist, a professor, a former Director of 
the Congressional Budget Office, and former Chief Economist of 
the President's Council of Economic Advisers.
    Next we will hear from Mr. Dennis Kelleher, president and 
CEO of Better Markets. Mr. Kelleher has held several senior 
positions in the U.S. Senate, most recently as the Chief 
Counsel and Senior Leadership Adviser to the Chairman of the 
Senate Democratic Policy Committee.
    Finally, we will hear from Mr. Gary Hughes, executive vice 
president and general counsel of the American Council of Life 
Insurers. Mr. Hughes has been at ACLI since 1977 and has served 
as general counsel since 1998.
    Gentlemen, we welcome you to the Committee. Your written 
testimony will be made part of the hearing record, without 
objection, and we will start with you, Mr. Stevens, to sum up 
your testimony.

STATEMENT OF PAUL SCHOTT STEVENS, PRESIDENT AND CHIEF EXECUTIVE 
             OFFICER, INVESTMENT COMPANY INSTITUTE

    Mr. Stevens. Thank you, Chairman Shelby, Ranking Member 
Brown, and Members of the Committee. I am grateful for the 
opportunity to appear here today to discuss the transparency 
and accountability of the FSOC.
    ICI and its members do understand the importance of 
appropriate regulation, and we support U.S. and global efforts 
to enhance stability in the financial system. To this end, 
however, the FSOC process must and should be understandable to 
the public, based on empirical analysis that takes into account 
all the factors specified in the Dodd-Frank Act, and well 
grounded in the historical record. Such a process would allay 
any concerns that U.S. stock and bond funds or their managers 
pose risks to the financial system that require SIFI 
designation.
    Indeed, throughout the 75-year history of the modern fund 
industry, these funds have exhibited extraordinary stability in 
comparison to other parts of the financial system, and 
certainly they did so throughout the recent financial crisis.
    Now, is such an open, analytical review in the offing? 
Unfortunately, the FSOC's current designation process raises 
several serious concerns in that regard.
    First, like other observers, we are concerned that the FSOC 
is ignoring the range of tools given to it by the Dodd-Frank 
Act and instead is seeking to use its designation authority 
broadly. Congress envisioned SIFI designation as a measure 
designed for rare cases in which an institution poses outsize 
risk that cannot be remedied through any other regulatory 
action. The Council's record to date raises serious questions 
in our mind about its adherence to this statutory construct.
    Second, in none of its nonbank SIFI designations has the 
FSOC explained the basis of its decisions with any 
particularity. The opacity of the Council's processes and 
reasoning really means that no one--not the designated firm, 
other financial institutions, other regulators, the Council, or 
the public--can understand what activities the FSOC believes 
are especially risky. This is an odd result as the very object 
of the exercise is to identify and eliminate or minimize major 
risks to the financial system.
    Third, instead of the rigorous analysis one would expect in 
connection with significant regulatory action, the FSOC's 
approach to SIFI designation is predicated on what one member 
of the FSOC itself has called ``implausible, contrived 
scenarios.'' Together, the opacity of the process and this 
conjectural approach to identifying risks have made SIFI 
designation appear to be a result-oriented exercise in which a 
single metric--the firm's size--dwarfs all other statutory 
factors, and mere hypotheses are used to compel a predetermined 
outcome, i.e., that designation is required.
    Presumably, systemic risk must consist of more than just a 
series of speculative scenarios designed to justify expanding 
the jurisdiction of the Federal Reserve over large nonbank 
institutions.
    Fourth, the consequences of inappropriate designation would 
be quite severe, particularly for regulated funds and their 
investors. The bank-like regulatory remedies set forth in Dodd-
Frank would penalize fund shareholders, distort the fund 
marketplace, and compromise funds' important role in financing 
a growing economy. It also would institute a conflicted form of 
regulation. A designated fund or manager would have to serve 
two masters, with the Fed's focus on preserving banks and the 
banking system trumping the interests of fund investors who are 
saving for retirement or other long-term goals.
    The Fed's reach actually could be extremely broad. The 
Financial Stability Board recently proposed thresholds for 
identifying funds and asset managers that it expects 
automatically would be considered for SIFI designation. Under 
these thresholds, more than half--and let me emphasize, Mr. 
Chairman, more than half--of the assets of U.S.-regulated 
funds, almost $10 trillion, could be subject to ``prudential 
market regulation'' by the Federal Reserve. Similarly, more 
than half of the assets in 401(k)s and other defined 
contribution plans could be designated for Fed supervision. We 
do not believe that any Member of Congress anticipated that the 
Dodd-Frank Act could give the Fed this extraordinary authority.
    Now, how can Congress address these concerns? What we 
recommend is quite straightforward.
    First, the FSOC's recent informal changes to its 
designation process are a good first step, but more is 
required. To assure greater predictability and certainty in 
that process, Congress should codify these changes in statute.
    Second, Congress should require the FSOC to allow the 
primary regulator of a targeted firm an opportunity to address 
the identified risks prior to final designation. Primary 
regulators have the necessary authority and greater expertise 
and flexibility to address these tasks.
    Third, a firm targeted for SIFI designation also should 
have the opportunity to de-risk its business structure or its 
practices. Such an off-ramp from designation may be the most 
effective way to address and reduce identified systemic risks.
    And, finally, Congress should revisit the remedies proposed 
for designated nonbank firms, particularly regulated funds and 
their managers. Let me emphasize we do not believe that funds 
or fund managers merit SIFI designation, but if the FSOC 
chooses to designate them nonetheless, then Congress should 
look to the SEC and not to the Federal Reserve to conduct 
enhanced supervision and oversight.
    Mr. Chairman, thank you. I look forward to your questions.
    Chairman Shelby. Dr. Holtz-Eakin.

 STATEMENT OF DOUGLAS HOLTZ-EAKIN, PRESIDENT, AMERICAN ACTION 
                             FORUM

    Mr. Holtz-Eakin. Thank you, Mr. Chairman, Ranking Member 
Brown. It is a privilege to be here today.
    Let me make comments in basically three areas: process 
improvements, many of which will be familiar from the 
discussion that has preceded; the desire for greater analysis 
and metrics infused into this process; and, third, the 
possibility that if the FSOC is unable to make satisfactory 
progress in those two areas, it may be useful for the Committee 
to scrutinize the basic mission of the FSOC once again.
    The FSOC was created as a macroprudential regulator. Such a 
regulator's job is to identify systemic risks, measure them 
appropriately, implement regulation and other steps that will 
reduce those risks without excessive costs to the economy, and, 
thus, undertake the basic cost-benefit analysis embedded in 
regulation.
    The process that the FSOC is using right now does not 
seemingly convey to the participants that information. Firms do 
not know how they became systemically risky, how much systemic 
risk they pose, and what factors in their operations 
contributed to that systemic risk. They accordingly have no 
way, as was just mentioned, to change their activities and de-
risk prior to designation. They are fated, once the examination 
begins, to be in or out one way or the other.
    I think that the steps that have been taken so far in 
February were good steps, but additional transparency is really 
needed so there is an understanding about what is going on, 
that there has to be an ability to de-risk. I think that in 
assessing risks, it would be useful for the FSOC to incorporate 
more of the information provided by the primary regulator and 
defer to their expertise, where appropriate, and it seems not 
to be done in this case. We have seen the insurance company 
examples. And I think there has to be a meaningful exit from 
designation as a SIFI. The annual review is thus far on paper. 
It has not yet been implemented in a way that we know there is 
a meaningful exit ramp, and that should be in there.
    The second major thing is to actually bring some 
quantification to the risks posed by institutions and their 
activities. The first step in that would be to focus on 
activities as opposed to simply institutions and their size so 
that we know what activities translate into systemic risks, 
have them quantify those based on the historical record of risk 
in marketplaces and liquidity and the other factors that will 
be important, and that risk analysis should be presented to all 
participants in a meaningful way so that we have some sense of 
magnitudes and know when things are more and less risky.
    Now, my final point is that if the FSOC, a systemic risk 
regulator, cannot identify to participants in the process what 
is a systemic risk and where did it come from, cannot measure 
it in a meaningful fashion and convey what is a large and small 
systemic risk, we cannot possibly know if it is really reducing 
systemic risk in an efficient fashion, and that is its job. And 
if we have a regulator that increasingly has command over large 
pieces of our capital markets that may or may not be fulfilling 
the basic mission of Congress, I would encourage this Committee 
to come back in future years and consider whether it is worth 
having such a thing.
    I am deeply concerned that the combination of an 
ineffective FSOC and the use of the Federal Reserve as the 
primary regulator by the FSOC will endanger the Fed itself. It 
has been the finest monetary authority on the planet. Bringing 
it into this new role where it has not the expertise and not 
the experience may lead it to come under just increasing 
external scrutiny and interference, and damaging the 
independence of the Fed is not something that we think would be 
the right outcome of an attempt to make the financial markets 
safer.
    Thank you for the chance to be here today, and I look 
forward to your questions.
    Chairman Shelby. Mr. Kelleher.

STATEMENT OF DENNIS M. KELLEHER, PRESIDENT AND CHIEF EXECUTIVE 
                 OFFICER, BETTER MARKETS, INC.

    Mr. Kelleher. Good afternoon, Chairman Shelby, Ranking 
Member Brown, and Members of the Committee. Thank you for the 
invitation to testify today. It is a privilege and honor to 
appear before the Committee.
    Too often when talking about financial reform, too many 
focus on the trees--a particular regulation or industry or 
firm--and ignore the forest--why we have the law, the 
regulation in the first place. That context is essential to 
understand where we are and what, if anything, we need to do.
    Here we have a Stability Council to prevent destabilizing 
surprises and massive bailouts. When we talk about surprises, 
everybody thinks of AIG, which I will get to in a minute. But 
what about Goldman Sachs and Morgan Stanley, almost collapsing 
and bankrupt within days? That was totally an unexpected 
surprise, but that is what happened in 2008.
    On Friday night, September 19, Morgan Stanley called the 
President of the New York Fed, Tim Geithner, and indicated they 
would not open on Monday, September 22, 2008. Adding to that 
shocking surprise, Morgan Stanley told Mr. Geithner that 
Goldman Sachs was ``panicked'' because it felt that if Morgan 
Stanley does not open, ``then Goldman Sachs is toast.''
    The possibility of Morgan Stanley and Goldman Sachs being 
bankrupt and collapsing into failure on Monday, September 22, 
2008, was a very big surprise, and the result to prevent that 
were massive bailouts by the U.S. Government and taxpayers.
    But that was not the only surprise. Also in early September 
2008, AIG came to the Federal Government asking for a huge, 
indeed unlimited bailout. To everyone's surprise, AIG had 
gambled with hundreds of billions of dollars of derivatives and 
lost big, and was bankrupt because it did not have the money to 
cover its gambling losses. So it came to the Federal Government 
and the U.S. taxpayer with its hand out. It and its 
counterparties, all the biggest banks on Wall Street, including 
Goldman Sachs, said, ``You have to bail out AIG or the entire 
financial system will collapse.''
    No one knew it, but AIG was so interconnected with the 
system that its failure could bring down everything and 
potentially cause a second Great Depression. So the U.S. 
Government repeatedly bailed out AIG, ultimately amounting to 
almost $185 billion.
    There were other, even bigger surprises. The $3.7 trillion 
money market industry was also on the verge of collapse at 
about the same time as AIG, Morgan Stanley, and Goldman Sachs. 
That, too, surprised everyone. The result was the same. The 
United States Treasury bailed out the money market fund 
industry by putting the full faith and credit of the United 
States behind the $3.7 trillion industry.
    Those are only three examples of many, many surprises and 
too many bailouts in 2008 and 2009 that no one anticipated.
    The Stability Council was created to prevent similar future 
surprises and bailouts, and that is incredibly important. Why? 
Because the crash and the bailouts that started with Lehman 
Brothers, AIG, and money market funds that led to Morgan 
Stanley and Goldman Sachs and all the other too-big-to-fail 
firms exploding into the worst financial collapse since the 
Great Crash of 1929, caused the worst economy since the Great 
Depression of the 1930s. Indeed, only massive taxpayer and 
Government bailouts prevented a second Great Depression. 
Ultimately, that crash and the economic wreckage are going to 
cost the United States more than $10 trillion, as detailed in a 
study Better Markets did on the cost of the crisis.
    The tens of trillions of dollars reflect massive suffering 
across our country. Just one example. In late 2009, 
unemployment and underemployment reached 17 percent. That means 
that almost 27 million Americans were either out of work or 
working part-time because they could not find full-time work. 
And then, of course, there were the lost savings, homes, 
retirements, small businesses, and so much more.
    Preventing that from ever happening again is why there is a 
Dodd-Frank financial reform law, why there are regulations, why 
there is a Stability Council, and why its mission is so very 
important.
    In closing, that is why, when we think about FSOC and 
accountability, we think about accountability to the American 
people, accountability to those 27 million Americans thrown out 
of work, accountability to the tens of millions who lost their 
savings, their retirements, their homes, and so much more. We 
ask: Is FSOC doing enough fast enough to protect the American 
people from known and potential threats to the financial 
stability of the United States? Yes. Deliberatively, 
thoroughly, carefully, pursuant to as open and transparent a 
process that has real accountability built in, but the focus 
has to be on identifying those threats, responding to them, 
eliminating them, or minimizing them to the greatest extent 
possible, and protecting the American people.
    Thank you, and I look forward to your questions.
    Chairman Shelby. Mr. Hughes.

   STATEMENT OF GARY E. HUGHES, EXECUTIVE VICE PRESIDENT AND 
       GENERAL COUNSEL, AMERICAN COUNCIL OF LIFE INSURERS

    Mr. Hughes. Thank you, Mr. Chairman, Ranking Member Brown. 
We appreciate the opportunity to comment on the FSOC process.
    ACLI is the principal trade association for the U.S. life 
insurance companies, and we include among our members the three 
insurers that have been designated as systemically important.
    We have heard today that FSOC has already made improvements 
to its process, but we do believe that additional reforms are 
necessary to assure that the process is really transparent and 
fair and that it fills the overarching purpose of the Dodd-
Frank Act.
    Questions that we heard today I think hit the right note 
here. We should all be striving for a financial marketplace 
where there are no institutions that pose systemic risk. And to 
that end, FSOC should embrace a process that employs the 
correct metrics to assess a companies potential risks and 
outlines clearly and concisely the factors that will result in 
designation.
    If systemic risks are identified, the company should be 
given full access to the information upon which FSOC's 
conclusions are based, and then given the opportunity to 
challenge any assumptions it believes are in error and, if it 
wishes, restructure its activities so as to fall on the 
nonsystemic side of the line. Only then should FSOC make a 
final designation and trigger Fed oversight, and companies 
should always be given the necessary information and the 
ability to exit designated status if changed circumstances 
warrant.
    Unfortunately, the current FSOC process seems more focused 
on designating companies as systemic than on working 
constructively with potential designees to avoid having to make 
such designations in the first instance. And with all due 
respect to Secretary Lew, I think there was nothing that I 
heard from him that would change our view that the bias tilts 
in that direction.
    With that in mind, let me summarize our suggestions for 
improving the FSOC process.
    First, FSOC should institute additional procedural 
safeguards on the front end of the process, and we offer six 
suggestions in this regard.
    One, afford companies that receive a notice of proposed 
determination full access to the record upon which FSOC's 
determination are based, and, importantly, that record must 
provide a sufficient level of detail to enable the company to 
fairly understand and react to FSOC's analysis and conclusions.
    Two, required that FSOC staff initially recommending a 
company for designation is not the very same staff adjudicating 
the company's administrative challenge to a potential 
designation.
    Three, in the case of an insurance company, afford greater 
weight to the views of the FSOC voting member with insurance 
expertise and accord deference to the insurer's primary State 
insurance regulator.
    Four, providing a company with more than 30 days to 
initiate a judicial review of a final determination.
    Five, staying Federal oversight pending such a judicial 
review.
    And, six, ensuring that FSOC determinations are made 
independent of international regulatory actions.
    Our second overall point: Once a company has been 
designated as systemic, there should be a more robust and 
transparent process for potential de-designation. FSOC should 
provide the company with a clear indication of the factors that 
would lead to de-designation, enabling the company to 
understand precisely what changes to its risk profile would be 
necessary to be deemed nonsystemic.
    Third, as is the case with asset managers, we believe FSOC 
should be required to pursue an activities-based approach with 
respect to insurance, focusing on the specific activities and 
practices that may pose systemic risk.
    Fourth, FSOC should be required to appropriately apply the 
material financial distress standard, as set forth in Dodd-
Frank. The authorizing statute enumerates 11 factors that could 
have a bearing on the company's vulnerability to material 
financial distress. Yet in the case of the insurance 
designations, FSOC simply made a going-in assumption of 
material financial distress and then concluded that such 
distress could be communicated to the broader financial system.
    And, finally, FSOC should promulgate the regulations 
required by Section 170 of Dodd-Frank. These regulations, done 
in conjunction with the Federal Reserve, could shed additional 
light on what metrics, standards, or criteria you would operate 
to categorize a company as nonsystemic.
    Mr. Chairman, we believe the best interests of the U.S. 
financial system will be served by an FSOC designation process 
that is more transparent and fair than at present, and the 
reforms we suggest are intended to achieve these objectives. We 
pledge to work with this Committee and others for that end. 
Thank you.
    Chairman Shelby. Thank you, Mr. Hughes.
    I will ask the following question of all of you. The goal 
of the FSOC's process I believe should be not to merely expand 
the regulatory jurisdiction of the Federal Reserve, but to 
actually reduce systemic risks to our economy. As the 
Bipartisan Policy Center pointed out in its statement for the 
record, it would be troubling if no real process emerges to 
realistically allow a company to become undesignated.
    I will start with you, Mr. Stevens--well, I will ask all of 
you. Do all of you agree, yes or no?
    Mr. Stevens. Yes, I do agree, Mr. Chairman.
    Chairman Shelby. Mr. Holtz-Eakin.
    Mr. Holtz-Eakin. I 100 percent agree.
    Mr. Kelleher. I agree with the headline, not the details.
    Chairman Shelby. Mr. Hughes.
    Mr. Hughes. I agree completely.
    Chairman Shelby. Do you believe that FSOC has provided a 
clear road map for what a designated company should do to 
reduce its systemic risk and no longer be designated?
    Mr. Stevens. It would probably be best to ask the companies 
themselves, but I would be very surprised if their answers were 
``yes.''
    Chairman Shelby. Dr. Holtz-Eakin.
    Mr. Holtz-Eakin. I do not believe that it has.
    Chairman Shelby. Mr. Kelleher.
    Mr. Kelleher. It cannot.
    Mr. Hughes. Well, that is a good question, and we have had 
the opportunity to talk to some of the companies that have been 
designated, and I think they would explain that, no--you know, 
somebody mentioned--I think it was the Secretary--that there 
are hundreds of pages of documents floating around. There are. 
But in reading those hundreds of pages of documents going back 
and forth between FSOC and the individual companies, there is 
not clarity on the specifics of why a company got designated. 
And I think you would find a very high degree of frustration 
among the companies that have been designated that they are not 
sure of the exact reasons why they have been designated; they 
are not sure of the exact steps they could take if they wished 
to become de-designated.
    So, with all due respect to the Secretary, this is not just 
a situation where companies disagree with conclusions. They do 
not have enough information to challenge the conclusions that 
have been drawn.
    Chairman Shelby. Don't the bank regulators at times, when 
they are evaluating the safety and soundness of a banking 
institution, kind of give them a warning of what they need to 
do to their capital standards and everything, Dr. Holtz-Eakin?
    Mr. Holtz-Eakin. Absolutely. There is a regular 
interchange, and it is often quite quantitative in nature, so 
there is no ambiguity----
    Chairman Shelby. And a lot of them, because of that, work 
off their problems and become strong again, do they not?
    Mr. Holtz-Eakin. Yes, they do.
    Chairman Shelby. Is that fair?
    Mr. Kelleher. Well, of course, those regulators, the 
banking regulators, have supervisors and hundreds and hundreds 
of people in those banks on a regular basis to provide that 
advice and feedback long before something like an FSOC process 
happens.
    Chairman Shelby. Well, some of these--I am just the using 
the analogy of the bank regulators letting the bank work off 
problems and get strong. And I guess should the FSOC provide a 
better explanation to the public when it disregards such 
expertise? I am speaking of--the MetLife designation received a 
scathing dissent by its primary regulator. The Prudential 
designation was adopted despite the strong dissent by FSOC's 
resident insurance experts. That is troubling to me. Mr. 
Hughes?
    Mr. Hughes. Yeah, I think your comment sort of begs the 
question of to what extent, if at all, is FSOC looking to the 
primary regulators of these firms for input and advice.
    Chairman Shelby. Or totally ignoring them.
    Mr. Hughes. Yeah, and insurance is an interesting case, and 
it is the only segment of financial services that does not have 
a voting seat on FSOC as a regulator. I mean, there is an 
individual that has insurance expertise. None of the primary 
regulators that the three companies designated were at the 
table when the FSOC decisions were made.
    Chairman Shelby. Dr. Holtz-Eakin, if we create a regulatory 
regime to address systemic risk without identifying what 
creates systemic risk, we force companies to guess what might 
trigger additional regulatory concern. In other words, they are 
kind of in the dark. I believe companies must then manage their 
business models to the worst-case scenario rather than ordinary 
business. Generally, such uncertainty creates additional cost 
for them and for our economy, causing companies not to invest 
in new business opportunities or infrastructure.
    My question is this: Should we be concerned that such 
uncertainty is stifling our economic growth? You are an 
economist. Are there real costs associated with our regulatory 
framework and specifically with uncertainty in FSOC's 
designation?
    Mr. Holtz-Eakin. There is increasing evidence that you can 
trace a straight line between policy uncertainty and economic 
performance. There has been excellent work done by, for 
example, Steve Davis at the University of Chicago on this 
topic. The FSOC is an example of this. It is a large, powerful 
regulator that people have very little understanding about how 
it makes its decisions, uses what criteria, and as a result--
and where it will show up next, in what part of the financial 
landscape. And that cannot be in and of itself a good thing for 
growth.
    Chairman Shelby. Mr. Hughes, insurance products--you know 
this well--especially long-term insurance contracts such as 
life insurance, face a much different probability for runs and, 
thus, failure than one would typically fear with banks. We have 
heard concerns that FSOC's designation process treats these 
insurance contracts similar to bank assets, but they are 
different.
    Would you discuss the likelihood of a so-called run on 
insurance products such as life insurance and what such a run 
would have to look like in order to cause systemic risk?
    Mr. Hughes. Well, I think you are absolutely correct that 
the dynamics of a insurance company are much different than 
those of a commercial bank, certainly in terms of the types of 
products and the likelihood of money going out the door. I know 
one of the dissents to one of the designations pointed out, 
quite correctly, that insurance regulators have the absolute 
authority to prevent people from turning in their policies, if 
that is warranted. But I think the experience of the recent 
economic crisis is very telling in this respect. In fact, it 
was just the opposite of a run. The products were so desirable 
in terms of the guarantees they made that, notwithstanding the 
crisis, people were holding onto those products no matter what.
    Chairman Shelby. Senator Brown.
    Senator Brown. Thank you, Mr. Chairman. I do not think the 
FSOC designation is quite the black box and mysterious process 
that some have made it out to be. You know, we start off with 
metrics, Step 1 and Step 2, six categories, and while we do not 
necessarily--I think the companies give this information. I 
assume it is proprietary. We have not seen it, but it is 
perhaps a little more specific, and companies are a little more 
aware than maybe we like to think they are.
    Let me start with Mr. Kelleher, if I could. We hear from 
industry that new rules for banks, Basel III, for example, will 
force some activities into the ``unregulated'' shadow banking 
sector. The industry made similar arguments before the crisis, 
sort of the time period you were laying out for us, when they 
used charter shopping to engage regulators in a race to the 
bottom.
    Talk about, if you would, Mr. Kelleher, the role that FSOC 
plays in ensuring that there are strong standards across the 
board, that there is a level playing field even for 
institutions that attempt to operate more in the shadows.
    Mr. Kelleher. There are two key roles that FSOC plays in 
connection with the shadow banking system and the other 
problems you have identified. Number one, and most importantly, 
FSOC was, in fact, created to ensure that we did not have 
another shadow banking system grow up. In the past, as you both 
know well, we had banking regulation, and then what everybody 
did is they moved their activities or their forum in a way so 
that they did not fall narrowly within banking regulation. And 
that was the shadow banking system, also known as the 
unregulated finance system.
    So we have a banking regulatory system that identifies 
banks and bank holding companies for heightened prudential 
standards and otherwise, as you have heard over the last week 
in your hearings. And the other arena, which used to be called 
``the shadow banking system,'' we have FSOC, which is supposed 
to be able to identify known and emerging risks as well as 
designate nonbank financial firms that pose a threat to the 
financial stability of the country. That is aimed directly at 
the shadow banking system.
    The second piece of your question about charter shopping 
and the problems one has with siloed regulators is by having a 
council of regulators, you force them to look at the broader 
landscape and also to be less captured, not in the pejorative 
sense of the revolving door but cognitively captured about 
where you sit is where you stand. And I actually think it is an 
example of how the FSOC is working well to see that the 
insurance regulators actually laid out their dissents and 
dissented, but nonetheless the collective wisdom of FSOC saw 
and understood the threat that came out of that arena and 
designated insurance firms nonetheless having gone through the 
process. And, by the way, they did get roughly 400 pages 
detailing the designation.
    Senator Brown. Thank you. Mr. Kelleher, your testimony 
discussed some of the so-called reform proposals. Talk about 
some of those coming from the House these days or that the 
House is looking at now.
    Mr. Kelleher. Well, you know, most of the reform proposals 
at the end of the day are burden delay and future litigation. 
What we ought to be doing is building up a robust designation 
process, an FSOC council that really does its job, and I am a 
little surprised that Doug and others have not taken credit for 
the dramatic steps forward that FSOC has taken most recently on 
the transparency and process side, because about half of your 
recommendations are now incorporated in FSOC's procedures.
    Now, everybody does not get everything they want in this 
town. I think 50 percent is pretty good. But most of these 
things, whether it is cures, off ramps, kind of a formalistic, 
one-size-fits-all, quantitative formula, relying on a primary 
regulator, almost every single one of those so-called reforms 
are really a step back to procedures that were in place prior 
to the crisis, and in many respects enabled the crisis.
    Senator Brown. All right. Thank you.
    Mr. Kelleher, in your experience with financial regulators, 
have you ever encountered a regulator that was willing to 
receive input and criticism from stakeholders and then modified 
its policies in response to that criticism, as FSOC did in 
February?
    Mr. Kelleher. You know, I think it is unprecedented. We 
have gone around and tried to look at this to find an agency 
that has been criticized, constructively or otherwise, and then 
gone through an elaborate process to bring the critics in, 
listen to them, get detailed inputs, and then actually change 
their process in very meaningful ways in part by, as I said, 
adopting many of the recommendations of those who had the 
input. Not only is it unprecedented, I think it shows that this 
Committee is actually working the way exactly as it is 
designed. It is not even 5 years old. It is not exactly running 
around designating everybody who walks by Treasury. In 5 years, 
we have got four companies. Two of them were no-brainers--AIG 
and GE. OK. The others, frankly, I think we are going to find 
out, when the MetLife litigation is done, that they were no-
brainers, too.
    So what we have is a Council that is doing its job. It is 
listening to people. It is incorporating changes and making 
meaningful changes. I think we ought to let them do their job, 
let the changes set in, and let us see where we are in a year 
or two, complemented by robust congressional oversight, which 
you all have been doing. They are doing well. They are trying 
to do better. And Doug and others who are making some good 
suggestions are having a meaningful impact.
    Senator Brown. Thank you.
    Thank you, Mr. Chairman.
    Chairman Shelby. Senator Warren.
    Senator Warren. Thank you, Mr. Chairman. Thank you all for 
being here today.
    Seven years ago, giant financial institutions like AIG and 
Lehman Brothers--institutions that were not banks--were at the 
center of the financial crisis. Congress recognized that while 
there were regulatory agencies responsible for overseeing 
specific banks or specific parts of banks, we did not have a 
single group that was responsible for looking out across the 
entire system, including the nonbanks, and spotting the risks 
that they presented. That is why Congress created FSOC and why 
Congress gave FSOC the power to designate nonbanks as 
systemically important if they met certain basic criteria.
    Now, there has been a lot of discussion today about 
potential flaws in the designation process, and I just want to 
focus on a few of those. I have heard people who represent the 
insurance industry claim that certain kinds of companies, like 
insurance companies, simply cannot pose the kinds of systemic 
risks that banks do.
    Mr. Kelleher, do you think that large insurance companies 
can pose systemic risk?
    Mr. Kelleher. Well, I do not think there is any question 
that large insurance companies can pose systemic risk. I mean, 
we only have to look at AIG and see what happened there, which 
was, after all, an insurance company. And let us remember, 
MetLife, before it sold off its deposits a couple years ago, it 
was one of the largest bank holding companies in the United 
States at the time. So insurance companies, the big, large, 
complex, global insurance companies, certainly can be, and they 
should be, if appropriate, according to the criteria, subject 
to the designation process and designation if, after that 
process, they are deemed to meet the criteria.
    Senator Warren. Thank you.
    Now, another argument I have heard today is that the 
designation process is flawed because it does not weigh the 
costs and benefits of designating a company. Mr. Kelleher, do 
you think that imposing some kind of cost-benefit analysis is a 
workable approach here?
    Mr. Kelleher. The so-called cost-benefit analysis is almost 
always translated into an industry-cost-only analysis, and we 
have seen that at the other agencies and other places where the 
industry has tried to impose what they call ``cost-benefit 
analysis.''
    It really takes into account too often, and as designed, 
industry's quantifiable costs where, you know, they exaggerate 
them and they pile them up a mile high with virtually no basis 
and say the sky is going to fall, it is going to cost us $62 
billion, or some fabulous number. What they never do is to take 
into account the often unquantifiable, sometimes quantifiable 
benefit to the public.
    For example, what is the benefit and how do you quantify 
the benefit of avoiding a second Great Depression or, for 
example, 27 million Americans out of work in October of 2009? 
And we could go through the list--and it is a long list--of the 
economic wreckage inflicted on the American people by the last 
financial collapse. That is FSOC's duty to prevent that 
happening again.
    How you quantify it and how you quantify it, as Secretary 
Lew said, on a case-by-case basis is virtually impossible, and 
that is why it is so grossly inappropriate to be trying to 
apply industry-cost-only analysis on financial regulation and 
protecting the American people.
    Senator Warren. Thank you, very much. I agree with this. I 
have often wondered how the regulators would calculate the 
benefits of avoiding another financial crisis--a financial 
crisis that sucked, what is it, $14 trillion out of the U.S. 
economy?
    Mr. Kelleher. Probably more.
    Senator Warren. Probably more. All right. Let us do the 
third one then. I have heard that the designation process is 
not transparent, and I am all for increased transparency, but I 
assume the Council must balance transparency against disclosing 
confidential or potentially market-moving information.
    Mr. Kelleher, do you think FSOC has struck roughly the 
right balance with recent changes to the designation process?
    Mr. Kelleher. I should start by saying Better Markets 
stands for transparency, accountability, and oversight. There 
are few things that we prioritize more than transparency, and 
we have actually been very critical of FSOC over time for their 
lack of transparency. But I will say that they have made 
tremendous strides recently. I think that they actually did a 
good job before, and they were not transparent about it; and, 
therefore, that is what raised a lot of the questions. They are 
now moving to a much more transparent process and a more 
involved process that I think is only going to strengthen those 
processes.
    Reasonable people can disagree where on the line you have 
transparency from total public transparency to protecting 
confidential information and deliberative ability of the 
Council. But it looks to me that they are both at the right 
place and moving in the right direction. And as I say, adopting 
many of the criticisms as part of their procedures now to open 
it up I think is a pretty clear signal and an unprecedented 
signal, as I said to Senator Brown, that we have a Council that 
is really committed to getting this right and being maximally 
open.
    Senator Warren. And I take it, Dr. Holtz-Eakin, that you 
would agree that they have at least moved in the right 
direction.
    Mr. Holtz-Eakin. Certainly. In both my written and oral 
statements, I said so.
    Senator Warren. Good. Thank you.
    The FSOC designation process is obviously a work in 
progress. I think the Council has generally gotten it right and 
has demonstrated a willingness to work with members of the 
industry and others to improve aspects of the process, and I 
trust that that will continue.
    Thank you, Mr. Chairman.
    Chairman Shelby. Dr. Holtz-Eakin, would you like an 
opportunity to respond to Senator Warren's question on cost-
benefit analysis--I have been bringing that up a long time--
since you are an economist?
    Mr. Holtz-Eakin. Well, certainly. I mean, we require 
benefit-cost analysis in lots of other regulatory settings 
because it is information that should be imbued in the process. 
That does not mean that measuring benefits and costs is easy. 
In many cases it is not. Measuring environmental benefits is a 
notoriously difficult task. Measuring increased human safety in 
the workplace is a notoriously difficult task. None of this has 
stopped the agencies from undergoing the discipline of having 
to write down the things that might be benefits, the things 
that might be costs, and making a good-faith effort to add them 
up. The FSOC should do the same.
    Chairman Shelby. Thank you, gentlemen.
    You have a question?
    Senator Brown. Could I follow up on that? Dr. Holtz-Eakin, 
do you think we could have quantified--or how would we have 
quantified in 2006 and 2007 or even the earlier years in that 
decade on some of the things that some of the regulators did? 
Could we have quantified the cost to society of what happened 
in 2008 and 2009? Do you think as we did some of those 
deregulation activities or some of the regulation activities 
that you could have really figured out--you could have figured 
out the cost to the companies, to be sure, but could you have 
figured out the cost to society which I guess would be on the 
benefit side of the equation very accurately?
    Mr. Holtz-Eakin. Recessions avoided are benefits. There is 
no question about that. But in any circumstance you can 
certainly do a disciplined job of adding up the costs, economic 
costs, not just industry costs. And I would suggest to Dr. 
Kelleher that if the FSOC is going to have good processes and 
everything else, and he has great faith in that, they can get a 
good process on calculating economic costs.
    So let us suppose they do that. Well, then, we will know 
how big the benefits have to be at a minimum in order to for 
something to be worthwhile, and getting that order of magnitude 
right is important to know, I think. And then you can in formal 
ways do analysis of what economic performance looks like with 
and without access to intermediation and credit, which is 
exactly what happened in 2008 and 2009. We had an enormous 
liquidity crunch, and it dried up the ability for people to get 
financing. You can translate that into declines in investment 
and employment. You can look at the costs.
    Senator Brown. Yes, it is just hard for me to think that, 
without being laughed at, if any public interest lawyers or the 
agencies would have said here is what potentially could happen 
if we weakened or deregulated some of the things OCC did or the 
Fed, that we possibly could have predicted that, and that is 
why I am a little bit jittery about this whole structured cost-
benefit, even though I think we should do cost-benefit in a 
whole lot of ways. I just do not think that--there needs to be 
some caution and the other side needs to be weighed perhaps a 
little better than it has been.
    Mr. Holtz-Eakin. I take your point. I would just point out 
that there are a lot of things that presumably FSOC is supposed 
to do that my experience on the Financial Crisis Inquiry 
Commission suggests it is just not going to work. So take the 
AIG example. The fundamental problem with AIG is that the CFO 
testified under oath that he as the chief risk officer and the 
chief liquidity risk officer was unaware that their contracts 
required them to post collateral if the underlying securities 
declined in value. There is no way the FSOC is going to be able 
to identify in advance utter managerial incompetence. That is 
joke to run a major company and not understand your own 
contracts and you are unable to comply with them. There is 
nothing about the FSOC that is going to stop that.
    And so for big structural things that you can quantify, do 
benefit-cost, you should do it, but do not--I am just far less 
sanguine that somehow this entity is going to be so nimble that 
it is going to find all these things. It just will not.
    Mr. Kelleher. Well, of course, its job is not to find those 
things. What the real analysis is----
    Mr. Holtz-Eakin. Well, in your testimony you suggested 
exactly that, but it will not.
    Mr. Kelleher. But the real question is--let us say that in 
2005 AIG was then subject to cost-benefit analysis and a 
designation process. First of all, we know no one anticipated 
AIG happening, the money market fund failure happening, 
anticipating any of that. So the ability to anticipate the cost 
and benefit associated with designating any one of those firms 
before the last crisis we know for a fact is actually 
impossible.
    So AIG would not have been designated because you would 
not--it would never have been designated if you had a cost-
benefit analysis requirement in 2005. It has got nothing to do 
with managerial competence or incompetence. And one person did 
testify as to that, Doug, but you well know that there is much 
other testimony as to why it is AIG failed, and it was not 
merely missing the collateral calls.
    Chairman Shelby. Earlier, some of you were here, I believe, 
when Secretary of the Treasury Lew--I asked him if he would 
oppose a statutory process to allow a firm working with the 
Council to avoid the designation before the designation was 
made final. Surprisingly, he said he would oppose such a 
process. That was my understanding.
    Assuming that is what he said--and I think it was--why 
would the administration not support a process whereby we would 
have fewer systemically risky firms? Do you have any idea?
    Mr. Stevens. Well, as you know, Mr. Chairman, our testimony 
indicates that allowing a firm at that point to de-risk, that 
is, to address those circumstances, activities, aspects of its 
business model that are raising outsize risk to the financial 
system will probably be the quickest and most effective way of 
dealing with the risk that the Council perceives rather than 
supervising it through the Fed and admiring the problem any 
further. We absolutely believe that is a reasonable 
additional----
    Chairman Shelby. I do, too.
    Mr. Stevens. ----requirement or authority under the 
statute.
    Chairman Shelby. Doctor, do you agree with that?
    Mr. Holtz-Eakin. I agree with that, and there is an 
additional benefit in that other firms watching the process can 
now have visible demonstrations of what it takes to avoid 
designation, modify their activities in advance, and generate a 
safer system.
    Chairman Shelby. Mr. Kelleher.
    Mr. Kelleher. Two thoughts. First of all, I think that the 
companies being looked at have a much better, deeper, and 
actually nuanced understanding of why they are raising the 
risks, what those risks are, and why they are getting 
designated.
    What these requests really are getting to is they would 
like a road map that is basically a one-size-fits-all check-
the-box so that they can try and get out of the designation. 
What we need, though, is what we have, which is a process that 
allows us to evolve as risks evolve, business activities and 
markets evolve. And I am surprised that some of the entities 
and people actually suggesting that a Government agency should 
work with a private company almost in a consulting capacity to 
suggest how they could modify their business practices to 
reduce their risk.
    The company knows what the risks are. If they choose to 
make those business decisions and de-risk, then they can ask to 
be de-designated, and there is a full process for de-
designation.
    Chairman Shelby. But banks, they do it all the time.
    Mr. Kelleher. With all due respect, Mr. Chairman--and you 
know better than I know the process for supervision of banks, 
and the way the Fed and the FDIC supervise banks literally on a 
daily process and an ongoing process, that with thousands and 
thousands of employees, they are in a position to look at the 
loan book and how the loan book is working and how to give 
advice as to where the risks are coming under the CAMEL 
reports. That is not the role of FSOC, and that is not the role 
of FSOC as decided by the Congress and executive branch when 
they passed the law. To put the FSOC in the business of working 
with private companies to help de-risk them strikes me as a 
rather dramatic change and maybe unprecedented for a Government 
agency.
    So I am often surprised when I see my friends who are often 
accused to be of a different political persuasion than I am 
suggesting such involvement in the private sector.
    Mr. Stevens. Mr. Chairman, I have tried to be brief, but 
could I add one further thing?
    Chairman Shelby. Absolutely.
    Mr. Stevens. I was struck by Secretary Lew's comment, and 
what I conclude from it is that the resistance to the idea of 
de-risking, either by the primary regulator or by the firm, is 
that the FSOC would not know exactly what to tell them as to 
how to go about that. And that is the reason for the lack of 
specificity in their determinations, and it is, frankly, the 
reason that--what this really boils down to is size is the 
single metric. That is the metric that is coming out of the 
Financial Stability Board with respect to funds of the sort 
that our members offer: $100 billion, you are systemically 
important; $1 trillion by a manager, you are systemically 
important. The analysis will end and begin there.
    Chairman Shelby. Mr. Hughes, I did not give you a chance on 
that.
    Mr. Hughes. Yeah, I heard the same thing when the Secretary 
testified, and I guess I am sitting here scratching my head a 
little bit as to why a goal of this entire process should not 
be to have a system where there are not systemically important 
institutions. And if an organization like FSOC can put itself 
in a position to work with those institutions to de-risk 
further--I mean, you gave the example of MetLife de-banking. 
Obviously that was not enough from the perspective of FSOC. And 
I do not understand the problem with if the goal is to have no 
institutions that are systemically important, which I think it 
should be, why wouldn't FSOC work with these institutions? And 
I think that the answer is, well, these are nonbanks, they are 
very complex, so, gee, we will just assume that they have 
material financial risks and then we will take it from there. 
That is not the right approach.
    Chairman Shelby. Is it lack of knowledge on their part of 
insurance companies?
    Mr. Hughes. Well, you know, you mentioned that FSOC voted 
with its collective wisdom. With all due respect to the members 
of FSOC, there is not a whole lot of deep insurance expertise 
on the Council. And we have been working with the Federal 
Reserve on capital standards. To their credit, they are on a 
steep learning curve, but there is still a long way to go.
    So the frustration is that people with insurance expertise 
said, ``We do not agree with the decision,'' and then the 
collective wisdom----
    Chairman Shelby. That is why they dissented, did they not?
    Mr. Hughes. Correct. And then the people that do not have 
the depth of knowledge said, well, let us just say they are 
systemic and----
    Chairman Shelby. Well, I think we all want strong insurance 
companies, strong banks. We want all of that.
    Dr. Holtz-Eakin.
    Mr. Holtz-Eakin. I do not think it is fair to call this a 
consulting exercise. You know, firms are aware of their risks. 
They know their portfolio risk, their liquidity risk, their 
counterparty risk. They know their leverage. It is in their 
business interest to have a full command of those risk 
management tools.
    Chairman Shelby. Absolutely.
    Mr. Holtz-Eakin. What they do not know is the magic potion 
where you mix those up and deliver one ounce of systemic risk. 
And all they are asking is for some guidance on that so that 
they can reduce the risk the FSOC is tasked with controlling. 
That could be qualitative. It could say out of those six 
categories, this is the most important, this is second, this is 
third. It could be quantitative. But it cannot be zero.
    Chairman Shelby. Well, I think they should not be able to 
game the evaluation, you know, of designation, but they should 
know what the criteria is to where they can operate a sound and 
safe institution. Do you all agree with that?
    [Witnesses nodding.]
    Chairman Shelby. Gentlemen, thank you very much for your 
testimony and your patience here today. The Committee is 
adjourned.
    [Whereupon, at 4:07 p.m., the hearing was adjourned.]
    [Prepared statements, responses to written questions, and 
additional material supplied for the record follow:]
                   PREPARED STATEMENT OF JACOB J. LEW
                 Secretary, Department of the Treasury
                             March 25, 2015
    Chairman Shelby, Ranking Member Brown, and Members of the 
Committee, thank you for inviting me here today to discuss the 
Financial Stability Oversight Council's nonbank financial company 
designations process.
    As no one here needs reminding, the financial crisis caused great 
hardship for millions of individuals and families in communities 
throughout the country, and revealed some central shortcomings of our 
financial regulatory framework. We witnessed the effects of lax 
regulation and supervision for financial firms like Lehman Brothers and 
AIG. These names have already been written into history as companies 
whose failure, or near failure, helped contribute to the near-collapse 
of the financial system. At the time, the regulatory structure was ill-
equipped to oversee these large, complex, interconnected financial 
companies. This outdated structure also meant that regulators had 
limited tools to protect the financial system from the failure of these 
companies. As a result, the American taxpayer had to step in with 
unprecedented actions to stop the financial system from collapsing.
    Congress responded with an historic and comprehensive set of 
financial reforms--the Dodd-Frank Wall Street Reform and Consumer 
Protection Act--to put in place critical reforms for taxpayers, 
investors, and consumers. The aim of this reform is to guard against 
future crises while making sure taxpayers are never again put at risk 
for the failure of a financial institution.
    To lead the effort to better protect taxpayers, Wall Street Reform 
created FSOC. FSOC is the first forum for the entire financial 
regulatory community to come together, identify risks in the financial 
system, and work collaboratively to respond to potential threats to 
financial stability. Over the past 5 years, FSOC has demonstrated a 
sustained commitment to working collaboratively to fulfill its 
statutory mission in a transparent and accountable manner. This work 
has not been easy; we built a new organization and developed strong 
working relationships among FSOC members and their staffs to allow the 
types of candid conversations, exchange of confidential, market 
sensitive information, and tough questions that will make our financial 
system safer.
    Today, FSOC convenes regularly to monitor market developments, to 
consider a wide range of potential risks to financial stability, and, 
when necessary, to take action to protect the American people against 
potential threats to the financial system. Our approach from day one 
has been data-driven and deliberative, while providing the public with 
as much transparency as possible regarding our actions and views. We 
have published four annual reports that describe our past work and 
future priorities; regularly opened FSOC meetings to the public; 
published minutes of all of our meetings that include a record of every 
vote the FSOC has ever taken; and solicited public input on both our 
processes and areas of potential risk.
    I and the other members nonetheless recognize that FSOC is a young 
organization that should be open to changes to its procedures when good 
ideas are raised by stakeholders. Just over the last year alone, FSOC 
has enhanced its transparency policy, strengthened its internal 
governance, solicited public comment on potential risks from asset 
management products and activities, and adopted refinements to its 
nonbank financial company designations process.
    I believe that our adoption of these changes to the nonbank 
financial company designations process represents a prime example of 
the way FSOC should go about refining its processes without 
compromising its fundamental ability to conduct its work. Last year, 
prior to making any changes, FSOC conducted extensive outreach with a 
wide range of stakeholders. The FSOC Deputies Committee--senior staff 
who coordinate FSOC activities--hosted a series of meetings in November 
with more than 20 trade groups, companies, consumer advocates, and 
public interest organizations. We also solicited input from each of the 
three companies then subject to a designation. FSOC discussed the 
findings from this outreach and proposed changes during a public 
meeting in January.
    FSOC adopted a set of supplemental procedures last month. These 
changes address the areas that stakeholders were most interested in and 
formalized a number of existing FSOC practices regarding engagement 
with companies. Under the new procedures, companies will know early in 
the process where they stand, and they will have earlier opportunities 
to provide input. Additionally, the changes will provide the public 
with additional information about the process, while still allowing 
FSOC to meet its obligation to protect sensitive, nonpublic materials. 
And finally, FSOC will provide companies with a clearer and more robust 
annual review process. This will open the door to more engagement with 
FSOC following a designation to make sure there is ample opportunity to 
discuss and address any specific issues that a company wants to put 
before the FSOC. These changes strengthen the FSOC's process while also 
addressing many of the suggestions made from stakeholders.
    Despite our responsiveness and willingness to engage with 
stakeholders in this case and others--but perhaps due in part to our 
successful pursuit of our mission--some opponents of reform have been 
trying to undermine the FSOC, its members and its ability to respond to 
potential threats to financial stability. Many of the arguments levied 
at FSOC are not based on the actual record, and opponents object to our 
efforts to bring regulators together to work collaboratively to monitor 
risks and protect the U.S. financial system. But Congress gave FSOC a 
clear mission to address the kinds of risks and regulatory gaps that 
resulted in the financial crisis, and we are doing what Congress asked 
us to do, using the tools Congress gave us.
    I am pleased to report to this Committee that the vast majority of 
key reforms contained in Wall Street Reform are now in place, due to 
the hard work and diligence of the independent regulatory agencies. We 
have made substantial progress since the law's enactment almost 5 years 
ago toward shaping a financial system that is safer, more resilient, 
and supportive of long-term economic growth. I would like to take a 
moment to briefly highlight some key milestones that illustrate the 
scope and significance of Wall Street Reform.

    Regulators now have tools to address the riskiness of the 
        largest, most complex firms--whether banks or nonbanks--in a 
        manner that is commensurate with their systemic footprint.

    In addition, resolution planning and the orderly 
        liquidation authority--a tool that Members on both sides of the 
        aisle in this Committee helped craft--give us the ability to 
        allow any financial firm to fail without putting the rest of 
        the financial system at risk, and--just as importantly--without 
        imposing costs on U.S. taxpayers.

    The previously unregulated swaps market, notionally valued 
        at around $600 trillion dollars, has been fundamentally 
        transformed through the introduction of a comprehensive 
        regulatory regime that is making these markets safer and more 
        transparent.

    The Volcker Rule, which was adopted in late 2013 and is 
        scheduled to take effect this summer, prohibits banks from 
        speculative short-term trading and fund investing for their own 
        accounts. This important rule will reduce both the incentive 
        and ability of banks to take excessive risks, and limit 
        conflicts of interest.

    And with creation of the CFPB, we now have a financial 
        regulator dedicated to looking out for consumers and protecting 
        them from deceptive, unfair, and abusive practices by mortgage 
        originators, payday lenders, and debt collectors, to name a 
        few. To date, CFPB enforcement actions have resulted more than 
        $5 billion in relief to 15 million consumers who have been 
        harmed by illegal practices.

    Other recently completed reforms include: implementing 
        enhanced prudential standards for the largest U.S. bank holding 
        companies and for foreign banking organizations operating in 
        the United States; new rules requiring banking organizations to 
        hold sufficient liquidity buffers; establishing financial 
        sector concentration limits, which set a cap on growth by 
        acquisition for the largest financial companies; risk retention 
        requirements for asset-backed securitizations; and enhanced 
        leverage requirements to strengthen and backstop firms' risk-
        based capital standards.

    Finally, enhanced prudential standards continue to be 
        applied in a manner that focuses the most stringent 
        requirements on those few firms that pose the greatest risks to 
        financial stability, including a proposed capital surcharge 
        that is proportional to the risks posed by the largest and most 
        complex banks. Also, there is a proposal for a new minimum 
        standard for total loss-absorbing capacity (TLAC). This 
        proposed standard would strengthen the capital framework to 
        help ensure that the largest and most complex banks have 
        sufficient capital to absorb losses, and would help facilitate 
        an orderly resolution in a manner that minimizes any impact on 
        financial stability if the bank fails.

    Today, because of Wall Street Reform, the financial system is in a 
more robust and resilient position than it was prior to the crisis. We 
have reduced overall leverage in the banking system. Banks have added 
over $500 billion of capital since the crisis to serve as a buffer for 
absorbing unexpected losses. The recently completed annual stress tests 
cover a wider swath of institutions, and illustrate that our largest 
banks have sufficient capital to withstand adverse shock scenarios and 
continue to lend to businesses.
    In fact, despite suggestions by some that Wall Street Reform would 
impair our economic growth, the exact opposite has been true. While 
banks have adjusted to more prudent rules, they continue to increase 
lending to small businesses and families, helping to fuel the creation 
of 12 million jobs over 60 straight months of job growth--a record that 
our economy, with a safer financial system, continues to build on. This 
progress is both real and consequential.
    The true test of reform should not be whether it prevents firms 
from taking risk or making mistakes, but whether it shapes a financial 
system strong and resilient enough to support long-term economic growth 
while remaining innovative and dynamic. In working toward this end, 
Treasury and the independent regulators continue to monitor carefully 
the effects of new reforms and to ensure that they are properly 
calibrated to the size, complexity, and risk profiles of individual 
institutions. Just as the business environment is constantly evolving, 
the regulatory community must be flexible enough to keep up with new 
challenges--including making adjustments where necessary and remaining 
vigilant to new emerging threats.
    No law is perfect. But let me be clear: we will vigilantly defend 
Wall Street Reform against any change that increases risk within the 
financial system, weakens consumer, investor, or taxpayer protections, 
or impedes the ability of regulators to carry out their mission. Amid 
these discussions of technical fixes and tweaks to Wall Street Reform, 
we must not forget what we learned from the financial crisis: our 
financial firms are constantly evolving, and we must remain alert and 
responsive to new challenges in a dynamic system, toward the ultimate 
goal of maintaining the safety, soundness, and resiliency of our 
financial system.
    We must also not forget who will pay a steep price if Congress 
rolls back critical safeguards, weakens oversight, and waters down 
appropriate rules of the road. It will be companies that play by the 
rules and serve their customers well. It will be small businesses who 
need access to credit to grow their businesses and create jobs. It will 
be working men and women trying to save for their children's education, 
a downpayment on a home, and their own retirement.
    Promoting financial stability and protecting the American public 
from the next financial crisis should be an objective shared by the 
Administration, regulators, the financial sector, and Members of 
Congress, regardless of party. I look forward to working with this 
Committee, and with Congress as a whole, to continue to make progress 
in creating a more resilient and stable financial system.
                                 ______
                                 
               PREPARED STATEMENT OF PAUL SCHOTT STEVENS
  President and Chief Executive Officer, Investment Company Institute
                             March 25, 2015
Executive Summary
    Designation of systemically important nonbank financial 
        companies is only one of several regulatory tools given the 
        FSOC by the Dodd-Frank Act. Designation of a nonbank financial 
        company as systemically important is intended to and should be 
        used only as a last resort, when the FSOC has found, after 
        thorough analysis based on all the criteria specified in the 
        Act, that a firm poses significant, articulable risks to the 
        stability of the financial system that cannot be remedied 
        through other means.

    ICI supports U.S. and global efforts to address abuses and 
        excessive risk in the financial system, but we are concerned 
        that the FSOC is seeking to exercise its designation authority 
        quite broadly and to the exclusion of other mandates. The 
        opacity of the designation process only exacerbates this 
        problem.

    The FSOC's recent informal changes to its designation 
        process are welcome but fall well short. These changes should 
        be codified in statute to provide greater certainty and 
        predictability to the process. In addition, Congress must act 
        to require the FSOC to give both primary regulators and 
        companies under consideration for designation an opportunity to 
        address identified systemic risks prior to designation. Such 
        steps would support the FSOC's mission both by reducing risks 
        in the financial system and by reserving SIFI designations and 
        the exceptional remedies that flow therefrom only to those 
        circumstances in which they are clearly necessary.

    In none of its nonbank designations thus far has the FSOC 
        chosen to explain the basis for its decision with any 
        particularity. Instead, it appears to have relied on a single 
        metric (a firm's size) to the exclusion of the other factors 
        cited in the Dodd-Frank Act. It also has theorized about risks 
        instead of conducting the kind of thorough, objective, 
        empirical analysis that should underlie its decisions. The FSOC 
        should be explicit about the systemic risks it identifies 
        arising from a firm's structure or activities, and the results 
        of any analysis that might lead to designation should be made 
        public. This would be beneficial on all sides--it would help 
        market regulators and firms address such risks, and it would 
        promote public understanding of and confidence in what the FSOC 
        regards to be systemically risky and why.

    We support the FSOC's review of the asset management sector 
        as the Council fulfills its mandate under the Dodd-Frank Act. 
        We are hopeful it will conclude, as we believe it must, that 
        SIFI designation is unnecessary and inappropriate in the case 
        of funds and their managers. The history of the recent 
        financial crisis demonstrates that, compared to other parts of 
        the financial system, U.S. stock and bond funds exhibited 
        extraordinary stability. Unlike banks, fund managers act solely 
        as agents. This means that fund investors--not fund managers--
        bear the risks and rewards of the fund. Funds use little or no 
        leverage. Their structure, the way they are regulated and 
        managed, and their overwhelmingly retail investor base--these 
        and other factors all help explain why, in the 75-year history 
        of the modern fund business, stock and bond funds have never 
        posed risks to the financial system at large.

    We also support the role of the SEC as the regulatory body 
        best equipped to address any concerns about financial stability 
        with respect to funds and fund managers. While we believe there 
        is no basis for designating them, recent proposals out of the 
        FSB point to the prospect that the FSOC may soon consider 
        designation for many large U.S. funds and their managers. If 
        any of these entities was designated, the consequences would be 
        highly adverse to investors and the capital markets. 
        Application of the bank regulatory remedies set forth in the 
        Dodd-Frank Act to designated stock and bond funds or their 
        managers would raise costs on and jeopardize the interests of 
        fund shareholders, greatly distort the fund marketplace, 
        introduce a highly conflicted model of regulation, and 
        compromise the important role that funds play as a source of 
        financing in the economy.
I. Introduction
    My name is Paul Schott Stevens. I am President and CEO of the 
Investment Company Institute (ICI or Institute), and I am pleased to 
appear before the Committee today to discuss the transparency and 
accountability of the Financial Stability Oversight Council (FSOC or 
Council) and particularly its processes for designating nonbank 
financial companies as systemically important financial institutions 
(SIFls).
    ICI is the national association of U.S. registered investment 
companies, including U.S. mutual funds, closed-end funds, exchange-
traded funds (ETFs) and unit investment trusts. ICI seeks to encourage 
adherence to high ethical standards, promote public understanding and 
otherwise advance the interests of funds, their investors, directors 
and managers. ICI members today manage approximately $17.5 trillion in 
assets and serve more than 90 million investors. These investors rely 
on stock and bond funds to help achieve their most important financial 
goals, such as saving for college, purchasing a home, or providing for 
a secure retirement.
    The Institute traces its origin back to 1940 and passage of the 
landmark Investment Company Act and Investment Advisers Act, statutes 
that the Securities and Exchange Commission (SEC) has administered to 
great effect and that have provided a comprehensive framework of 
regulation for our industry. ICI members are both investors in the 
capital markets and issuers of securities. We understand the important 
role of appropriate regulation in protecting our investors, promoting 
confidence in our markets, and ensuring the resiliency and vibrancy of 
the financial system overall. For these reasons, ICI has been an active 
supporter of U.S. and global efforts to address issues highlighted by 
the global financial crisis. We also have been a strong proponent of 
improving the U.S. Government's capability to monitor and mitigate 
risks across our Nation's financial markets.
    The Dodd-Frank Wall Street Reform and Consumer Protection Act (the 
Dodd-Frank Act), by design, provides an array of tools, in addition to 
SIFI designation authority, to the FSOC and other regulators. For 
example, the FSOC has a risk monitoring role and has the authority to 
identify gaps in regulation and make recommendations to financial 
regulators. \1\ The broad scope of these other authorities should allow 
the FSOC to reserve SIFI designation for those circumstances--thought 
to be quite rare when the Dodd-Frank Act was enacted \2\--in which the 
risks to the financial system as a whole are both large and quite 
plain, and nothing less than designation will suffice to address them.
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     \1\ 12 U.S.C. 5322(a)(2).
     \2\ See Testimony of Chairman Ben S. Bernanke, before the 
Committee on Financial Services, U.S. House of Representatives, July 
24, 2009, available at http://www.federalreserve.gov/newsevents/
testimony/bernanke20090724a.htm (stating that the ``initial number of 
newly regulated firms [SIFIs] would probably be relatively limited'').
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    The record of the Council's activities to date, however, suggests 
that the FSOC may be ignoring this statutory construct and, instead, 
seeking to exercise its designation authority quite broadly. The highly 
opaque process of the FSOC leading to designation has only exacerbated 
the problem, raising serious concerns about whether its determinations 
have adequate factual bases, take public comment into sufficient 
account, and can be subject to appropriate oversight. Without engaging 
more meaningfully with the public and with entities under review, the 
FSOC has appeared to be in headlong pursuit of designations based on 
foreordained conclusions rather than on rigorous and objective 
empirical analysis.
    To truly advance financial stability, the FSOC's process must be 
open to the public, analytically based and grounded in the historical 
record. The history of the recent crisis demonstrates that America's 
stock and bond funds exhibited extraordinary stability. In particular, 
it is important for the FSOC to consider carefully how different stock 
and bond funds and their managers are from banks. Unlike banks, fund 
managers act solely as agents, which means fund investors--not fund 
managers--bear the risk of any loss, or the benefit of any gain, in a 
portfolio. Moreover, registered funds use little to no leverage. The 
structure of these funds, the ways in which they are comprehensively 
regulated and managed, and their overwhelmingly retail investor base--
these and other factors all help explain why, in the 75-year history of 
the modern fund industry, stock and bond funds have never experienced a 
``run'' of the sort to which banks are subject.
    As discussed below, we hope the FSOC's recently announced changes 
to its SIFI designation process will increase communications and 
interaction with firms that are under review. More, however, needs to 
be done. These recent procedural changes were instituted informally and 
should be codified in statute. In addition, Congress should amend the 
Dodd-Frank Act to ensure that an institution targeted for designation 
and that institution's primary regulator have the opportunity to 
address and mitigate any ``systemic risks'' the institution may pose 
prior to final SIFI designation. Bipartisan legislation introduced in 
the 113th Congress by Reps. Dennis Ross (R-FL) and John Delaney (D-MD), 
and four cosponsors, the ``FSOC Improvement Act of 2014'', would codify 
these and other good Government reforms to the SIFI designation 
process. Ultimately, this reasonable, bipartisan approach would enhance 
the ability of the FSOC to ameliorate systemic risk.
    In addition, we believe it is imperative for Congress to revisit 
the remedies that follow upon SIFI designation in the asset management 
sector, and certainly so in the case of registered funds or their 
managers. The remedies currently provided for in the Dodd-Frank Act--
i.e., imposition of bank-style capital requirements and prudential 
supervision by the Federal Reserve--not only are unnecessary but are 
altogether inappropriate in the case of registered funds and their 
managers. They would inflict substantial harm on fund investors and 
retirement savers, distort the fund marketplace, and impede the 
important role that funds play as a vital source of funding in our 
capital markets. As noted, we do not believe that funds or fund 
managers merit SIFI designation. But, if a fund or fund manager were 
deemed to be systemically important, Congress should look to the SEC, 
and not the Federal Reserve, to conduct appropriately enhanced 
oversight of its activities.
    In Section II below, we outline our concerns about the FSOC's SIFI 
designation process, explain the limitations of the recent changes to 
the process that have been adopted by the FSOC, analytically why 
further action is necessary. In Section III, we explain why the lack of 
specifics in the FSOC's designations undermines the utility and 
fairness of the process. In Section IV, we set forth the basis for our 
concerns that the FSOC determinations be grounded in empirical data and 
historical experience, rather than the theory and conjecture as seems 
to be the Council's approach to stock and bond funds and their 
managers. In Section V, we discuss the ongoing FSOC process with regard 
to asset managers. Finally, in Section VI, we conclude with an 
explanation of the many worrisome consequences of inappropriately 
designating funds and asset managers, which would harm investors and 
financial markets.
II. The FSOC's SIFI Designation Process Should Be More Transparent and 
        Accountable
    The FSOC's SIFI designation process has been the subject of 
widespread criticism. Members of Congress from both parties have 
submitted numerous letters and statements expressing their own 
concerns. In 2014, for example, a bipartisan group of five Senators 
stated that one of the greatest problems with the SIFI designation 
process ``is a lack of transparency and accountability.'' \3\ The 
Government Accountability Office (GAO) likewise has urged the FSOC to 
make changes to its process, including ``improv[ing] communications 
with the public.'' \4\ Last year, several trade associations formally 
petitioned the FSOC to make changes to the SIFI designation process, 
including allowing entities undergoing review to receive more 
information and interact more extensively with the Council and its 
staff. \5\
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     \3\ See ``Letter to The Honorable Jacob J. Lew, Secretary, U.S. 
Department of the Treasury, Chairman of the FSOC, from Sen. Mark Kirk 
(R-IL), Sen. Thomas Carper (D-DE), Sen. Patrick Toomey (R-PA), Sen. 
Claire McCaskill (D-MO), Sen. Jerry Moran (R-KS)'', dated Jan. 23, 
2014, (stating that ``we strongly urge the FSOC and other governing 
bodies not to base any policy or regulation actions grounded on the 
information in the OFR study . . . . The OFR study mischaracterizes the 
asset management industry and the risks asset managers pose, makes 
speculative assertions with little or no empirical evidence, and, in 
some places, predicates claims on misused or faulty information''). 
Senator Mark Warner has also noted that SIFI designation analysis 
``should follow a rigorous and transparent process, using reliable 
data, so that regulators and the marketplace can be armed with the best 
information possible.'' ``Letter to The Honorable Jacob J. Lew, 
Secretary, U.S. Department of the Treasury, Chairman of the FSOC, from 
Sen. Mark Warner (D-VA)'', dated May 9, 2014. House Financial Services 
Chairman Jeb Hensarling also noted that, with the exception of the 
national security agencies dealing in classified information, the 
``FSOC may very well be the Nation's least transparent Federal 
entity.'' ``Statement of Chairman Jeb Hensarling before House Financial 
Services Committee, Hearing on `The Annual Report of the Financial 
Stability Oversight Council' (June 24, 2014). See also ``Letter to The 
Honorable Jacob J. Lew, Secretary, U.S. Department of the Treasury, 
Chairman of the FSOC, from Rep. Carolyn B. Maloney (D-NY), Ranking 
Member, Subcommittee on Capital Markers and Government Sponsored 
Enterprises'', dated July 29, 2014. In a letter to Federal regulators, 
Chairman Hensarling and others also commented that the ``lack of 
transparency and due process injects needless uncertainty and 
instability into our financial markets.'' ``Letter to The Honorable 
Jacob J. Lew, Secretary, U.S. Department of the Treasury, Chairman of 
the FSOC; The Honorable Janet Yellen, Chair, The Federal Reserve 
System; and The Honorable Mary Jo White, Chair, SEC, from Rep. Jeb 
Hensarling (R-TX), Chairman, House Financial Services Committee, and 
the respective Subcommittee Chairmen'', dated May 9, 2014.
     \4\ See GAO, New Council and Research Office Should Strengthen the 
Accountability and Transparency of Their Decisions (Sept. 2012), 
available at http://www.gao.gov/assets/650/648064.pdf; GAO, Continued 
Actions Needed To Strengthen New Council and Research Office (Mar. 14, 
2013), available at http://www.gao.gov/products/GAO-13-467T; GAO, 
Further Actions Could Improve the Nonbank Designation Process (Nov. 
2014), available at http://www.gao.gov/assets/670/667096pdf.
     \5\ The American Council of Life Insurers, the American Financial 
Services Association, the Association of Institutional Investors, the 
Financial Services Roundtable, and the Asset Management Group of the 
Securities Industry and Financial Markets Association, ``Petition for 
FSOC Rulemaking Regarding the Authority To Require Supervision and 
Regulation of Certain Nonbank Financial Companies'', (Aug. 19, 2014), 
available at http://fsroundtable.org/rulemaking-petition-fsoc/.
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    In response to these repeated calls for change, the FSOC in 
November 2014 convened meetings with interested parties to discuss 
potential procedural reforms and thereafter, in February 2015, issued 
``supplemental procedures'' to revise its SIFI designation process. The 
changes include, among other things, earlier notice to and opportunity 
to submit information by companies and their primary regulators under 
Stage 2 active review; meetings with the FSOC's Deputies Committee to 
allow companies in Stage 3 to present relevant information or 
arguments; a commitment to grant requests for oral hearings from 
companies in Stage 3; notices explaining a decision not to rescind a 
designation; and oral hearings for designated companies once every 5 
years. \6\
---------------------------------------------------------------------------
     \6\ FSOC, ``Supplemental Procedures Relating to Nonbank Financial 
Company Determinations'' (Feb. 4, 2015), available at http://
www.treasury.gov/initiatives/fsoc/designations/Documents/Supplemental-
Procedures-Related-to-Nonbank-Financial-Company-Determinations-
February-2015.pdf.
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    ICI welcomes these changes, which were overdue, as an initial 
positive step towards providing greater fairness and clarity in the 
designation process. Nonetheless, more needs to be done to improve the 
FSOC's designation process. As it stands, the FSOC retain the absolute 
discretion to eliminate or change the new ``supplemental procedures'' 
at any time and without prior notice. Instead, the recent changes 
should be codified in law. This would provide a highly desirable 
predictability and certainty about FSOC's designation process.
    In addition, we believe Congress must act to reform the FSOC's 
designation process \7\ in ways that will advance the Dodd-Frank Act's 
dual goals of reducing systemic risk while reserving SIFI designation 
as a tool to be used only in truly exceptional cases:
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     \7\ As noted, bipartisan legislation introduced in the 113th 
Congress by Reps. Dennis Ross (R-FL) and John Delaney (D-MD), and four 
cosponsors, H.R. 5180, the FSOC Improvement Act, would codify these and 
other good Government reforms to the SlFI designation process. 
Additional provisions in the hill include important annual and 5-year 
reviews of prior SIFI designations in order to provide important 
information to firms and to the public about as to how previously 
designated SIFIs can take measures to ameliorate risks.

    First, the FSOC should allow a targeted firm's primary 
        financial regulator an opportunity, prior to designation, to 
        address any systemic risks identified by the FSOC. A company's 
        primary regulator generally will have greater expertise and 
        regulatory flexibility than the FSOC to address identified 
        risks. By way of example, the SEC already has the necessary 
        authority--and is taking steps--to strengthen oversight of 
        asset managers and funds, including by expanding oversight of 
        risk management in key areas and enhancing its collection of 
        mutual fund data. \8\
---------------------------------------------------------------------------
     \8\ ``Remarks at the New York Times DealBook Opportunities for 
Tomorrow Conference'', Mary Jo White, Chair, SEC (Dec. 11, 2014), 
available at http://www.sec.gov/News/Speech/Detail/Speech/
1370543677722#.VJMKZ14AKB.

    Second, an entity being reviewed for SIFI designation 
        should have an opportunity to make changes to its structure or 
        business practices to address identified systemic risks prior 
        to designation. Allowing a firm the opportunity to change its 
        business model or practices often may be the most effective way 
---------------------------------------------------------------------------
        to address the identified risks.

    These reforms would further the objectives of promoting market 
discipline and reducing systemic risk, all while reserving designation 
for the exceptional circumstances for which it was intended. It also 
would avoid undue imposition of the remedies outlined in the Dodd-Frank 
Act on nonbank institutions for which they are clearly inappropriate. 
As specified in the Act, those remedies include the following: a risk 
based capital requirement potentially as high as 8 percent; \9\ 
``enhanced prudential supervision'' by the Federal Reserve; \10\ and 
susceptibility to paying into a resolution fund in the event of the 
failure of a bank SIFI. \11\ We discuss the consequences of these 
statutory remedies for funds and their managers in Section VI below.
---------------------------------------------------------------------------
     \9\ 12 U.S.C. 5371. An unresolved inconsistency between two 
provisions in the Dodd-Frank Act calls into serious question just how 
much flexibility the Federal Reserve would have to limit the 
application of capital requirements to any U.S. mutual fund designated 
as a SlFI or G-SIFI. Although one provision of the Dodd-Frank Act gives 
the Federal Reserve discretion in applying capital standards to nonbank 
SIFIs (Section 165(b)(1)(A)(i) of the Dodd-Frank Act (providing the 
Federal Reserve authority to determine that capital standards are 
inappropriate for a particular SIFI and to substitute ``other similarly 
stringent risk controls.'')), another provision--known as the ``Collins 
Amendment''--may not (see Section 171 of the Dodd-Frank Act, which 
requires the imposition of minimum-leverage capital and risk-based 
capital standards on any SIFI).
     \10\ 12 U.S.C. 5365.
     \11\ 12 U.S.C. 539(o)(1)(D)(ii)(l).
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Ill. The Absence of Particularity in SIFI Determinations Impedes 
        Interested Parties From Understanding and Benefiting From the 
        FSOC's Analyses
    Providing a company and its primary financial regulator an 
opportunity to mitigate identified systemic risks prior to designation 
would have the added benefit of requiring the FSOC to explain the bases 
for its designation decisions with some particularity. As discussed 
below, this is not something the FSOC has done in any of its nonbank 
SIFI designations thus far. Requiring an appropriate degree of 
specificity would enable the firm under consideration, the firm's 
principal regulator, other market participants, Congress and the public 
at large to understand the specific reasons for the FSOC's actions, 
thus enhancing both the transparency and accountability of the Council 
and its actions.
    The Dodd-Frank Act permits the FSOC to designate a nonbank 
financial institution as ``systemically important'' in one of two 
situations. The FSOC may designate a firm if either (1) the company's 
material financial distress (the First Determination Standard) or (2) 
the nature, scope, size, scale, concentration, interconnectedness, or 
mix of the company's activities (the Second Determination Standard), 
could pose a threat to the financial stability of the United States. 
\12\ To date, the FSOC has predicated all of its nonbank SIFI 
determinations on the basis of the First Determination Standard and has 
not addressed whether the activities of the company could pose a threat 
to the financial stability of the United States. In its 2014 report on 
improving the FSOC designation process, the GAO noted the FSOC's 
exclusive reliance on the First Determination Standard, and expressed 
concern that the approach was flawed and would lead the FSOC to ignore 
certain risks. \13\
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     \12\ 12 U.S.C. 5323(a)(1).
     \13\ See GAO, ``Further Actions Could Improve the Nonbank 
Designation Process'' (Nov. 2014), available at http://www.gao.gov/
assets/670/667096.pdf.
---------------------------------------------------------------------------
    In effect, the approach taken by the FSOC has led to designations 
that appear to be based on a firm's size, rather than on the basis of 
the more complete and detailed analysis of a firm's activities and the 
risks they present, as the Dodd-Frank Act envisioned. \14\ The FSOC's 
State insurance commissioner representative stated, in response to the 
MetLife, Inc. (MetLife) designation, that ``the [FSOC] has failed to 
address the criticism that it did not conduct a robust analysis of 
characteristics of MetLife beyond its size,'' and that without more 
specific details on the bases for determination, ``any large company 
could meet the statutory standard applied by the [FSOC].'' \15\ In 
fact, Congress expressly required in the Dodd-Frank Act that the FSOC 
consider at least 10 statutory factors, only 2 of which directly relate 
to an institution's size. \16\ By avoiding any discussion of the 
particular aspects or activities of an institution that are thought to 
pose systemic risks, the FSOC not only forecloses the prospect of any 
meaningful, reasoned justification for its decisions, but also 
frustrates congressional intent.
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     \14\ The Financial Stability Board (FSB) has proposed to take a 
similarly flawed approach, focusing in its second consultation on the 
size of firms to the exclusion of other factors. See FSB, ``Second 
Consultative Document: Assessment Methodologies for Identifying Nonbank 
Non-Insurer Global Systemically Important Financial Institutions'' 
(Mar. 4, 2015), available at http://www.financialstabilityboard.org/wp-
content/uploads/2nd-Con-Doc-on-NBNI-G-SIFI-methodologies.pdf.
     \15\ Adam Hamm, ``View of the State Insurance Commissioner 
Representative'' (Dec. 2014), available at http://www.treasury.gov/
initiatives/fsoc/designations/Documents/
Dissenting%20and%20Minority%20Views.pdf.
     \16\ See 12 U.S.C. 5323(a)(2). The two considerations are 12 
U.S.C. 5323(a)(2)(I) and (J), which require the FSOC to consider 
``the amount and nature of the financial assets of the company'' and 
``the amount and types of the liabilities of the company, including the 
degree of reliance on short-term funding,'' respectively.
---------------------------------------------------------------------------
    In addition, and equally troubling, the FSOC's exclusive reliance 
on the First Determination Standard does nothing to inform a designated 
nonbank firm, other market participants, Congress or the general public 
about the primary drivers (if any, other than size) of the Council's 
designation decision. It therefore offers the firm no insight into how 
it might ``de-risk'' and thereby no longer merit SIFI designation or 
require application of the exceptional remedies specified in the Dodd-
Frank Act. This is an odd result indeed if the object of the exercise 
is to eliminate or minimize what are thought to be outsized risks to 
the financial system at large.
    The GAO's 2014 study makes a similar point. The GAO found that even 
nonpublic documentation of Stage 3 evaluations--the final stage of the 
FSOC's multistaged analytic process--did not include sufficient detail 
on the bases for the FSOC's determinations. \17\ In dissenting from 
MetLife's SIFI designation, S. Roy Woodall, the presidentially 
appointed independent member of the FSOC with insurance expertise, 
noted that basing determinations solely on the First Designation 
Standard ``does little else to promote real financial system reform'' 
because it does not provide ``constructive guidance for the primary 
financial regulatory authorities, the [Federal Reserve] Board of 
Governors, international supervisors, other insurance market 
participants and, of course, MetLife itself, to address any [systemic] 
threats posed by the company.'' \18\
---------------------------------------------------------------------------
     \17\ See GAO, ``Further Actions Could Improve the Nonbank 
Designation Process'', at 35 (Nov. 2014), available at http://
www.gao.gov/assets/670/667096.pdf (stating that the FSOC's nonpublic 
documentation ``could have benefited from inclusion of additional 
detail about some aspects of its designation decisions'').
     \18\ S. Roy Woodall, ``Views of the Council's Independent Member 
Having Insurance Expertise'' (Dec. 2014), available at http://
www.treasury.gov/initiatives/fsoc/designations/Documents/
Dissenting%20and%20Minority%20Views.pdf.
---------------------------------------------------------------------------
    The FSOC should be explicit about the systemic risks it identifies 
arising from a firm's structure or activities. It should provide enough 
detail to enable both a company and its primary regulator to respond 
substantively with proposals to mitigate the risk. This is beneficial 
on all sides--systemic risk would be curbed, the public and market 
might gain insight on what activities or structures the FSOC considers 
to be systemically risky and why, and the firm could avoid unnecessary 
and potentially inappropriate regulation and supervision.
IV. The FSOC's Approach to Designation Is Predicated on Conjecture, as 
        Opposed to Empirical Data
    If the FSOC were required to provide greater specificity about the 
bases for its designation decisions, as the Dodd-Frank Act anticipates, 
it would be more likely to engage in the kind of robust, empirically 
based, data-driven, ``bottom up'' analysis that one would reasonably 
expect in connection with such a significant regulatory determination. 
Such an approach would take fully into account all of the factors that 
Congress enumerated in Section 113 of the Dodd-Frank Act, including the 
degree to which a firm already is regulated and the prospects of using 
that preexisting regulatory structure to address perceived risks. It 
would help ensure that designations are not made on the basis of 
prejudgment or conjecture or on ``implausible, contrived scenarios''; 
it also would make the FSOC far less susceptible to criticism, from 
within its own ranks, for ``failures to appreciate fundamental 
aspects'' of a potential designee's business, products, and services. 
\19\ Remarkably, in dissenting to Prudential Financial, Inc.'s 
(Prudential) designation as a SIFI, Mr. Woodall observed the following:
---------------------------------------------------------------------------
     \19\ Id.

        Key aspects of [the FSOC's] analysis are not supported by the 
        record or actual experience; and, therefore, are not 
        persuasive. The underlying analysis utilizes scenarios that are 
        antithetical to a fundamental and seasoned understanding of the 
        business of insurance, the insurance regulatory environment, 
        and the State insurance company resolution and guaranty fund 
        systems . . . . [T]he grounds for the Final Determination are 
        simply not reasonable or defensible, and provide no basis for 
        me to concur. \20\
---------------------------------------------------------------------------
     \20\ S. Roy Woodall, ``Views of the Council's Independent Member 
Having Insurance Expertise'' (Sept. 19, 2013), available at 
www.treasury.gov/initiatives/fsoc/councilmeetings/Documents/
September%2019%202013%20Notational%20Vote.pdf.

    The State insurance representative on the FSOC, John Huff, agreed; 
he found the FSOC's analysis of Prudential to be ``flawed, 
insufficient, and unsupportable.'' \21\
---------------------------------------------------------------------------
     \21\ John Huff, ``View of Director John Huff, the State Insurance 
Commissioner Representative'' (Sep. 2013), available at http://
www.treasury.gov/initiatives/fsoc/council-meetings/Documents/
September%2019%202013%20Notational%20Vote.pdf.
---------------------------------------------------------------------------
    Moreover, this highly theoretical approach is not unique to the 
FSOC. The Financial Stability Board (FSB) recently issued a second 
consultation on evaluation criteria for nonbank, noninsurer global 
SIFIs (NBNI G-SIFls). \22\ In this second consultation, the FSB frankly 
states that ``the NBNI G-SIFI assessment methodologies aim to measure 
the impact that an NBNI financial entity's failure can have on the 
global financial system and the wider economy, rather than the 
probability that a failure could occur.'' \23\ Apparently, if bank 
regulators meeting in Switzerland can conjure up some ``systemic'' 
concern, then their conjecture can serve as a basis for global 
policymaking--even if it has no historical, factual or even rational 
predicate. When we have argued for a process informed by facts, we 
often have been invited to prove a negative--that is, to demonstrate 
that the hypothetical risks so articulated cannot arise.
---------------------------------------------------------------------------
     \22\ FSB, supra note 14.
     \23\ Id. at 10, emphasis in the original.
---------------------------------------------------------------------------
    In sum, the way in which the FSOC has approached the question of 
nonbank SIFI designation has every feel of a result-oriented exercise 
as opposed to an objective analysis--where a single blunt metric (size) 
dwarfs the other statutory factors and mere hypotheses are used to 
compel a seemingly predetermined outcome--i.e., that designation is 
required.
    We believe Congress expected, and it should demand, something more 
of the FSOC. SIFI designation should be predicated on a thorough, 
objective analysis of a specific institution, its structure and 
activities, its historical experience, the ways in which it is 
regulated currently and ocher empirical information, including all the 
factors set out in the Dodd-Frank Act--and the results of this analysis 
should be made available to the public. Relatedly, if it determines to 
consider asset managers and their funds for SIFI designation, the FSOC 
should subject the metrics and thresholds used to evaluate such 
entities to notice and comment. \24\ With such a focus on facts, the 
FSOC also would do well to consider whether using one of the other 
tools that the Dodd-Frank Act makes available to it would be more 
appropriate than SIFI designation. Indeed, requiring a consideration of 
the costs and benefits of designation would put the FSOC's decision 
making on par with the Administrative Procedure Ace's requirements for 
significant rulemakings and the Obama administration's executive orders 
regarding rulemaking processes. \25\
---------------------------------------------------------------------------
     \24\ The FSOC has warned that it may use other methods to assess 
the asset management industry, but, as a bipartisan group of 
Congressmen has pointed out, ``the FSOC: should . . . publicly disclose 
the economic models, data, and analysis that support its approach 
before taking any steps to identify particular asset management 
entities for SIFI designation.'' Letter to The Honorable Jacob J. Lew, 
Secretary, U.S. Department of the Treasury, Chairman of the FSOC, from 
Reps. Dennis Ross (R-FL) and John Delaney (DMD) and 39 other members of 
the House Financial Services Committee (May 9, 2014). Publicizing the 
metrics will ensure the FSOC is not relying on inaccurate data and 
false assumptions, such as those in the Office of Financial Research's 
Asset Management Study.
     \25\ Exec. Order No. 13,563, 76 Fed. Reg. 3821 (Jan. 21, 2011) 
(requiring certain agencies to engage in cost-benefit analysis before 
rulemaking); Exec. Order 13,579, 76 Fed. Reg. 41585 (July 14, 2011) 
(encouraging independent regulatory agencies to engage in cost-benefit 
analysis before rulemaking).
---------------------------------------------------------------------------
V. The FSOC's Review of Asset Management Appears Similarly Flawed
    A 2013 report on asset management written by the Office of 
Financial Research (OFR), the research arm of the FSOC, heightened our 
concerns with the FSOC's SIFI review process and demonstrated the need 
for increased public input. The report was the subject of withering 
criticism--for reflecting a deeply inaccurate understanding of the 
asset management industry, for rendering sweeping conclusions 
unsupported by data or analysis and for lacking clarity, precision, and 
consistency in its scope, focus, and use of data. \26\
---------------------------------------------------------------------------
     \26\ See, e.g., ``Letter to the Honorable J. Lew, Secretary, U.S. 
Department of the Treasury, Chairman of the FSOC, from Sen. Mark Kirk 
(R-IL), Sen. Thomas Carper (D-DE), Sen. Patrick Toomey (R-PA), Sen. 
Claire McCaskill (D-MO), Sen. Jerry Moran (R-KS)'', dated Jan. 23, 
2014, (stating that the report ``mischaracterizes the asset management 
industry and the risks asset managers pose, makes speculative 
assertions with little or no empirical evidence, and in some places, 
predicates claims on misused or faulty information''); ``Letter to The 
Honorable Jacob J. Lew, Secretary, U.S. Department of the Treasury, 
Chairman of the FSOC, from Sen. Mike Crapo (R-lD)'', dated Jan. 27, 
2014 (stating that ``OFR's failures to take into account the 
perspectives of and data from market participants will result in flawed 
evaluation of the asset management industry by FSOC and, worse, a move 
towards designation of asset management firms as SIFIs without an 
accurate understanding of the rule they play in the financial 
system''); Daniel M. Gallagher, Commissioner, SEC, ``Public Feedback on 
OFR Study on Asset Management Issues'' (May 14, 2014), available at 
http://www.sec.gov/comments/am-1/am1-52.pdf. (citing multiple critics 
of the asset management report and calling the report ``a botched 
analysis that grossly overstates--indeed, in many cases simply invents 
without supporting data--the potential risks to the stability of our 
financial markets posed by asset management firms'').
---------------------------------------------------------------------------
    Regrettably, the FSOC appears to be persisting in this pattern of 
reliance on conjecture and hypothesis in its consideration of liquidity 
and redemption risks associated with investment vehicles that are 
offered by asset managers. Its recent Notice Seeking Comment on Asset 
Management Products and Activities (the Notice) \27\ simply assumes a 
variety of potential threats to the financial system arising from asset 
management, much as the OFR report did in 2013. For example, the Notice 
hypothesizes that shared trading costs for stock and bond funds create 
a unique and powerful incentive for fund investors to redeem en masse 
in the face of a market decline, potentially leading to severe 
additional downward pressure on markets. The Notice points to no 
historical experience nor any empirical data to support this 
hypothesis. In fact, there is none: the hypothesis is based on a series 
of assumptions that simply do not reflect how stock and bond funds and 
their managers operate nor how their investors behave, as the Institute 
discusses in detail in its comment letter to the FSOC to be filed on 
March 25, 2015. Even if this hypothesis were at all plausible, there is 
nothing to suggest it would in fact pose a risk to financial stability.
---------------------------------------------------------------------------
     \27\ 80 Fed. Reg. 7595 (Feb. 5, 2015), available at http://
www.gpo.gov/fdsys/pkg/FR-2015-02-11/pdf/2015-02813.pdf.
---------------------------------------------------------------------------
    While we are concerned with the highly theoretical nature of some 
of the questions presented in the Notice, ICI commends the FSOC for 
seeking public comment on this occasion. We hope and expect that 
Council members will thoroughly review and give due consideration to 
all the public comments they receive, including the extensive research 
and commentary submitted by ICI and its members. A transparent, fact-
based and fair FSOC process with respect to funds and their managers--
one that takes full account of the structure and characteristics of 
these entities, the ways in which they operate, the 75-year history of 
the industry, and the highly effective framework of regulation under 
which it currently operates--will, we believe, allay any concerns that 
funds or their managers pose risks to the financial system meriting 
SIFI designation.
VI. The Consequences of Inappropriate Designations Would Be Severe
    Ensuring that the FSOC meets high standards of transparency and 
accountability as it exercises its authority under the Dodd-Frank Act 
is vitally important: its designations carry with them exceptional 
consequences. In the case of funds and their managers, we submit that 
there is no basis for designation--and, if they were designated, the 
consequences would be highly adverse to investors and the capital 
markets.
    As noted above, if a fund or its manager were to be designated a 
SIFI, the Dodd-Frank Act could require it to meet bank-level capital 
requirements. The fund or manager would have to cover the costs of its 
``enhanced prudential supervision'' by the Federal Reserve. It would 
bear a share of the costs of the FSOC and OFR annually. It would even 
be subject to assessments to cover the cost of bailing out another SIFI 
if one were to fail, thus exposing fund investors (likely retirement 
savers) to having to foot the bill.
    All of these costs would be unique to the designated fund or 
manager, and thus uniquely borne by that fund complex. The fund 
marketplace in the U.S. is highly competitive. There are many 
substitutable funds and providers from which to choose, and our 
investors and their financial advisers are properly focused on the 
impact of fees and expenses on long-term investment results. It is not 
apparent that a stock and bond fund or manager saddled with the 
additional costs of being a SIFI can remain fully competitive under 
these circumstances. Its shareholders may have very strong incentives 
to invest elsewhere. SIFI designation for some funds or fund managers 
thus stands to greatly distort the fund marketplace.
    Of still more fundamental concern are the implications of 
``enhanced prudential supervision'' of a stock or bond fund or its 
manager by the Federal Reserve. The bank model of regulation seeks 
first and foremost to preserve the safety and soundness of banks and 
the banking system. It contrasts strongly with the model of regulation 
enshrined in the Investment Company Act and Investment Advisers Act as 
administered by the SEC. Under that model, the adviser to a fund owes 
the fund's shareholders an exclusive duty of loyalty and care--and one 
of the SEC's primary missions is to protect the fund investors' 
interests.
    An overlay of bank regulation thus would introduce a new and 
troubling dynamic of conflicted regulation. For example, a SIFI-
designated stock and bond fund or its manager would be expected to 
comply with the Federal Reserve's directions about how to manage its 
investment portfolio, irrespective of the fund adviser's or independent 
directors' fiduciary duties or the best interests of the fund's 
shareholders. This is not a theoretical concern. In the aftermath of 
the financial crisis, some bank regulators vocally criticized fund 
managers for acting to protect their investors from financial losses by 
not maintaining short-term investments with banking institutions that 
were at risk of failure. \28\ The priority of the bank regulators, of 
course, was not protecting the interests of the fund investors, but 
propping up failing banks and thereby the banking system.
---------------------------------------------------------------------------
     \28\ ``Remarks at the Federal Reserve Bank of New York Workshop on 
Fire Sales as a Driver of Systemic Risk in Triparty Repo and Other 
Secured Funding Markets'', Jeremy C. Stein, Member, Board of Governors 
of the Federal Reserve System (Oct. 4, 2013), available at http://
www.federalreserve.gov/newsevents/speech/stein20131004a.htm; ``Remarks 
at the Global Research Forum on International Macroeconomics and 
Finance on Dollar Funding and Global Banks'', Jeremy C. Stein, Member, 
Board of Governors of the Federal Reserve System (Dec. 17, 2012), 
available at http://www.bis.org/review/r121218c.pdf.
---------------------------------------------------------------------------
    Just this kind of approach to regulating asset managers is 
something that Federal Reserve Governor Daniel K. Tarullo explicitly 
called for in a recent speech--terming it ``prudential market 
regulation,'' something needed to provide a ``systemwide perspective'' 
that would trump traditional investor protections and market regulation 
and respond to ``systemwide demands.'' \29\ Presumably, any fund or 
manager designated a SIFI henceforward would be put to the service of 
two masters--the Federal Reserve in the interests of the ``system,'' 
and secondarily the fund's shareholders.
---------------------------------------------------------------------------
     \29\ ``Remarks at the Office of Financial Research and Financial 
Stability Oversight Council's 4th Annual Conference on Evaluating 
Macroprudential Tools: Complementarities and Conflicts'', Daniel K. 
Tarullo, Member of the Federal Reserve System (Jan. 30, 2015 ), 
available at http://www.federalreserve.gov/newsevents/speech/
tarullo20150130a.pdf.
---------------------------------------------------------------------------
    Moreover, a SIFI regime for funds or their managers likely will 
result in highly prescriptive regulations and a common sec of 
``approved'' investments within portfolio structures--just as the Basel 
standards pushed banks toward a standard portfolio of ``lower-risk'' 
assets, and thus helped usher in the financial crisis of 2008. This is 
the model that the Federal Reserve would bring to asset management. 
With it would come decreasing diversification, increasing correlation, 
great volatility, and more--not less--risk. Such requirements would 
ultimately compromise and diminish the exceptional role that funds play 
as a source of financing to the economy.
    That the remedies in the Dodd-Frank Act seem altogether 
inappropriate when applied to stock and bond funds and their managers 
is perhaps not surprising: during consideration of the Dodd-Frank Act, 
there was no thought that these remedies would be applied to a part of 
the financial system that had remained comparatively so resilient even 
in the midst of the crisis.
    This underscores the need for Congress to craft, with respect to 
asset management, a very different set of remedies that would flow from 
any SIFI designation. If the FSOC does identify systemic risks in the 
asset management sector, we believe enhanced oversight by the SEC, and 
not by the Federal Reserve, is appropriate.
    The figure [below] illustrates just how consequential allowing the 
FSOC and the Federal Reserve to proceed down the current path is likely 
to be. In connection with its ``Workstream on Other Shadow Banking 
Entities'', \30\ led personally by Governor Tarullo, the FSB recently 
released for public comment proposed thresholds for identifying the 
pool of asset managers and individual funds that automatically would be 
evaluated for potential designation as G-SIFIs. The FSB proposes 
alternative thresholds for funds and for asset managers. The below 
chart applies the broader FSB threshold for funds--any fund with assets 
of more than $100 billion in assets. For asset managers the below chart 
applies the FSB's $1 trillion under management threshold.
---------------------------------------------------------------------------
     \30\ FSB, supra note 14.
---------------------------------------------------------------------------
    The vast majority of the funds and asset managers that 
automatically would be evaluated under these criteria are U.S. firms. 
Applying these thresholds to our industry--something that seems to be 
highly likely if the FSB adopts them \31\--we estimate that more than 
half of the $6.3 trillion in assets in defined contribution plans would 
fall either directly or indirectly under the ``enhanced prudential 
supervision'' and thus the ``prudential market regulation'' of the 
Federal Reserve, assuming that the funds and managers meeting the 
thresholds are designated. More broadly, we estimate that well over 
half--nearly $10 trillion--of the $18 trillion in assets that U.S. 
households have invested in mutual funds, ETFs, or other registered 
investment companies would fall under such supervision by the Federal 
Reserve.
---------------------------------------------------------------------------
     \31\ We note that all insurance companies that have been 
designated as SIFIs were first designed by the FSB as global 
systemically important insurers (G-SIIs).


    We do not believe that any Member of Congress had any conceivable 
notion of the prospect that this extraordinary expansion of Federal 
Reserve authority could result from the Dodd-Frank Act. Surely, 
however, important participants today in the FSOC and FSB are well 
aware of it. And, ironically, there are voices in the bank regulatory 
community urging that the real problem with the FSOC is not that it has 
too little accountability, but that it has too much--and give due 
consideration to all these extraordinary new regulatory powers with a 
very high degree of independence from Congress and the executive 
branch. \32\
---------------------------------------------------------------------------
     \32\ See, e.g., Donald Kohn, ``Institutions for Macroprudential 
Regulation: The U.K. and the U.S.'' (Apr. 17, 2014), available at 
http://www.brookings.edu/research/speeches/2014/04/17-institutions-
macroprudential-regulation-kohn (advocating for a change in the FSOC's 
structure ``to enhance its independence'').
---------------------------------------------------------------------------
    In conclusion, let me say that ICI and all its members have deep 
concerns about the transparency, accountability, and fairness of the 
FSOC process. We by no means object to the Council's examination of 
asset management as it weighs possible outsized risks to the financial 
system. What we do ask is simple, and nothing more than common sense 
and good governance would seem to require:

    The FSOC should consider all the tools available to it to 
        mitigate risks, not simply SIFI designation;

    SIFI designations should have a clear and compelling 
        empirical basis and take into account all the factors Congress 
        enumerated in statute;

    The FSOC should communicate with particularity the bases 
        for its designations;

    Congress should ensure that there is an opportunity for 
        ``de-risking'' by a primary regulator and by the institution 
        concerned in advance official SIFI designation; and

    In the event that the FSOC does not heed the volume of data 
        to the contrary and designates a stock or bond fund or asset 
        manager as a SIFI, Congress should ensure that the remedies to 
        which the designated fund or manager is subject are appropriate 
        ones, for those currently contained in the Dodd-Frank Act 
        clearly are not.

    We appreciate the opportunity to share these views with the 
Committee. ICI looks forward to working with Congress on reforming the 
FSOC's SIFI designation process to ensure that it works as Congress 
intended.
                                 ______
                                 
               PREPARED STATEMENT OF DOUGLAS HOLTZ-EAKIN
                    President, American Action Forum
                             March 25, 2015
    Chairman Shelby, Ranking Member Brown, and Members of the 
Committee, thank you for the opportunity to appear today and share my 
views on the Financial Stability Oversight Council (FSOC or the 
Council) nonbank designation process.* FSOC's mission is to identify, 
monitor, and address threats to America's financial stability. Yet 
without significant changes to the process by which nonbank financial 
companies (NBFCs) are designated as systemically important and 
regulated, FSOC risks losing the confidence of the public and 
policymakers and burdening the economy without resultant benefits. In 
my testimony, I wish to make three main points:
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    *I thank Marisol Garibay, Sarah Hale, and Andy Winkler for their 
assistance. The views expressed here are my own and not those of the 
American Action Forum.

    FSOC's process thus far has prioritized designation and 
        regulation of institutions over the identification of 
        activities that pose systemic threats, and done so in a 
        fundamentally flawed manner. I applaud the Committee for taking 
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        a critical look at this process and all its implications;

    Further clarity is needed on the metrics leading to 
        designation. And equally important, companies must be able to 
        address the activities identified as posing systemic risk, 
        avoid a designation, and, if unable to do the aforementioned, 
        have a path exiting designation;

    Finally, recently adopted procedures to open up FSOC and 
        improve communication with firms under review should be 
        commended as a good first step.

    Let me provide additional detail on each in turn.
Current Nonbank Designation Process
    Title I, Subtitle A, of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act (Dodd-Frank Act) established FSOC, outlined the 
Council's powers, and introduced factors that must be considered when 
designating NBFCs as systemically important financial institutions 
(SIFIs). Because banking companies with over $50 billion in assets are 
automatically considered SIFIs in the Dodd-Frank Act, key issues 
involving designation revolve around nonbanks.
    Specifically, Section 113 of the Dodd-Frank Act gives FSOC the 
authority by two-thirds vote (including the chairperson) to bring a 
NBFC under increased supervision and regulation by the Federal Reserve 
Board (FRB) if the Council determines that ``material financial 
distress at the U.S. nonbank financial company, or the nature, scope, 
size, scale, concentration, interconnectedness, or mix of the 
activities of the U.S. nonbank financial company, could pose a threat 
to the financial stability of the United States.'' \1\ In making that 
determination, the Dodd-Frank Act lists 10 criteria for FSOC to 
consider along with ``any other risk-related factors that the Council 
deems appropriate.'' \2\ As such, FSOC has broad authority statutorily 
when evaluating companies for SIFI designation. In April 2012, FSOC 
released a final rule and interpretive guidance on the process it uses 
to designate SIFIs. \3\ The Council recently voted to supplement that 
process during its February 2015 meeting following an internal review 
and input from the public and stakeholders. \4\
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     \1\ 12 U.S.C. 5323 (a)(1).
     \2\ 12 U.S.C. 5323 (a)(2)(K).
     \3\ ``Authority To Require Supervision and Regulation of Certain 
Nonbank Financial Companies; Final Rule and Interpretive Guidance'', 77 
Federal Register 70 (April 11, 2012) pp. 21637-21662; https://
federalregister.gov/a/2012-8627.
     \4\ FSOC, ``Supplemental Procedures Relating to Nonbank Financial 
Company Determinations'', (February 4, 2015); http://www.treasury.gov/
initiatives/fsoc/designations/Documents/
Supplemental_Procedures_Related_to_Nonbank_Financial_Company_Determinati
ons-February_2015.pdf.
---------------------------------------------------------------------------
    The three-stage evaluation process FSOC developed is intended to 
narrow the pool of companies potentially subject to designation by 
applying specific thresholds based on 11 criteria included in Section 
113 of the Dodd-Frank Act. The 11 criteria have been incorporated into 
six overarching framework categories that FSOC considers: (1) size, (2) 
interconnectedness, (3) leverage, (4) substitutability, (5) liquidity 
risk and maturity mismatch, and (6) existing regulatory scrutiny. Table 
1 highlights how thresholds in these categories are applied and how 
scrutiny increases as a company advances through each stage. However, 
in practice, it is not clear the weight given to certain factors over 
others or what makes a designation more likely.


    Table 2 includes a summary of all changes adopted in February, many 
of which attempt to address the need for increased transparency and 
communication. Items shaded in gray are substantially similar to 
reforms previously highlighted in past work by the American Action 
Forum.\5\ \6\ \7\ \8\
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     \5\ ``Authority To Require Supervision and Regulation of Certain 
Nonbank Financial Companies; Final Rule and Interpretative Guidance'', 
77 Federal Register 70 (April 11, 2012) p. 21661; https://
federalregister.gov/a/2012-8627.
     \6\ Satya Thallam, ``Considering an Activity-Based Regulatory 
Approach to FSOC'', (September 12, 2014) http://
americanactionforum.org/research/considering-an-activity-based-
regulatory-approach-to-fsoc.
     \7\ Satya Thallam, ``Reform Principles for FSOC Designation 
Process'', (November 11, 2014) http://americanactionforum.org/research/
reform-principles-for-fsoc-designation-process.
     \8\ Satya Thallam, ``Reform Principles for FSOC Designation 
Process (Cont'd),'' (January 15, 2015); http://americanactionforum.org/
solutions/reform-principles-for-fsoc-designation-process-contd.


    Because Dodd-Frank gives FSOC such expansive authority to set the 
specific determinants of a SIFI designation, FSOC's operational 
procedures have largely been set internally and through the regulatory 
rulemaking process. Table 3 outlines the actions FSOC and the Federal 
Reserve Board have taken to date to define their procedures, receive 
feedback from the public, and exercise their authority to designate 
NBFCs and regulate them. Since its creation, four NBFCs (AIG, GE 
Capital, Prudential Financial, and MetLife) have already been 
affirmatively voted as SIFIs. FSOC voted unanimously to designate AIG 
and GE Capital in June 2013 and reaffirmed their status last year. The 
votes to designate Prudential Financial and MetLife, in September 2013 
and December 2014, respectively, were not unanimous--both included 
objections from the voting and nonvoting members of FSOC with insurance 
experience.


Primary Criticisms and Recommended Changes
    Established in Section 113 of the Dodd-Frank Act, FSOC has been 
given the difficult task of identifying and monitoring threats to U.S. 
financial stability in real-time. However, there is no single or simple 
way to measure and mitigate systemic risk. In fact, the process FSOC 
has developed to designate NBFCs as SIFIs can also disrupt markets and 
impose unnecessary regulatory burdens and costs that outweigh its 
benefits to the economy. So despite recent improvements, FSOC's process 
needs more rigorous quantitative analysis, respect for other regulators 
and their expertise, greater concern for market impacts, and a clear 
path for the removal of a designation. Here is further detail on the 
issues FSOC reforms should address:
    1. FSOC's lack of transparency and failure to provide meaningful 
information on the determinants leading to designation result in 
unclear guidance on systemic threats. While FSOC is right to worry 
about the effect of leaks and disclosures of proprietary information, 
room still exists for the release of more information detailing issues 
in the broadest, macro terms. According to a report issued by the 
Government Accountability Office (GAO), ``FSOC's transparency policy 
states its commitment to operating transparently, but its documentation 
has not always included certain details.'' \9\ GAO recommended, ``To 
enhance disclosure and strengthen transparency, the Secretary of the 
Treasury, in consultation with FSOC members, . . . should include 
additional details in its public basis documentation about why FSOC 
determined that the company met one or both of the statutory 
determination standards.'' \10\ Designation decisions available to the 
public should reflect the shared goal of minimizing systemic threats; 
if there is a specific activity or subsidiary of a designated firm that 
poses an acute threat, the final decision should disclose it. 
Furthermore, GAO is not alone in suggesting more open communication 
with the public and companies under consideration, the Bipartisan 
Policy Center and many others have echoed such concerns. \11\
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     \9\ GAO, ``Financial Stability Oversight Council: Further Actions 
Could Improve the Nonbank Designation Process'', (November 20, 2014); 
http://www.gao.gov/products/GAO-15-51.
     \10\ Ibid.
     \11\ Bipartisan Policy Center, Economic Policy Program--Financial 
Regulatory Reform Initiative, ``Dodd-Frank's Missed Opportunity: A Road 
Map for a More Effective Regulatory Architecture'', (April 2014); 
http://bipartisanpolicy.org/library/report/dodd-frank's-missed-
opportunity-road-map-more-effective-regulatory-architecture.
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    2. If there is a particular activity or activities that threaten 
the financial system, a company should be able to work with FSOC to 
remediate the problem. As a company moves through FSOC's 3-stage 
evaluation process, FSOC does not inform companies of what changes 
could be made to either their structure or operations to avoid 
designation. While FSOC has outlined the characteristics it considers 
in its evaluation process, it is still not clear the weight they give 
to certain factors over others or what makes a designation more likely. 
In the supplemental procedures adopted in February, FSOC made some 
effort toward increasing the amount of communication between firms 
under consideration and FSOC staff. Yet ultimately, the Council does 
not encourage companies to work with the Office of Financial Research 
and FSOC staff to clearly define a potential systemic threat through 
data and modeling, explore lower cost alternatives to designation, and 
then move forward if a company cannot remediate the problem. In meeting 
its aim of financial stability, FSOC should consider all the tools 
available instead of quickly moving to designation.
    3. FSOC should consider the effectiveness of existing primary 
regulators and defer to their expertise when designating nonbanks. 
While FSOC is comprised of relevant financial regulators, each one has 
different expertise and experience. A firm's primary regulator should 
be given an enhanced role in designation proceedings. Thus far this has 
not been the case; insurance company designations proceeded with little 
respect for State regulators and over the objections of FSOC's voting 
and nonvoting members with insurance expertise. \12\
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     \12\ See FSOC's Meeting Minutes for September 19, 2013 and 
December 18, 2014: http://www.treasury.gov/initiatives/fsoc/council-
meetings/Documents/September_19_2013_Notational_Vote.pdf and http://
www.treasury.gov/initiatives/fsoc/council-meetings/Documents/
December_18_2014_Meeting_Minutes.pdf.
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    4. FSOC's institution-by-institution approach engenders disparate 
treatment and misses the key issue, identifying activities and 
practices that generate systemic risks. After designating AIG, 
Prudential Financial and MetLife, FSOC appeared it would move next to 
asset managers. Yet that institution-by-institution approach misses the 
key issue: what specific activities or practices generate systemic 
risks? In this regard, activity-based regulation is more comprehensive 
as it will identify all of the market participants engaged in an 
activity that could pose a threat to stability. This is substantially 
better than singling out one or a few large firms or funds for 
designation, which creates disparities in regulation across firms and 
sectors that could have a very real and unintended economic costs. 
Positively, FSOC has shown it is open to an activity-based approach in 
assessing the risks posed by asset managers. However, FSOC has acted 
inconsistently thus far in its approach to insurance companies. \13\
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     \13\ For a more thorough discussion, see Satya Thallam, 
``Considering an Activity-Based Regulatory Approach to FSOC'', 
(September 12, 2014) http://americanactionforum.org/research/
considering-an-activity-based-regulatory-approach-to-fsoc.
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    5. Designation decisions must be supported by evidence, rooted in 
rigorous economic analysis, and backed by statutory authority. In his 
dissent from the FSOC's SIFI designation of Prudential Financial, Roy 
Woodall, appointed by President Obama as FSOC's independent member with 
insurance expertise, noted his concerns about the analytical rigor of 
the designation process stating, ``The underlying analysis utilizes 
scenarios that are antithetical to a fundamental and seasoned 
understanding of the business of insurance.'' \14\ John Huff, the 
nonvoting member of the Council representing State insurance 
regulators, echoed Woodall's concerns, writing in his dissent, ``The 
analysis contained in the basis for the final determination in large 
part relies on nothing more than speculation.'' \15\ Experts have 
further argued that the analytical processes behind designations are 
generally far too opaque and likely insufficient. \16\ Additionally, 
FSOC has stated it does not intend to ``conduct cost-benefit analyses 
in making determinations with respect to individual nonbank financial 
companies,'' reflecting how recent designations have failed to 
accurately assess the implications of SIFI designations on the 
insurance industry. \17\
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     \14\ Roy Woodall, ``Views of the Council's Independent Member 
Having Insurance Expertise'', (Sept. 2013); http://www.treasury.gov/
initiatives/fsoc/council-meetings/Documents/
September_19_2013_Notational_Vote.pdf.
     \15\ John Huff, ``View of Director John Huff, the State Insurance 
Commissioner Representative'', (Sept. 2013); http://www.treasury.gov/
initiatives/fsoc/council-meetings/Documents/
September%2019%202013%20Notational%20Vote.pdf.
     \16\ Peter Wallison, American Enterprise Institute, ``What the 
FSOC's Prudential Decision Tells Us About SIFI Designation'', (March 
2014); http://www.aei.org/outlook/economics/financial-services/banking/
what-the-fsocs-prudential-decision-tells-us-about-sifi-designation/.
     \17\ ``Authority To Require Supervision and Regulation of Certain 
Nonbank Financial Companies'', 77 Fed. Reg. 21640 (April 11, 2012) 
(Amending 12 CFR 1310); https://federalregister.gov/a/2012-8627.
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    FSOC should attempt to fully assess the economic effect, both costs 
and benefits, of designating only certain nonbanks as SIFIs. This means 
producing a convincing model that a firm's failure, its financial 
distress, or its activities could destabilize the financial system. In 
such a way, FSOC can demonstrate what is at stake and how a designation 
will help, and then justify the costs. Preventing the next financial 
crisis may undoubtedly have enormous benefit, but FSOC has not clearly 
outlined how each firm or industry segment it has scrutinized poses an 
actual threat to stability. Since the economic cost of eliminating 
systemic risk entirely is prohibitive, FSOC's goal must be to find the 
``right'' amount of risk, a difficult feat since FSOC can neither 
measure its progress nor know its target. Because of the difficulty of 
regulating entities posing only a potential systemic threat, 
designations should be firmly rooted in sound economic analyses that 
explore all costs and benefits (as well as alternatives to designation) 
and be substantially justified by applicable Dodd-Frank Act statutes.
    6. Annual reevaluation should not be a check-the-box exercise, but 
a genuine opportunity for a nonbank SIFI to address Council concerns 
and exit designation. SIFI designation should not be indefinite. FSOC 
must create a process that permits firms to address risks and avoid 
designation. Once designated, FSOC revisits the designation annually 
and must vote only to rescind, creating little more than a check-the-
box exercise. SIFIs should have a way to ``de-risk,'' address the 
concerns or activities raised by FSOC that merited a designation, and 
follow an exit ramp from SIFI status. Whether through sunset provisions 
or other policy options, the changes announced in February do not go 
far enough to tackle this issue.
    7. FSOC and its staff must continue to actively engage the public, 
experts, and stakeholders to comprehensively examine potential systemic 
threats, firm types, and changes in the financial economy environment 
as well as areas for FSOC procedural improvement. Last fall FSOC began 
the process of reviewing and evaluating its SIFI designation process 
for nonbanks, seeking input from stakeholders and assessing potential 
changes. Ultimately, this process led to the adoption of a number of 
positive steps toward increasing communication between FSOC staff and 
firms under review and adding transparency to the process. If anything, 
this should encourage FSOC to continue to collaborate with 
stakeholders, seek input from the public, and continue to advance 
efforts that open up its opaque process. As FSOC considers increasingly 
different potential threats, firms, and industry changes, engagement 
with outside experts will be integral and may substantially improve 
public confidence in its efforts.
    8. The Federal Reserve's role as chief regulator of designated 
firms will likely endanger and diminish its independence, which should 
concern lawmakers. The Federal Reserve Board is the chief regulator of 
all firms designated as SIFIs, whether insurance companies, asset 
managers, or something else. While the Federal Reserve is a world-class 
monetary authority and quality bank regulator, it may struggle to 
tailor regulations for other financial companies outside of its 
expertise. This will also likely lead to greater scrutiny by the 
Congress and endanger central bank independence. In addition to the 
designation process, it may behoove policymakers to consider primary 
regulators in an enhanced supervisory role instead of the Federal 
Reserve Board.
    At a minimum, FSOC must conduct its business in a way that is 
analytically sounder and better grounded in the data and regulatory 
history, with a clear path away from SIFI designation for nonbanks. 
Thank you and I look forward to answering your questions.
                                 ______
                                 
                PREPARED STATEMENT OF DENNIS M. KELLEHER
                President and CEO, Better Markets, Inc.
                             March 25, 2015
    Thank you Chairman Shelby, Ranking Member Brown, and Members of the 
Committee for the opportunity to provide Better Markets' views about 
the Financial Stability Oversight Council (the Stability Council).
    Better Markets is a nonprofit, nonpartisan organization that 
promotes the public interest in the domestic and global capital and 
commodity markets. It advocates for transparency, oversight, and 
accountability with the goal of a stronger, safer financial system that 
is less prone to crisis and failure, thereby eliminating or minimizing 
the need for more taxpayer funded bailouts. To do this, Better Markets 
engages in the rulemaking process, public advocacy, independent 
research, and litigation. For example, it has filed more than 150 
comment letters in the U.S. rulemaking process related to implementing 
the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-
Frank Act) and has had dozens of meetings with regulators. Our Web 
site, www.bettermarkets.com, includes information on these and the many 
other activities of Better Markets.
    I am the President and CEO of Better Markets. Prior to starting 
Better Markets in October 2010, I held three senior staff positions in 
the Senate: Chief Counsel and Senior Leadership Advisor to the Chairman 
of the Democratic Policy Committee; Legislative Director to the 
Secretary of the Democratic Conference; and Deputy Staff Director and 
General Counsel to what is now known as the HELP Committee. Previously, 
I was a litigation partner at the law firm of Skadden, Arps, Slate, 
Meagher, & Flom, where I specialized in securities and financial 
markets in the U.S. and Europe. Prior to obtaining degrees at Brandeis 
University and Harvard Law School, I enlisted in the U.S. Air Force 
while in high school and served 4 years active duty as a crash-rescue 
firefighter. I grew up in central Massachusetts.
``No More AIGs''
    Yesterday, March 24, was the 6 year anniversary of the testimony 
given by then Treasury Secretary Timothy Geithner and then Federal 
Reserve Chairman Ben Bernanke before the House Financial Services 
Committee on the American International Group (AIG) bonus controversy. 
The surprise and shock of the U.S. having to bailout a private, 
international insurance conglomerate like AIG with about $185 billion 
was compounded by the disgust at AIG for nonetheless paying bonuses to 
some of its employees who were involved in the reckless trading that 
led to the collapse of the company and the need for it to be bailed out 
in the first place.
    Triple-A rated AIG's involvement in hundreds of billions of dollars 
of complex, high risk derivatives gambling was a total surprise in 
September 2008. No one (outside of the too-big-to-fail Wall Street 
banks that were its counterparties) had any idea that AIG was in that 
line of business or, more shockingly, had not reserved or set aside 
anything close to sufficient amounts to cover any potential losses. 
Given these facts, and its extensive interconnectedness with the entire 
U.S. and global banking and finance systems, its inability to cover its 
own derivatives gambling losses unexpectedly threatened the collapse of 
the U.S. and world economies.
    The result was an historic, unlimited bailout where, initially, the 
U.S. Government effectively threw money into the massive hole AIG 
created: first, $85 billion, then a week later another $85 billion, 
ultimately reaching about $185 billion in cash bailouts. It is fitting 
that we are here 6 years later discussing the Stability Council because 
its very existence and purpose is to prevent a situation like AIG from 
ever happening again.
    ``No more AIGs'' should be the Stability Council's motto. Never 
again should a private company appear out of nowhere and threaten to 
collapse the entire U.S. and global financial systems. Never again 
should the U.S. Treasury or taxpayers have to cover the losses of a 
private company that threaten the stability of our economy or the 
living standards of our citizens.
    And, most importantly, never again should the U.S. have to suffer 
the consequences of future AIGs: the devastating economic wreckage 
inflicted on Americans from coast to coast who lost their jobs, homes, 
savings, retirements, educations, and so much more. As Better Markets 
has documented, the 2008 crisis will cost the U.S. more than $12 
trillion in lost economic output \1\ That too is why the Stability 
Council was created, and is an important part of its mission.
---------------------------------------------------------------------------
     \1\ Better Markets, ``The Cost of the Wall Street-Caused Financial 
Collapse and Ongoing Economic Crisis Is More Than $12 Trillion'' (Sept. 
15, 2012), available at http://bettermarkets.com/sites/default/files/
Cost%20of%20The%20Crisis_2.pdf.
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No More Economic Calamities From Unexpected Collapses of Companies That 
        Threaten the Stability of the United States
    While only a few short years ago, too many have forgotten--or 
choose to ignore--that the 2008 crash was the worst financial crash 
since the Great Crash of 1929 and caused the worst economy since the 
Great Depression of the 1930s. Just a few highlights of that economic 
wreckage:

    Unemployment and under-employment skyrocketed, peaking in 
        late 2009, early 2010 to a rate of over 17 percent. The one-
        month peak of what is referred to as the ``U6'' rate was almost 
        27 million Americans out of work or forced to work part time 
        rather than fill time as shown below:
        
        
    Housing prices collapsed to 2001 levels and have remained 
        at persistently low levels far beyond the official end of the 
        recession:
        
        
    Americans experienced foreclosure at record rates:


    Tax revenues plummeted at the Federal, State, and local 
        level, and essential spending on social needs skyrocketed as 
        layoffs exploded, causing the deficit and debt to dramatically 
        increase:
        
        
        
        
    This massive economic wreckage resulted from the financial crash of 
2008 and the near collapse of the U.S. and global financial systems. 
The Stability Council was created to be an early warning system to help 
detect and prevent this type of financial, economic, and human calamity 
from ever happening again.
    With that as the essential context for understanding and thinking 
about the Stability Council, the testimony that follows addresses three 
main points:

  1.  Congress created the Stability Council in response to the 
        catastrophic failure of unregulated systemic threats like AIG, 
        and the Stability Council's success is vital to strengthening 
        the financial system and economy while reducing future systemic 
        threats.

  2.  The Stability Council's implementation of Section 113 of the 
        Dodd-Frank Act shows that it is using its power deliberatively 
        and judiciously. And, recent significant changes demonstrates 
        it is listening and responding appropriately to constructive 
        input from stakeholders.

  3.  Additional proposals to change the Stability Council would impair 
        or cripple its ability to protect American families, workers, 
        and taxpayers from another financial crash and economic 
        calamity.
1. Congress Created the Stability Council in Response to the 
        Catastrophic Failure of Unregulated Systemic Threats Like AIG 
        and the Stability Council's Success Is Vital To Strengthening 
        the Financial System and Economy While Reducing Future Systemic 
        Threats
    The Stability Council was created to close the gigantic gap in the 
regulatory system that arose from changes in the financial industry and 
the regulatory rollbacks of the late 1990s. In particular, following 
Congressional passage of the Gramm-Leach-Bliley Act and the Commodity 
Futures Modernization Act, banks, investment firms, derivatives 
dealers, and insurance companies became supersized into enormous, 
complex, global, and interconnected financial companies. While the 
industry changed dramatically, the regulatory system did not, and as a 
result, on the eve of the 2008 financial crisis our financial 
regulators focused, at most, on their specific segment of the financial 
services industry without looking at broader threats and risks. 
Importantly, none of the regulators were responsible for detecting, 
addressing, or preventing unseen, unknown, and unexpected risks and 
threats.
    The best known example of this phenomenon was AIG. In 2008 AIG was 
the world's largest insurance company. However, in addition to selling 
traditional products like health and life insurance, a division of AIG 
called AIG Financial Products (AIG FP) accumulated hundreds of billions 
of dollars of liabilities by selling credit default swaps, a type of 
derivative that ``insured'' the buyer of the swap against certain 
credit risks. This caused AIG to become deeply interconnected through 
the entire financial system. While AIG's traditional insurance business 
was overseen by the States, AIG's other lines of business were supposed 
to be overseen by the Office of Thrift Supervision, a regulator charged 
with overseeing small savings and loans organizations. Due to 
competition among regulators, among other reasons, AIG was able to shop 
around for the weakest regulation possible, which the Office of Thrift 
Supervision provided in exchange for collecting the fees AIG paid for 
its regulation.
    When the mortgage-backed and other securities AIG FP was 
``insuring'' failed, AIG lacked the capital necessary to fulfill its 
obligations. The result is well known: the Federal Government was 
forced to bailout AIG with about $185 billion, take on AIG's 
obligations, bailout its counterparties including many foreign banks, 
and enable the payment of $218 million in bonuses to some of AIG FP's 
executives who were involved in the company's reckless risk-taking in 
the first place.
    AIG's failure, and subsequent bailout, happened in large part 
because no regulator was responsible for overseeing the systemic risk 
posed by the firm or, for that matter, posed by any firm. AIG's 
insurance business was regulated by State insurance commissioners; its 
thrift was insufficiently regulated by the Office of Thrift 
Supervision; and its credit default swaps business was largely 
unregulated due to legal prohibitions on the regulation of such swaps, 
among other reasons.
    That is why, in the immediate aftermath of the crisis, it was very 
widely agreed that fixing this incredibly consequential regulatory gap 
required the creation of a single regulator responsible for overseeing 
systemic risk across the financial system. In fact, following the 
crisis, politicians and financial industry participants testified to 
the public and Congress that one of the essential ways of preventing 
such a crisis from happening again was to create such a systemic risk 
regulator.
    A sample of those statements include the following:

        ``We must create a systemic risk regulator to monitor the 
        stability of the markets and to restrain or end any activity at 
        any financial firm that threatens the broader market.''--Henry 
        Paulson, former Secretary of the Treasury \2\
---------------------------------------------------------------------------
     \2\ ``How To Watch the Banks'', New York Times OP-ED (Feb. 15, 
2010).

        ``One of the reasons this crisis could take place is that while 
        many agencies and regulators were responsible for overseeing 
        individual financial firms and their subsidiaries, no one was 
        responsible for protecting the whole system from the kinds of 
        risks that tied these firms to one another.''--Robert S. 
        Nichols, President and Chief Operating Officer, Financial 
        Services Forum \3\
---------------------------------------------------------------------------
     \3\ Testimony at House Financial Services Committee (July 17, 
2009).

        ``I believe an interagency council with a strong authority in a 
        focused area, in this case monitoring and directing the 
        response to risks that threaten overall financial stability, 
        could, like the [National Security Council], serve the Nation 
        well in addressing complex and multifaceted risks.''--Paul 
        Schott Stevens, President and CEO, Investment Company Institute 
        \4\
---------------------------------------------------------------------------
     \4\ Testimony at Senate Banking Committee hearing (July 23, 2009).

        ``A systemic risk regulator that has access to information 
        about any systemically important financial institution--whether 
        a bank, broker-dealer, insurance company, hedge fund or private 
        equity fund--could have the necessary perspective to ensure 
        firms are not exploiting the gaps between functional 
        regulators, or posing a risk to the larger system.''--Randolph 
        C. Snook, Executive Vice President, Securities Industry and 
        Financial Markets Association (SIFMA) \5\
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     \5\ Testimony at House Financial Services Committee (July 17, 
2009).

        ``The ABA strongly supports the creation of a systemic 
        regulator. In retrospect, it is inexplicable that we have not 
        had a regulator that has the explicit mandate and the needed 
        authority to anticipate, identify, and correct, where 
        appropriate, systemic problems. To use a simple analogy, think 
        of the systemic regulator as sitting on top of Mount Olympus 
        looking out over all the land. From that highest point the 
        regulator is charged with surveying the land, looking for 
        fires. Instead, we have had a number of regulators, each of 
        which sits on top of a smaller mountain and only sees its part 
        of the land. Even worse, no one is effectively looking over 
        some areas. This needs to be addressed.''--Edward L. Yingling, 
        then President and Chief Executive Officer, American Bankers 
        Association \6\
---------------------------------------------------------------------------
     \6\ Testimony at House Financial Services Committee (Mar. 17, 
2009).

    Based in part on this testimony, Congress created the Stability 
Council as part of the Dodd-Frank Act, and tasked the Stability Council 
with the mission of identifying and responding to risks to the 
financial stability of the United States. As such, the Stability 
Council is the front line macroprudential regulator that serves as the 
early warning system needed to identify such threats, and address the 
challenges presented by the shadow-banking system to the financial 
stability of the U.S.
    Congress gave the Stability Council a number of important tools to 
carry out this mission including the ability to:

    Designate nonbank financial companies as systemically 
        important and subject those companies to supervision by the 
        Federal Reserve

    Make policy and enforcement recommendations to primary 
        financial regulators

    Collect information through the Office of Financial 
        Research

    Publish annual reports about systemic risks to the 
        financial system

    In addition, for the first time, the Stability Council enables all 
of the financial regulators to communicate with each other regularly 
and gain the benefit of each regulator's expertise. All of these tools 
provide the Stability Council with the ability to take a holistic view 
of the financial system, just as the ICI, ABA, SIFMA, and Financial 
Services Forum, among many others, said was so necessary.
    The ability to designate nonbank financial companies for prudential 
supervision by the Federal Reserve is among the most important tools 
Congress provided the Stability Council. The ability to designate a 
company for enhanced supervision is the primary mechanism to prevent 
any firm or activity--like the derivatives dealing at AIG FP--from 
slipping through the regulatory cracks. For that reason, ensuring that 
the Stability Council can continue to adequately and appropriately use 
this authority is critically important to protecting America's 
families, workers, savers, communities, taxpayers, financial system, 
and economy as a whole.
2. The Stability Council's Implementation of Section 113 of the Dodd-
        Frank Act Shows That It Is Using Its Power Deliberatively and 
        Judiciously. And, Recent Significant Changes Demonstrates It Is 
        Listening and Responding Appropriately to Constructive Input 
        From Stakeholders
    Under Section 113 of the Dodd-Frank Act, the Stability Council has 
the authority to designate a nonbank financial company for enhanced 
prudential regulation by the Federal Reserve only if it finds that: 
``material financial distress at the U.S. nonbank financial company, or 
the nature, scope, size, scale, concentration, interconnectedness, or 
mix of the activities of the U.S. nonbank financial company, could pose 
a threat to the financial stability of the United States.''
    Before making such a designation, the Stability Council is required 
to consider 10 specific factors, plus any other risk-related factors 
the Stability Council finds appropriate.
    To provide a standard method for considering these designations, on 
April 11, 2012, the Stability Council released a final rule and 
interpretive guidance implementing a three-stage process for 
designating nonbank companies for enhanced regulation, \7\ outlined 
below:
---------------------------------------------------------------------------
     \7\ Financial Stability Oversight Council, ``Authority To Require 
Supervision and Regulation of Certain Nonbank Financial Companies'', 77 
Fed. Reg. 21637 (Apr. 11, 2012).

    In Stage 1, the Stability Council ``narrow[s] the universe 
        of nonbank financial companies to a smaller set'' by evaluating 
        the size, interconnectedness, leverage, and liquidity risk and 
---------------------------------------------------------------------------
        maturity mismatch of nonbanks.

    If a firm has been identified in Stage 1, in Stage 2 the 
        Stability Council then ``conduct[s] a robust analysis of the 
        potential threat that each of those nonbank financial companies 
        could pose to U.S. financial stability,'' based on data from 
        existing public and regulatory sources.

    Finally, if a firm makes it to Stage 3, then the Stability 
        Council conducts a more detailed review using information 
        obtained directly from the nonbank financial company. At this 
        point, the Stability Council, by a two-thirds vote (including 
        that of the Treasury Secretary who is also the Stability 
        Council Chairman), may make a Proposed Determination with 
        respect to any company. A firm subject to a Proposed 
        Determination may request a hearing to contest the 
        determination. After the hearing, the Stability Council may 
        vote, again by two-thirds, to make a Final Determination. 
        Throughout this stage, firms may provide written comments to or 
        meet with Stability Council staff and discuss their potential 
        designation.

    Importantly, on February 4, 2015--not 3 years after finalizing its 
rule and only last month--the Stability Council approved a series of 
very significant changes to the designation process designed to improve 
transparency and public accountability. \8\ (Those changes are attached 
as Exhibit A hereto.) Those changes include:
---------------------------------------------------------------------------
     \8\ Financial Stability Oversight Council, ``Supplemental 
Procedures Relating to Nonbank Financial Company Determinations'' (Feb. 
4, 2015), available at http://www.treasury.gov/initiatives/fsoc/
designations/Documents/Supplemental-Procedures-Related-to-Nonbank-
Financial-Company-Detenninations-February-2015.pdf.

    First, the Stability Council will now engage with companies 
        during the designation process to a greater extent than 
        previously. For example, the Stability Council will notify a 
        company when it is under Stage 2 review, and any such company 
        may provide data for the Stability Council to review prior to 
        Stage 3. The Stability Council will alert companies when they 
        have not been recommended to Stage 3. Finally, the Stability 
        Council will begin communications with a company's primary 
---------------------------------------------------------------------------
        regulator or supervisor during Stage 2, rather than Stage 3.

    Second, the Stability Council will now more fully engage 
        with designated companies during its annual review of a 
        company's designation to improve the de-designation process. 
        Going forward, if a designated company contests its designation 
        during that annual review, and if the Stability Council votes 
        not to rescind the designation, it will provide the company and 
        primary regulators with an explanation why. This change, and 
        others to the de-designation process, are a significant 
        improvement that will adequately allow a designated company to 
        document that it no longer meets the statutory criteria without 
        harming the Stability Council's ability to protect the 
        financial system, the economy, and the public.

    Finally, the Stability Council will provide increased 
        transparency to the public. Previously, if a company announced 
        it was under consideration for designation, the Stability 
        Council would neither confirm nor deny that. Now, if the 
        company publicly confirms that is under consideration the 
        Stability Council will confirm that upon request to do so by a 
        third party. The Stability Council will also annually publish 
        the number of companies considered for designation along with 
        the number of companies considered but not designated. Finally, 
        the Stability Council has agreed to publish further details of 
        how its Stage 1 thresholds are calculated in the future.

    These changes were very significant and telling for two reasons. 
First, as a matter of process, the Stability Council's actions 
demonstrate that it listens carefully to those who comment on its 
activities and responds with meaningful action. Such actions are all 
too rare and the Stability Council should be applauded for doing so.
    Second, as a matter of policy, the changes make the Stability 
Council's designation determinations better, which will ensure better 
outcomes for the firms under review and the public. Increased 
communications between the Stability Council and firms under 
consideration for designation will enable a more robust, data based 
decision-making process based on all material information. 
Additionally, increased public disclosure and transparency will build 
trust and confidence that the Stability Council is on watch and 
fulfilling its important role.
    In its very short life of less than 5 years, the Stability Council 
has designated just four nonbank financial institutions for enhanced 
supervision. In each instance, the Stability Council acted prudently, 
designating the firm only after conducting a thorough analysis and 
concluding that each one satisfied the applicable statutory standards. 
Each fits the requirements for designation by having a systemwide reach 
and being so interconnected with other financial companies that its 
failure would cause damage to the financial system and real economy.
    The clearest example of this is AIG. \9\ AIG was so large and 
interconnected that, as the subprime bubble burst, its credit default 
swap portfolio was so large that it became insolvent, unable to pay its 
counterparties, and had to be bailed out by taxpayers. As the Stability 
Council said in its public final basis for designating AIG, 
``Individual exposures to AIG may be relatively small, but in the 
aggregate, the exposures are large enough that material financial 
distress at AIG, if it were to occur, could have a destabilizing effect 
on the financial markets.''
---------------------------------------------------------------------------
     \9\ Financial Stability Oversight Council, ``Basis of the 
Financial Stability Oversight Council's Final Determination Regarding 
American International Group, Inc.'' (July 8, 2013), available at 
http://www.treasury.gov/initiatives/fsoc/designations/Documents/Basis-
of-Final-Determination-Regarding-General-Electric-Capital-Corporation,-
Inc.pdf.
---------------------------------------------------------------------------
    Furthermore, AIG and its subsidiary are the reference entities 
``for a combined $70 billion in notional single-name CDS, which is 
significant and comparable to several of the largest money-center 
banks, investment banks, bond insurers, and prime brokers,'' meaning 
that its failure would have a large impact on other, non-AIG companies.
    Like AIG, GE Capital was so deeply affected by the financial crisis 
that it required a $139 billion bailout for fear that a collapse would 
greatly affect other financial firms. In its designation, the Stability 
Council explained that ``there is approximately $77 billion in gross 
notional credit default swaps outstanding for which GECC is the 
reference entity:'' even larger that the notional value for AIG. \10\ 
Furthermore, GE Capital's portfolio of assets, $539 billion as of 
December 31, 2012, is ``comparable to those of the largest U.S. BHCs.'' 
As such, among other things, any rapid liquidation of GE Capital's 
assets could lead to a fire sale of the securities of other large 
corporations, including of the largest financial institutions.
---------------------------------------------------------------------------
     \10\ Financial Stability Oversight Council, ``Basis of the 
Financial Stability Oversight Council's Final Determination Regarding 
General Electric Capital Corporation, Inc.'' (July 8, 2013), available 
at http://www.treasury.gov/initiatives/fsoc/designations/Documents/
Basis-of-Final-Determination-Regarding-General-Electric-Capital-
Corporation,-Inc.pdf.
---------------------------------------------------------------------------
    The Stability Council also determined that Prudential met the 
statutory criteria after determining that the financial system is 
significantly exposed to Prudential ``through the capital markets, 
including as derivatives counterparties, creditors, debt and equity 
investors, and securities lending and repurchase agreement 
counterparties.'' \11\ It also found that the complexity and 
interconnectedness of Prudential would make it difficult for the firm 
to be resolved, posing a material threat to U.S. financial stability.
---------------------------------------------------------------------------
     \11\ Financial Stability Oversight Council, ``Basis of the 
Financial Stability Oversight Council's Final Determination Regarding 
Prudential Financial, Inc.'' (Sept. 19, 2013), available at http://
www.treasury.gov/initiatives/fsoc/designations/Documents/
Prudential%20Financial%20Inc.pdf.
---------------------------------------------------------------------------
    The Stability Council made a similar determination in the case of 
MetLife. \12\ In this case, the Stability Council found that there 
would be a severe negative impact on the financial system if a 
situation occurred in which MetLife was forced to liquidate its 
holdings. The Stability Council's public final basis for designating 
the insurance company states that, ``[a] large-scale forced liquidation 
of MetLife's large portfolio of relatively illiquid assets, including 
corporate debt and asset-backed securities (ABS), could disrupt trading 
or funding markets.'' This is because ``[a]s of September 30, 2014, 
MetLife held $108 billion of U.S. corporate securities at fair value, 
and $70 billion of asset-backed securities and mortgage-backed 
securities at fair value.'' The resulting fire sale would depress 
prices for the assets MetLife holds, similar to the fire sale which 
resulted from the Prime Reserve Fund's failure in 2008.
---------------------------------------------------------------------------
     \12\ Financial Stability Oversight Council, ``Basis of the 
Financial Stability Oversight Council's Final Determination Regarding 
MetLife, Inc.'' (Dec. 18, 2014), available at http://www.treasury.gov/
initiatives/fsoc/designations/Documents/MetLife%20Public%20Basis.pdf.
---------------------------------------------------------------------------
    Whatever one wishes to say about the Stability Council's 
designation process or the decisions it has reached, the Stability 
Council can hardly be accused of acting hastily or over-broadly. Four 
designations in less than 5 years is far fewer than what could have 
been done given the number of nonbank financial companies that failed, 
received bailouts, or posed systemic risk during the financial crisis 
just a few short years ago. \13\ Furthermore, the three insurance 
companies designated by the Stability Council are also all listed on 
the Financial Stability Board's list of Global Systemically Important 
Insurers, suggesting that the Stability Council's actions are not 
without merit.
---------------------------------------------------------------------------
     \13\ See U.S. Gov't Accountability Office, Rep. No. GA0-11-696, 
``Federal Reserve System: Opportunities Exist To Strengthen Policies 
and Processes for Managing Emergency Assistance'' (July 2011); 
ProPublica, ``Bailout Recipients'', available at https://
projects.propublica.org/bailout/list/simple.
---------------------------------------------------------------------------
    Clearly the Stability Council is acting deliberatively and 
carefully when considering and making designation determinations.
3. Additional Proposals To Change the Stability Council Would Impair or 
        Cripple Its Ability To Protect American Families, Workers, and 
        Taxpayers From Another Financial Crash and Economic Calamity
    Regarding the consideration of any changes to the Stability 
Council, it must be remembered that it is not even 5 years old. During 
that time it has had to translate legislative text regarding a 
stability council into a working reality of the Stability Council. As 
if that wasn't enough, it had to do so with 15 member agencies, 
organizations, and departments, with, as is well known, all that 
entails. And it had to do it from the still smoldering ashes of the 
financial crash, in the midst of the ongoing economic crisis, and in 
the face of relentless attacks and criticism.
    Frankly, although not perfect, it is a remarkable achievement. In 
addition, as it did all that, it has listened carefully to those who 
think it might be able to improve its procedures, including criticism 
from Better Markets. After careful consideration and deliberation, the 
Stability Council, as set forth above, has recently adopted a number of 
very significant changes and those changes should be allowed to be 
implemented before any additional changes are legislatively imposed on 
the Stability Council. Given its willingness to listen, change, and 
improve, the Stability Council deserves no less.
    Making matters worse, most of the legislative changes proposed 
would prevent the Stability Council from carrying out its mission, and 
would leave our financial system and economy vulnerable to another 
crisis. Indeed, a number of proposals have recently been put forward 
that would severely weaken the Stability Council and, in fact, make 
future AIGs more likely. An overview of those proposals, including an 
explanation of how they would prevent the Stability Council from 
fulfilling its critical role follows.
    Proposal: Require the Stability Council to make certain decisions 
within arbitrary time considerations, and force the Stability Council 
to begin the designation process again unless it meets those time 
constraints.
    Impact: It is in no one's interest for the Stability Council to act 
in haste. The Stability Council's process for designating a nonbank 
financial institution should be deliberative and not rushed. Requiring 
a decision to be made within an arbitrary deadline could put the 
Stability Council in an untenable situation, potentially forcing them 
to designate in haste or forego an otherwise necessary and important 
designation. These scenarios are simply unacceptable, given the 
importance of Stability Council's mission and the consequences of 
designation or a failure to designate when appropriate and necessary.
    Proposal: Require that the designation of a nonbank financial 
company be a last resort that is taken only after all other regulatory 
steps are exhausted.
    Impact: This proposal disregards the already very high bar and 
robust process that the Stability Council must go through before 
designation (as set forth above and in the law and regulations). It has 
no reasonable rationale and it would add substantial burdens that would 
only constrain the Stability Council with no countervailing benefit.
    Importantly, designation authority was designed not only to respond 
to the last crisis, but to be a forward-looking warning system to 
prevent systemic risks that could cause the next crisis. For that 
reason, the Stability Council needs the flexibility and discretion to 
identify new and emerging risks and keep abreast with market 
developments and financial innovations. Furthermore, these proposals 
would add yet more unnecessary layers of work for the Stability Council 
and primary regulatory agencies, creating risky delays that would 
undermine the Stability Council's mission.
    Proposal: Reform the designation process by subjecting it to 
additional process constraints like cost-benefit analysis.
    Impact: Imposing such economic analysis obligations on the 
Stability Council is as unwise as it is unwarranted. It will only force 
the Stability Council to engage in an inherently inaccurate yet 
burdensome process, encumber and delay the Stability Council's work, 
and ultimately make any designation a more inviting target for legal 
challenge in court. When applied to financial regulation, cost-benefit 
analysis is more aptly described as ``industry cost-only analysis,'' in 
which industry focuses exclusively on the costs of regulation while 
ignoring the benefits. \14\
---------------------------------------------------------------------------
     \14\ Better Markets, ``Setting the Record Straight on Cost-Benefit 
Analysis and Financial Reform at the SEC'' (July 30, 2012), available 
at http://www.bettermarkets.com/sites/default/files/
Setting%20The%20Record%20Straight.pdf.
---------------------------------------------------------------------------
    The case of designating a firm for enhanced regulation by the 
Federal Reserve lends itself to just this one-sided analysis, as the 
designated entity will always be able to cite a long list of specific 
(if highly questionable) quantifiable costs that would appear to cast 
designation as unjustifiable. Yet viewed holistically, the benefits of 
designation are potentially enormous and, in many respects, 
incalculable, representing the tangible and intangible gains that come 
from averting another financial crisis, systemic collapse, and untold 
trillions in bailouts. As traditionally framed, however, cost-benefit 
analysis does not capture these benefits and does not yield a balanced 
and accurate picture.
    In addition, the process is time-consuming and resource intensive. 
It will inevitably slow down the designation process and sap the 
Stability Council's resources, which would be far better spent on its 
core mission of detecting and analyzing potential risk and responding 
appropriately.
    Finally, a cost-benefit requirement will also make it easier for a 
designated company to litigate the designation, just as industry groups 
have relentlessly challenged Securities and Exchange Commission and 
Commodity Futures Trading Commission regulations alleging insufficient 
analysis of costs and benefits relating to mutual fund governance, 
conflict minerals, and position limits. As these cases demonstrate, 
should Congress choose to require the Stability Council to conduct 
quantitative cost benefit analysis it would cause a litigation bonanza, 
creating yet another opportunity for industry to argue that the costs 
imposed upon them should be more highly prioritized than the benefit to 
the public of preventing a future crash. This would severely weaken the 
Stability Council's ability to protect the public and carry out its 
congressionally directed mandates.
    Proposal: Give the primary regulator heightened deference in the 
designation process.
    Impact: No one questions that a company's primary regulator may 
have significant insights into the workings of that industry and that 
the primary regulator can provide much needed assistance in 
understanding the nuances of a company's balance sheet, activities, 
risks and related issues. However, that regulator may not be in the 
best position to decide whether the company poses a systemic risk, 
since they lack the broader perspective that the Stability Council was 
created to provide. It is also undeniable that individual regulators 
may bring certain biases to bear, stemming from a sense of ``turf'' or 
a desire to downplay the systemic risks that may have evolved under 
their ``watch.'' There is also the well-known problem of regulatory 
capture. Thus, the primary regulator may oppose actions that would 
otherwise be necessary to protect the public from systemic risks. In 
short, the statutory framework already requires the Stability Council 
to consult the primary regulator for any entity being considered for 
designation, and requiring any further deference would be unnecessary 
and counterproductive.
    Proposal: Delay the Stability Council's ability to designate a firm 
for enhanced regulation until the Federal Reserve explains what 
enhanced measures it will impose as a result of the designation.
    Impact: Two of the core purposes of the Stability Council are to 
identify and respond to risks to the financial stability of the United 
States. By law, the Stability Council has the authority to do so by 
designating companies as systemically important This authority differs 
significantly from that of the Federal Reserve, which must determine 
how best to regulate a designated company. Because the duties of these 
two agencies are different, the Stability Council should not be 
required to wait for the Federal Reserve before carrying out its legal 
obligations. The systemic importance of a company, and the Stability 
Council's decision to designate it as such, should not be dependent 
upon or influenced by how the company might or might not be regulated 
after designation.
    Proposal: Change the method by which the Stability Council votes.
    Impact: The key decisions made by the Stability Council already 
require super majorities. These decisions are complex and require a 
great deal of judgment over which reasonable minds might disagree. 
While the Stability Council should--and does--strive for consensus, 
there may come a time when some members oppose an action while a super 
majority of seven believe the risk to financial stability warrants 
action. It would be a serious mistake if the Stability Council were 
unable to go forward under this scenario, preventing action and putting 
our financial system to significant risk.
    Proposal: Expand the number of members on the Stability Council, 
either by increasing membership or by requiring regulatory agencies to 
vote to determine how the agency head will vote during Stability 
Council proceedings.
    Impact: The Stability Council already consist of 15 members, 10 
voting members and 5 nonvoting members. Expanding it further risks 
creating a body that is so large it would be ineffective. This would 
also risk politicizing the decision-making process, turning any 
Stability Council vote into a partisan exercise and an opportunity for 
scoring political points. This proposal would therefore lead to 
unnecessary delays and weaker actions as a result.
Conclusion
    Thank you again for the opportunity to appear before you today. I 
look forward to answering your questions.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

                  PREPARED STATEMENT OF GARY E. HUGHES
Executive Vice President and General Counsel, American Council of Life 
                                Insurers
                             March 25, 2015
    Chairman Shelby and Ranking Member Brown, my name is Gary Hughes, 
and I am Executive Vice President and General Counsel of the American 
Council of Life Insurers (ACLI). ACLI is the principal trade 
association for U.S. life insurance companies with approximately 300 
member companies operating in the United States and abroad. ACLI member 
companies offer life insurance, annuities, reinsurance, long-term care 
and disability income insurance, and represent more than 90 percent of 
industry assets and premiums.
    ACLI appreciates the opportunity to address the procedures 
governing the designation of nonbank financial companies by the 
Financial Stability Oversight Council (FSOC). ACLI has a particular 
interest in the subject matter of this hearing; three of the four 
nonbank financial companies that have been designated by FSOC for 
supervision by the Federal Reserve Board are insurance companies, and 
all of those companies, Prudential, MetLife, and AIG, are members of 
ACLI. Many ACLI member companies also are actively engaged in asset 
management, which is a business under active review by FSOC.
    Last year, ACLI along with several other national trade 
associations submitted a petition to FSOC recommending changes to the 
procedures for designating nonbank financial companies as being subject 
to supervision by the Federal Reserve Board. In response, FSOC made 
some needed improvements to the process. Nonetheless, additional 
reforms to the procedures and standards applied by FSOC in its 
designations are necessary to promote transparency and ensure a fair 
process.
    My testimony addresses five key points: (1) the additional 
procedural safeguards that should be adopted by FSOC in connection with 
designations; (2) FSOC's flawed application of the ``material financial 
distress'' standard for designations; (3) FSOC's failure to give 
sufficient weight to the views of State insurance authorities in 
connection with designations; (4) FSOC's failure to give consideration 
to the consequences of designation; and (5) FSOC's failure to consider 
an ``activities-based'' approach for insurance. My testimony concludes 
with recommendations to address these matters.
1. The Designation and De-Designation Processes Lack Sufficient 
        Procedural Safeguards and the Public Explanations Accompanying 
        Designations Give the Public and Other Nonbank Financial 
        Companies Insufficient Insight Into Why Particular Companies 
        Have Been Designated
    FSOC has established a three-stage process for determining whether 
a nonbank financial company should be subject to supervision by the 
Federal Reserve Board. In response to concerns raised by ACLI and other 
national trade associations, FSOC has made some improvements to the 
process. Nonetheless, additional reforms are needed.
A company should have access to the entire record.
    A company that advances to the third and final stage of review has 
no way of knowing what materials FSOC believes are relevant, whether 
and in what form the materials it submits are provided to voting 
members of FSOC, or what materials, in addition to those submitted by 
the company, FSOC staff and voting members reviewed and relied upon. In 
other words, a company is not provided with the evidentiary record upon 
which the voting members will make a proposed or final determination. A 
company should have access to the entire record that is the basis for 
an FSOC determination.
FSOC should have separate staff assigned to enforcement and 
        adjudicative functions.
    Council staff who identify and analyze a company's suitability for 
designation and author the notice of proposed determination and final 
determination should not also advise Council members in deciding 
whether to adopt the notice of proposed determination and final 
determination. Dividing Council staff between enforcement and 
adjudicative functions would protect the independence of both 
functions. Separation of powers principles and basic fairness require 
no less. In addition, communications between Council members and 
enforcement staff should be memorialized as part of the agency record 
and provided to companies under consideration for designation.
Special weight should be given to the views of the Council member with 
        insurance expertise and to the primary financial regulatory 
        agency for a company.
    FSOC must vote, by two-thirds of the voting members then serving 
including the affirmative vote of the Chairperson, to issue a final 
determination. The requirement for a super majority vote is intended to 
ensure that designation is reserved for companies that pose the most 
obvious risk to the financial stability of the United States. Yet, the 
members of FSOC vote as individuals rather than as representatives of 
their agencies. Thus, the vote is based upon their own assessment of 
risks in the financial system rather than the assessment of their 
respective agencies. Moreover, the voting process gives equal weight to 
views of all members, regardless of a member's experience in regulating 
the type of company being considered for designation. In the case of an 
insurance company, special weight should be given to the views of the 
Council member with insurance experience, and to the State insurance 
regulator for the company.
The explanation of a designation should provide greater insight into 
        the basis for designation, and a designation should be based 
        upon evidence and data.
    When FSOC votes to designate a company, it provides the company 
with an explanation of the basis for the determination and releases a 
public version of that document. These documents provide little insight 
into the basis for a designation, typically offering only conclusory 
statements unsupported by data or other concrete evidence and analysis. 
For example, in the documents released by FSOC in connection with the 
Prudential and MetLife determinations, FSOC concluded that material 
financial distress at Prudential and MetLife would be transmitted to 
other financial firms and harm the financial system. In drawing this 
conclusion, FSOC relied on extensive speculation about the behavior of 
policyholders and the reactions of competing insurers and assumed that 
State regulatory responses would be inadequate, even though history and 
empirical evidence were to the contrary. When the only explanation for 
a designation disregards historical experience, empirical research, and 
fundamental and proven principles of economic behavior and risk 
analysis, the industry can at best only speculate about the kind of 
evidence that would satisfy FSOC that designation is neither necessary 
nor appropriate.
A company should have more than 30 days to seek judicial review of a 
        final decision in a Federal court, and during judicial review, 
        the company should not be subject to supervision by the Federal 
        Reserve Board.
    Upon receipt of a final designation, a company may seek judicial 
review before a Federal court. Even this safeguard, however, is subject 
to limitations. A company has only 30 days in which to file a 
complaint, and loses the right to do so beyond that date. Moreover, 
filing the complaint carries no automatic stay of supervision by the 
Federal Reserve Board. Thus, while a company is challenging the 
legitimacy of a designation, it simultaneously must establish a 
comprehensive infrastructure (e.g., systems, procedures, and controls) 
to comply with Board supervision.
Companies should be able to petition for a review of a designation 
        based upon a change in operations or regulations, and a company 
        should be provided with an analysis of the factors that would 
        permit it to be de-designated.
    FSOC is required to review the designation of a company on an 
annual basis. A company also should have the opportunity to obtain a 
review based upon a change in its operations, such as the divestiture 
of certain business lines, or a change in regulation. Moreover, during 
a review, FSOC should be required to provide a company with an analysis 
of the factors that would lead FSOC to de-designate a company. This 
would lead a company to know precisely what changes in its operations 
or activities are needed to eliminate any potential for the company to 
pose a threat to the financial stability of the United States.
FSOC's determinations should be independent of international regulatory 
        actions.
    Finally, the lack of transparency in FSOC's designation process and 
the thinly-reasoned explanations in its designation decisions support 
the concern voiced by some that FSOC's designations have been 
preordained by actions of an international regulatory entity, the 
Financial Stability Board (FSB). The member of FSOC with insurance 
expertise, Roy Woodall, expressed this concern in his dissent to the 
Prudential designation. The U.S. Department of Treasury and the Federal 
Reserve Board are both important participants in the FSB, which in 
2013, issued an initial list of insurance companies that the 
organization considered to be ``global systemically important 
insurers.'' AIG, Prudential, and MetLife were all on the FSB's list. 
Those companies' designations as SIFIs should have been based on the 
statutory requirements of the Dodd-Frank Act, which differ meaningfully 
from the standards FSB has said it applies. Yet, there is ground for 
concern that leading participants in FSOC were committed to designating 
as systemic under Dodd-Frank those companies that they had already 
agreed to designate as systemic through the FSB process. FSOC should 
not be outsourcing to foreign regulators important decisions about 
which U.S. companies are to be subject to heightened regulation.
2. FSOC's Flawed Application of the Material Financial Distress 
        Standard for Designation Distorts the Purpose of Designations 
        by Failing To Account for the Vulnerability of Prospective 
        Designees and Departs From the Requirements of the Dodd-Frank 
        Act and Its Own Regulatory Guidance
    The Dodd-Frank Act authorizes FSOC to designate a nonbank financial 
company for supervision by the Federal Reserve Board if either (1) 
material financial distress at the company, or (2) the nature, scope, 
size, scale, concentration, interconnectedness, or mix of activities of 
the company could threaten the financial stability of the United 
States. Each of the designations made by FSOC has been based on the 
first standard, the material financial distress standard. Moreover, in 
each case, FSOC assumed the existence of material financial distress at 
the company, and then concluded that such distress could be transmitted 
to the broader financial system.
    This interpretation of the material financial distress standard 
departs from the authorizing statute and FSOC's own regulatory 
guidance, and distorts the purpose of designation. The Dodd-Frank Act 
expressly directs FSOC, when considering a company for designation, to 
consider 11 factors, a number of which implicate the company's 
vulnerability to material financial distress. And FSOC's own 
interpretive guidance recognizes that a company's vulnerability to 
financial distress is a critical part of the designation inquiry. \1\ 
The statute, FSOC's guidance, and well-established principles of 
reasoned regulation make clear that FSOC should not evaluate a 
company's systemic effects by assuming that the designated company is 
failing, but instead should separately assess the company's 
vulnerability to material financial distress. Making this a part of the 
designation process also provides guidance and the right incentives for 
companies that may be considered for designation in the future, because 
it incentivizes them to change aspects of their business that FSOC 
regards as vulnerabilities.
---------------------------------------------------------------------------
     \1\ See ``Authority to Require Supervision and Regulation of 
Certain Nonbank Financial Companies'', 77 Fed. Reg. 21,637 (Apr. 11, 
2012).
---------------------------------------------------------------------------
    Roy Woodall addressed FSOC's flawed application of the material 
financial distress standard in his dissents in both the Prudential and 
MetLife cases. In the Prudential case, he noted that:

        the Notice's analysis under the [material financial distress 
        standard] is dependent upon its misplaced assumption of the 
        simultaneous failure of all of Prudential's insurance 
        subsidiaries and a massive and unprecedented, lightning, bank-
        style run by a significant number of its cash value 
        policyholders and separate account holders, which apparently is 
        the only circumstance in which the Basis concludes that 
        Prudential could pose a threat to financial stability. I 
        believe that, absent a catastrophic mortality event (which 
        would affect the entire sector and also the whole economy), 
        such a corporate cataclysm could not and would not occur.

    Similarly, in his dissent in the MetLife case, Mr. Woodall 
highlighted the lack of evidence to support one of FSOC's principal 
bases for assuming ``material financial distress'' at MetLife:

        I do not, however, agree with the analysis under the Asset 
        Liquidation Transmission Channel of the Notice of Final 
        Determination, which is one of the principal bases for the 
        finding under the [material financial distress standard]. I do 
        not believe that the analysis' conclusions are supported by 
        substantial evidence in the record, or by logical inferences 
        from the record. The analysis relies on implausible, contrived 
        scenarios as well as failures to appreciate fundamental aspects 
        of insurance and annuity products, and, importantly, State 
        insurance regulation and the framework of the McCarran-Ferguson 
        Act.

    One consequence of FSOC's interpretation of the material financial 
distress standard is that FSOC focuses too narrowly on a company's 
size. When it passed the designation provisions in the Dodd-Frank Act, 
Congress never intended a unilateral focus on size. Rather, size is 
just one of 11 factors that Congress directed FSOC to consider when it 
designates a company.
    Another consequence of FSOC's reliance on the material financial 
distress standard is that it is difficult for a company, or the public, 
to understand the basis for a designation. The documents accompanying 
designations address how the company's failure might impact financial 
stability, but do not address what hypothetically caused the company to 
fail in the first place. Thus, a designated company has little, if any, 
insight into what activities are, in FSOC's view, associated with 
systemic risk.
    Under a material financial distress standard that actually meets 
the statutory requirements of the Dodd-Frank Act, FSOC would need to 
employ the 11 statutory factors to first determine whether the company 
is vulnerable to material financial distress based upon its company-
specific risk profile and, if it is, then determine whether the 
company's failure could threaten the financial stability of the United 
States. In other words, FSOC should not be able to designate a company 
on an assumption that it is failing, but instead should only designate 
a company when a company's specific risk profile--including its 
leverage, liquidity, risk and maturity alignment, and existing 
regulatory scrutiny--reasonably support the expectations that the 
company is vulnerable to financial distress, and then that its distress 
could threaten the financial stability of the United States. The 
purpose of designations should be to regulate nonbanking firms that are 
engaged in risky activities that realistically ``could'' cause the 
failure of the firm, not to regulate firms that are not likely to fail.
3. FSOC Does Not Give Sufficient Weight to the Views of Primary 
        Financial Regulatory Agencies
    In drafting the Dodd-Frank Act, Congress recognized that many 
nonbank financial companies are subject to supervision and regulation 
by other financial regulators. Insurance companies, for example, are 
subject to comprehensive regulation and supervision by State insurance 
authorities. Thus, Congress directed FSOC to consult with other primary 
regulators when making a designation determination, and required FSOC 
to consider ``the degree'' to which a company is already regulated by 
another financial regulator. Congress also gave the Federal Reserve 
Board authority to exempt certain classes or categories of nonbank 
financial companies from supervision by the Board, and directed the 
Board to take actions that avoid imposing ``duplicative'' regulatory 
requirements on designated nonbank companies.
    FSOC's designation of insurance companies shows little deference to 
these requirements. In the case of MetLife, for example, FSOC 
discounted State insurance regulation even after the Superintendent of 
the New York State Department of Financial Services (NYDFS), Benjamin 
Lawsky, told FSOC that: (1) MetLife does not engage in nontraditional 
noninsurance activities that create any appreciable systemic risk; (2) 
MetLife is already closely and carefully regulated by NYDFS and other 
regulators; and (3) in the event that MetLife or one or more of its 
insurance subsidiaries were to fail, NYDFS and other regulators would 
be able to ensure an orderly resolution. \2\ Similarly, in his dissent 
in the Prudential case, the Council member with insurance experience 
noted that the scenarios used in the analysis of Prudential were 
``antithetical'' to the insurance regulatory environment and the State 
insurance company resolution and guaranty fund systems.
---------------------------------------------------------------------------
     \2\ Letter to Honorable Jacob J. Lew, Secretary of the Treasury, 
from Benjamin M. Lawsky, Superintendent, New York State Department of 
Financial Services, July 30, 2014.
---------------------------------------------------------------------------
    This lack of deference to an insurer's primary financial regulator 
is particularly troubling given the fact that insurance, unlike every 
other segment of the financial service industry, does not have any of 
its primary regulators as voting members of FSOC. Moreover, none of the 
primary regulators of the three insurers that have been designated were 
``at the table'' when FSOC designation decisions were made.
4. FSOC Has Failed To Consider the Consequences of Designation
    FSOC has an obligation to consider the consequences of its actions. 
Administrative law requires that an agency consider the effects of its 
actions, and the failure to do so can cause a court to void the action. 
SEC Chair Mary Jo White acknowledged publicly in June that a principle 
of good policymaking is to know `` . . . what is on the other side if I 
make that decision . . .'' and to understand what a decision `` . . . 
actually accomplish[es] in terms of the issue you're trying to solve 
for.'' \3\ In its determinations to date, however, FSOC has failed to 
consider the consequences of its designations.
---------------------------------------------------------------------------
     \3\ ``SEC Chair: Asset Managers Not Overreacting to FSOC'', 
Politico Pro. June 22, 2014. https://www.politicopro.com/
financialservices/whiteboard/?wbid=33914.
---------------------------------------------------------------------------
    This failure is particularly relevant to designations involving 
insurance companies. The insurance industry is highly competitive, and 
the additional regulation imposed upon a designated company can place 
that company at a significant competitive disadvantage relative to its 
nondesignated competitors. Capital standards are the most obvious 
example. Congress recently clarified that the Board has the ability to 
base capital standards for designated insurance companies on insurance 
risk, rather than banking risk. We appreciate very much this 
Committee's role in effecting that important clarification. At this 
point, we are waiting on a proposal from the Federal Reserve Board that 
makes use of this revised statutory provision. Should the Federal 
Reserve Board impose capital requirements on designated insurers that 
are materially different from those imposed by the States, designated 
insurers may find it difficult to compete against nondesignated 
competitors.
    Additionally, FSOC's failure to consider the consequences of 
designations on insurance companies is at odds with FSOC's ``duty'' 
under the Dodd-Frank Act to monitor regulatory developments, including 
``insurance issues,'' and to make recommendations that would enhance 
the ``integrity, efficiency, competitiveness, and stability'' of U.S. 
financial markets. \4\
---------------------------------------------------------------------------
     \4\ 112(a)(2)(D) of the Dodd-Frank Act.
---------------------------------------------------------------------------
5. FSOC Has Failed To Consider an ``Activities-Based'' Approach to 
        Insurance
    The Dodd-Frank Act gives FSOC two principal powers to address 
systemic risk. One power is the authority to designate nonbank 
financial companies for supervision by the Federal Reserve Board. The 
other power is an ``activities-based'' authority to recommend more 
stringent regulation of specific financial activities and practices 
that could pose systemic risks. FSOC has not been consistent in its 
exercise of these powers. In the case of the insurance industry, FSOC 
has actively used its power to designate. In the case of the asset 
management industry, FSOC has undertaken an analysis of the industry so 
it can consider the application of more stringent regulation for 
certain activities or practices of asset managers, and it has not 
designated any asset management firm to date.
    FSOC held a public conference on the asset management industry in 
order to hear directly from the asset management industry and other 
stakeholders, including academics and public interest groups, on the 
industry and its activities. Furthermore, following its meeting on July 
31, 2014, FSOC issued a ``readout'' stating that FSOC had directed its 
staff ``to undertake a more focused analysis of industry-wide products 
and activities to assess potential risks associated with the asset 
management industry.''
    In contrast, FSOC has not held any public forum at which 
stakeholders could discuss the insurance industry and its activities. 
Instead, FSOC has used its power to designate three insurance companies 
for supervision by the Federal Reserve Board.
    ACLI supports the more reasoned approach that FSOC has taken in 
connection with the asset management industry and believes that FSOC 
should be required to use its power to recommend regulation of the 
specific activities of a potential designee before making a designation 
decision with respect to that company.
    FSOC's power to recommend more stringent regulation of specific 
activities and practices has distinctive public policy advantages over 
its power to designate individual companies for supervision by the 
Federal Reserve Board. FSOC's power to recommend brings real focus to 
the specific activities that may involve potential systemic risk and 
avoids the competitive harm that an individual company may face 
following designation. As noted above, in certain markets, such as 
insurance, designated companies can be placed at a competitive 
disadvantage to nondesignated companies because of different regulatory 
requirements. Finally, the power to recommend avoids the ``too-big-to-
fail'' stigma that some have associated with designations.
    FSOC's recommendations for more stringent regulation of certain 
activities and practices must be made to ``primary financial regulatory 
agencies.'' These agencies are defined in the Dodd-Frank Act to include 
the SEC for securities firms, the CFTC for commodity firms, and State 
insurance commissioners for insurance companies. A recommendation made 
by FSOC is not binding on such agencies, but the Dodd-Frank Act 
includes a ``name and shame'' provision that encourages the adoption of 
a recommendation. That provision requires an agency to notify FSOC 
within 90 days if it does not intend to follow the recommendation, and 
FSOC is required to report to Congress on the status of each 
recommendation.
Recommended Reforms
    To address the concerns highlighted in this statement, ACLI 
recommends the following reforms:
Institute additional procedural safeguards during the designation 
        process.
    We recommend the following changes to the designation process: (1) 
companies that receive a notice of proposed determination should be 
given access to the entire record upon which FSOC makes the 
determination to issue the notice; (2) the same FSOC staff should not 
serve as fact finder, prosecutor and adjudicator; (3) in the case of an 
insurance company, the views of the Council member with insurance 
expertise and the primary financial regulatory agency for the company 
should be given greater weight; (4) a company should be given more than 
30 days to initiative judicial review of a final determination; and (5) 
supervision of the company by the Federal Reserve Board should be 
stayed during judicial review.
Establish additional procedures for de-designation.
    In addition to the mandatory annual review of a determination, FSOC 
should be required to conduct a review upon the request of a designated 
company if there has been a change in the operations of the company or 
a change in regulation affecting the company. In connection with such a 
review, FSOC should also provide a company with an analysis of the 
factors that would lead FSOC to de-designate the company. This would 
permit a company to know precisely what changes in its risk profile are 
needed to eliminate any potential for the company to pose a risk to the 
financial stability of the United States. Finally, during the de-
designation review, the views of the Council member with insurance 
expertise and the primary financial regulatory agency for the company 
should be given special weight.
Require FSOC to pursue an ``activities-based'' approach before using 
        its power to designate a company for supervision by the Federal 
        Reserve Board.
    FSOC should use its authority under the Dodd-Frank Act to recommend 
specific activities and practices for more stringent regulation before 
designating individual nonbank financial companies within an industry 
for supervision by the Federal Reserve Board. More stringent regulation 
of the activities or practices of an entire class or category of 
financial firms can have a greater impact on financial stability than 
the designation of an individual firm.
Require FSOC to consider ``vulnerability'' in its designation 
        decisions.
    The statute, FSOC's own regulatory guidance, and common sense 
dictate that a company should not be designated systemic without an 
evaluation of whether the company, as currently structured and 
operated, is indeed vulnerable to material financial distress. Steps 
should be taken to ensure that FSOC makes this factor an element of its 
decision-making process in the future.
Promulgate the regulations required by Section 170 of the Dodd-Frank 
        Act.
    Section 170 of Dodd-Frank directs the Federal Reserve Board, in 
consultation with FSOC, to issue regulations exempting certain classes 
or categories of companies from supervision by the Federal Reserve 
Board. \5\ However, to date no such regulations have been issued 
pursuant to this authority. This requirement represents yet another 
tool Congress created to delineate between those entities that pose 
systemic risk and those that do not. How such regulations might affect 
insurance companies, if at all, is unknown. But presumably the 
regulations will shed additional light on what metrics, standards or 
criteria operate to categorize a company as nonsystemic. The primary 
goal here should be to clearly inform companies of how to conduct their 
business and structure their operations in such a way as to be 
nonsystemic. Only if that primary goal cannot be met should the focus 
turn to regulating systemic enterprises.
---------------------------------------------------------------------------
     \5\ 170 of the Dodd-Frank Act.
---------------------------------------------------------------------------
Conclusion
    Mr. Chairman, we believe the best interests of the U.S. financial 
system and the stated objectives of the Dodd-Frank Act can be realized 
most effectively by an FSOC designation process that operates in a more 
transparent and fair manner. The overarching purpose of the Dodd-Frank 
Act is to minimize systemic risk in the U.S. financial markets. 
Providing companies with the choice and the ability to work 
constructively with FSOC to structure their activities in such a way as 
to avoid being designated as systemic in the first instance advances 
that purpose and reflects sound regulatory policy--as would affording 
companies a viable opportunity for de-designation. The reforms we are 
recommending are intended to achieve these objectives, and we pledge to 
work with this Committee and others in Congress toward that end.
        RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER
                       FROM JACOB J. LEW

Q.1. Secretary Lew, FSOC recently announced changes to its 
designation procedures, including a new effort to notify 
companies that they are being considered for designation 
earlier in the process.
    Can you explain what prompted FSOC to amend its procedures? 
Will those amended procedures be used to reevaluate companies 
that have already been designated under the prior FSOC regime?

A.1. The FSOC is committed to the continued evaluation of its 
procedures and to engagement with stakeholders. Our adoption of 
supplemental procedures to the nonbank financial company 
designations process represents the latest example of the 
FSOC's willingness to revisit how it conducts its work, based 
on ideas raised by stakeholders, without compromising the 
FSOC's fundamental ability to achieve its mission. Last fall, 
FSOC conducted extensive outreach with a wide range of 
stakeholders about potential changes to its process. The FSOC 
Deputies Committee hosted a series of meetings in November with 
more than 20 trade groups, companies, consumer advocates, and 
public interest organizations. We also solicited input from 
each of the three companies then subject to a designation. FSOC 
discussed the findings from this outreach and potential changes 
during a public meeting in January, and adopted the 
supplemental procedures in February.
    The supplemental procedures provide greater public 
transparency regarding the FSOC's process. Many of these 
procedures reflect practices that were already used in the 
evaluation of companies that were previously designated by the 
FSOC. With regards to the supplemental procedures applicable to 
annual reevaluations of previously designated companies, the 
changes will enhance the FSOC's already-robust process for 
reviewing each previous designation.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY
                       FROM JACOB J. LEW

Q.1. FSOC's 2014 annual report notes that the Council is 
charged with promoting market discipline by eliminating the 
expectation of bailouts in the event of a failure of a large 
financial company. In pursuing that mandate, the Council has 
designated a number of nonbank financial companies as SIFIS, 
which subjects them to additional supervision by the Federal 
Reserve. While increased supervision may allow regulators to 
better understand and manage the perceived systemic risk these 
firms present, many market participants may view SIFI 
designation as a signal that a firm is in fact too-big-to-fail 
and would receive Government assistance in the event of its 
imminent failure. With that in mind, one goal of the nonbank 
designation process might be voluntary de-risking by SIFIs and 
potential SIFIs.
    Does FSOC provide any guidance to companies under review on 
steps that they could take voluntarily in order to reduce their 
systemic importance and avoid designation?
    In its annual reevaluation of designated companies, does 
FSOC provide those companies with actionable guidance on the 
steps necessary to remove their SIFI designation? If not, 
should it?
    During the hearing, Chairman Shelby asked about giving 
firms the opportunity to ``work their problems out.'' You 
responded: ``I think that in its wisdom Congress created a 
process for these matters to be decided and resolved and 
adjudicated, and that process should stand.'' Please expand 
upon that response to explain why the designation process 
should not include an opportunity for firms to work with FSOC 
to voluntarily reduce risk and avoid designation.

A.1. When evaluating a nonbank financial company for potential 
designation, the FSOC engages extensively with the company to 
understand and consider any ways in which the firm's material 
financial distress could pose a threat to U.S. financial 
stability. For past designations, FSOC has engaged with the 
company during a period ranging from 10 to 17 months. As part 
of its engagement, the FSOC provides the company with a 
detailed explanation of the basis for any proposed designation, 
which can include hundreds of pages of company-specific 
analysis. Prior to any final designation by the FSOC, companies 
have an opportunity for a hearing before the FSOC. Upon a final 
designation, the FSOC provides the company with a detailed 
written explanation of the basis for the designation that 
specifically describes the potential risks identified by the 
FSOC in its evaluation.
    For each of the four nonbank financial companies that the 
FSOC has designated since the enactment of the Dodd-Frank Act, 
the FSOC determined, based on its consideration of the 10 
statutory factors set forth in the Dodd-Frank Act, that the 
company's material financial distress could pose a threat to 
U.S. financial stability. Those statutory factors include, 
among others, size, assets, leverage, interconnectedness, and 
existing regulatory scrutiny. The extensive engagement with 
companies and existing regulators during the designation 
process, and the detailed written explanations provided by the 
FSOC both before and after a final designation, allow companies 
and their regulators to take steps to address the potential 
risks identified by the FSOC.
    In addition to the engagement and explanations provided to 
firms in connection with a designation, the FSOC has a robust 
process to reevaluate each previous designation at least 
annually. We take these reviews seriously, and the FSOC will 
rescind the designation of any company if the FSOC determines 
that it no longer meets the statutory standard for designation. 
Before the FSOC's annual reevaluation of a firm subject to a 
designation, the company has the opportunity to meet with FSOC 
staff to discuss the scope and process for the reevaluation and 
to present information regarding any relevant changes, 
including a company restructuring, regulatory developments, 
market changes, or other factors. If a company contests its 
designation during the FSOC's annual reevaluation, the FSOC's 
supplemental procedures state that it intends to vote on 
whether to rescind the designation and provide the company, its 
primary financial regulatory agency, and the primary financial 
regulatory agency of its significant subsidiaries with a notice 
explaining the primary basis for any decision not to rescind 
the designation. The notice will address the material factors 
raised by the company in its submissions to the FSOC contesting 
the designation during the annual reevaluation. In addition, 
the FSOC provides each designated company an opportunity for an 
oral hearing to contest its designation every 5 years.

Q.2. In considering the overall regulatory regime of the 
financial system, what would signal that it is sufficiently 
regulated, under-regulated, or over-regulated?
    Since the passage of Dodd-Frank, de novo bank charters have 
all but ceased, perhaps in part because of the high regulatory 
hurdles facing small institutions. In response, this Committee 
has spent a great deal of time considering how it can right-
size regulatory touch for smaller firms. Do you support 
tailoring regulations for small firms and is there any 
legislative action that you would recommend to relieve pressure 
on small firms without unduly increasing their risk and 
systemic risk?

A.2. Policymakers should be attentive to the benefits and 
burdens of financial regulations that are put forward, 
including as they relate to community banks. In crafting and 
implementing Dodd-Frank, Congress and the Federal regulatory 
agencies understood that community and regional banks did not 
cause the financial crisis. Accordingly, they should not be 
subject to the same requirements that are appropriate for large 
institutions.
    Treasury supports the regulators' efforts to tailor their 
rules for community banks and is committed to implementing the 
Dodd-Frank Act in a way that builds a more efficient, 
transparent, and stable financial system that contributes to 
our country's economic strength, instead of putting it at risk. 
The Dodd-Frank Act generally authorizes tailored regulation to 
reflect the size and complexity of banking organizations. The 
Dodd-Frank Act recognizes that community banks did not cause 
the financial crisis and was structured to limit their 
regulatory burdens.
    Treasury will continue to work with Congress and the 
regulators to help make sure that laws are implemented in a way 
that preserves the important roles of community and regional 
banks and keeps capital flowing to the customers they serve.

Q.3. In July of 2013, the Treasury Borrowing Advisory Committee 
reported that new regulations stemming from Basel III and Dodd-
Frank will likely result in constrained liquidity in the 
market. Even well-intentioned rules like the Supplementary 
Leverage Ratio (SLR) may constrain liquidity in markets as deep 
and understood as those for U.S. Treasury securities.
    What has been done specifically to address concerns 
regarding market liquidity in anticipation or as a result of 
new regulations?
    Given the views and commentary of the TBAC and other market 
participants, which rules are worth revisiting?

A.3. Our efforts to reform the financial sector have made the 
system far safer and more resilient than it was in 2008. There 
is much less leverage, and the big banks are better 
capitalized. Moreover, we believe that financial reform will 
create more effective and better functioning markets throughout 
business cycles. We know that many factors are having 
significant effects on financial markets, some of which pre-
date the crisis and reflect the evolution of market structure. 
All of these factors are affecting market behavior, and 
Treasury is constantly monitoring liquidity in financial 
markets--as they continue to evolve--and the degree to which 
the reforms we put in place are achieving the intended results.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN SHELBY
                    FROM PAUL SCHOTT STEVENS

Q.1. What can be done to improve the determination process 
including with respect to improving transparency and 
accountability? Please clarify which of your recommendations 
warrant congressional action and which recommendations the FSOC 
would be able to implement on its own pursuant to an existing 
statutory authority.

A.1. ICI supports U.S. and global efforts to address abuses and 
excessive risk in the financial system, but we are concerned 
that the FSOC is seeking to exercise its designation authority 
quite broadly and to the exclusion of other mandates. The 
opacity of the designation process only exacerbates this 
problem.
    The FSOC's supplemental procedures to the SIFI designation 
process, implemented in February, are welcome, but fall well 
short. These changes should be codified in statute to provide 
greater certainty and predictability to the process. In 
addition, Congress must act to require the FSOC to give both 
primary regulators and companies under consideration for 
designation an opportunity to address identified systemic risks 
prior to designation, as well as require an enhanced post-
designation review process. Such steps would support the FSOC's 
mission both by reducing risks in the financial system and by 
reserving SIFI designations and the exceptional remedies that 
flow there from only to those circumstances in which they are 
clearly necessary.
    The Institute believes that Title III of the Financial 
Regulatory Improvement Act of 2015 significantly addresses 
these concerns. The Institute also supports H.R. 1550, the 
Financial Stability Oversight Council Improvement Act, which 
includes similar de-risking provisions, as well as codifies 
into statute FSOC's supplemental procedures.
    In none of its nonbank designations thus far has the FSOC 
chosen to explain the basis for its decision with any 
particularity. Instead, it appears to have relied on a single 
metric (a firm's size) to the exclusion of the other factors 
cited in the Dodd-Frank Act. It also has theorized about risks 
instead of conducting the kind of thorough, objective, 
empirical analysis that should underlie its decisions. The FSOC 
should be explicit about the systemic risks it identifies 
arising from a firm's structure or activities, and the results 
of any analysis that might lead to designation should be made 
public. This would be beneficial on all sides--it would help 
market regulators and firms address such risks, and it would 
promote public understanding of and confidence in what the FSOC 
regards to be systemically risky and why.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN SHELBY
                    FROM DOUGLAS HOLTZ-EAKIN

Q.1. What can be done to improve the determination process 
including with respect to improving transparency and 
accountability? Please clarify which of your recommendations 
warrant congressional action and which recommendations the FSOC 
would be able to implement on its own pursuant to an existing 
statutory authority.

A.1. There are at least 18 GAO recommendations with an open 
status that mirror some of the concerns raised in my testimony 
related to the transparency of FSOC's process. \1\ 
Additionally, past work at the American Action Forum has 
highlighted many potential reform options to improve 
transparency and accountability including but not limited to: 
\2\
---------------------------------------------------------------------------
     \1\ These recommendations are part of four previous GAO reports: 
GAO-15-51, GAO-13-622, GAO-12-886, and GAO-12-151.
     \2\ See Satya Thallam, ``Considering an Activity-Based Regulatory 
Approach to FSOC'', (September 2014); http://americanactionforum.org/
research/considering-an-activity-based-regulatory-approach-to-fsoc; 
Satya Thallam, ``Reform Principles for FSOC Designation Process'', 
(November 2014); http://americanactionforum.org/research/reform-
principles-for-fsoc-designation-process; and Satya Thallam, ``Reform 
Principles for FSOC Designation Process (Cont'd)'', (January 2015); 
http://americanactionforum.org/solutions/reform-principles-for-fsoc-
designation-process-contd.

    Regular meetings and communication with experts and 
---------------------------------------------------------------------------
        stakeholders

    More detailed minutes

    Public disclosure of a checklist of findings 
        regarding a firm along the criteria codified in Dodd-
        Frank

    Final designations decisions available to the 
        public that cite specific activities or subsidiaries of 
        designated firms posing acute threats to America's 
        financial stability

    Comprehensive assessments of the economic costs and 
        benefits of designation

    The Dodd-Frank Act granted FSOC broad authority statutorily 
to set the specific determinants of a SIFI designation for 
nonbanks and lay out its operational procedures. FSOC has 
independently shown some willingness to address criticisms 
related to the processes and procedures it has developed. 
Specifically, the procedures adopted in February to open up 
FSOC and improve communication with firms under review were a 
good first step. FSOC's broad statutory authority should allow 
it continue these improvements and make the changes recommended 
in my testimony.
    Of the eight primary criticisms I outlined, the 
supplemental procedures adopted in February related to points 
1, 6, and 7, though none fully addressed the issues raised. If 
FSOC appears unlikely to move forward with further 
improvements, it may behoove the Committee to consider 
legislation that at a minimum requires FSOC to conduct its 
business with greater analytical rigor, puts oversight 
authority in the hands of existing regulators and not the 
Federal Reserve Board of Governors, encourages the Council to 
consider an activity-based approach ahead of institution-by-
institution designation, and more clearly outlines and 
emphasizes the ability to de-risk and exit designation.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER
                    FROM DOUGLAS HOLTZ-EAKIN

Q.1. Your testimony recommends that the FSOC share its analysis 
of what makes a company systemic so that the company might have 
an opportunity to address those risks and reduce its systemic 
footprint.
    If our ultimate policy goal is to reduce systemic risk, 
would it make sense for the de-designation process to be more 
clear, more structured, and more robust?

A.1. Yes, absolutely. As outlined in my testimony, FSOC has not 
given companies the necessary information or opportunity to 
understand and address the metrics leading to a SIFI label. The 
internal changes announced in February are additionally not 
enough to ensure that designated nonbanks have a genuine 
opportunity to address Council concerns and exit designation. 
While FSOC's primary mission is to identify activities and 
practices that generate systemic risks, in practice it has 
prioritized designation and regulation of institutions. At a 
minimum, further clarity and analytical rigor are needed to 
make annual reevaluations of SIFI status more than just check-
the-box exercises, to provide a clear path for companies away 
from designation, and to uphold FSOC's primary mission of 
identifying and mitigating risks to America's financial 
stability.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN SHELBY
                    FROM DENNIS M. KELLEHER

Q.1. What can be done to improve the determination process 
including with respect to improving transparency and 
accountability? Please clarify which of your recommendations 
warrant congressional action and which recommendations the FSOC 
would be able to implement on its own pursuant to an existing 
statutory authority.

A.1. The Financial Stability Oversight Council was created less 
than 5 years ago in the Dodd-Frank Wall Street Reform and 
Consumer Protection Act. It was tasked with a number of very 
important responsibilities, including identifying, analyzing, 
and, if appropriate, designating systemically significant 
nonbank financial institutions. As AIG, GE, Bear Stearns, 
Lehman Brothers, and so many more nonbank financial risks 
proved conclusively in the 2008 financial crash, systemically 
significant nonbank financial institutions can pose grave risks 
to the American people, the financial system and our economy. 
Moreover, they can be costly to our taxpayers and Government 
when, as they did in 2008, they line up with their hands out 
for bailouts.
    Thus, identifying, analyzing and, if appropriate, 
designating systemically significant nonbank financial 
institutions are a key part of protecting the American people 
and our treasury. A great deal of important work has been done 
in this area by the Stability Council, including very 
significant recent changes to make the process work even 
better.
    First, it has to be recognized that the Stability Council 
did a remarkable job in standing up the entire Council in very 
little time and acting swiftly to implement the law as 
directed. While doing that, it has also made great strides in 
increasing the transparency and accountability of its 
designation process. The process was previously too opaque, 
depriving the public as well as potential designees of 
important information. For example, the Council did not 
disclose important data such as the number of firms under 
consideration, which firms were under consideration, and the 
number of firms FSOC declined to designate. In addition, the 
Council did not provide sufficient information about the 
process it follows for designation. However, to its credit, the 
Stability Council heard those criticisms, including prominently 
from Better Markets. It engaged in extensive outreach to all 
stakeholders.
    Second, the Stability Council acted on those concerns and 
recently changed procedures to be more transparent and 
accountable. Referred to as Supplemental Procedures, the 
Stability Council released this past February a series of very 
significant changes to their processes and procedures, which 
are designed to improve transparency and accountability. Under 
the new provisions, the Council provides information about the 
number of firms it considers for designation and provides 
additional information as to how it conducts designations. 
Further, the Council also now interacts with firms under 
consideration and primary regulators much earlier in the 
process. These changes are indeed significant, showing that the 
Council is listening carefully to those who comment on its 
activities, and is responding with meaningful, timely, 
inclusive action.
    Thus, we do not believe that this is the appropriate time 
to impose changes on the Stability Council, especially not 
changes mandated by Congress that are written in law that would 
deprive the Council of essential flexibility to adapt to 
unseen, unanticipated, new and emerging systemic risks. We 
believe that now is the time to let the Stability Council 
implement its new Procedures and to monitor those changes and 
the Council to determine if they were sufficient and 
implemented as well as they could be.
    We hold this view knowing that not all of the changes 
recommended by Better Markets and others were adopted and all 
criticism, merited or not, has not abated. That, however, 
should not detract from the remarkable and unprecedented way 
the Stability Council has done its work while also adapting to 
new information and circumstances. Given that the Stability 
Council has shown an ability and willingness to listen and 
change on its own, we believe that it has earned the trust and 
respect of critics to continue to work to refine its procedures 
and policies to balance a number of competing interests while 
fulfilling its incredibly important mission.
              Additional Material Supplied for the Record
LETTER SUBMITTED BY THE NATIONAL ASSOCIATION OF INSURANCE COMMISSIONERS
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  STATEMENT SUBMITTED BY PETER J. WALLISON, ARTHUR F. BURNS FELLOW IN 
     FINANCIAL POLICY STUDIES AT THE AMERICAN ENTERPRISE INSTITUTE

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 STATEMENT SUBMITTED BY AARON KLEIN, DIRECTOR OF THE BIPARTISAN POLICY 
            CENTER'S FINANCIAL REGULATORY REFORM INITIATIVE

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            REPORT SUBMITTED BY THE BIPARTISAN POLICY CENTER

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LETTER OF DISSENT SUBMITTED BY BENJAMIN M. LAWSKY, SUPERINTENDENT, NEW 
                 YORK DEPARTMENT OF FINANCIAL SERVICES

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            ROY WOODALL AND JOHN HUFF DISSENTS ON PRUDENTIAL

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            ROY WOODALL AND ADAM HAMM DISSENTS ON METLIFE
            
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  STATEMENT OF THE NATIONAL ASSOCIATION OF MUTUAL INSURANCE COMPANIES

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 STATEMENT SUBMITTED BY STEPHEN D. STEINOUR, CHAIRMAN, PRESIDENT, AND 
                    CEO, HUNTINGTON BANCSHARES, INC.
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