[Federal Register Volume 84, Number 85 (Thursday, May 2, 2019)]
[Proposed Rules]
[Pages 18741-18746]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-08898]
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Proposed Rules
Federal Register
________________________________________________________________________
This section of the FEDERAL REGISTER contains notices to the public of
the proposed issuance of rules and regulations. The purpose of these
notices is to give interested persons an opportunity to participate in
the rule making prior to the adoption of the final rules.
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Federal Register / Vol. 84, No. 85 / Thursday, May 2, 2019 / Proposed
Rules
[[Page 18741]]
FEDERAL RESERVE SYSTEM
12 CFR Part 231
[Regulation EE; Docket No. R-1661]
RIN 7100-AF 48
Netting Eligibility for Financial Institutions
AGENCY: Board of Governors of the Federal Reserve System.
ACTION: Notice of proposed rulemaking.
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SUMMARY: The Board of Governors (Board) is seeking comment on a
proposal to amend Regulation EE to include certain new entities in the
definition of ``financial institution'' contained in section 402 of the
Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA)
so that they will be covered by FDICIA's netting provisions. The
proposal would also clarify how the existing activities-based test in
Regulation EE applies following a consolidation of legal entities.
DATES: Comments must be received on or before July 1, 2019.
ADDRESSES: When submitting comments, please consider submitting your
comments by email or fax because paper mail in the Washington, DC area
and at the Board may be subject to delay. You may submit comments,
identified by Docket No. R-1661, RIN 7100-AF 48, by any of the
following methods:
Agency Website: http://www.federalreserve.gov. Follow the
instructions for submitting comments at http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm.
Email: [email protected]. Include docket
number in the subject line of the message.
Fax: (202) 452-3819 or (202) 452-3102.
Mail: Ann E. Misback, Secretary, Board of Governors of the
Federal Reserve System, 20th Street and Constitution Avenue NW,
Washington, DC 20551.
All public comments are available from the Board's website at
http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm as
submitted, unless modified for technical reasons or to remove
personally identifiable information at the commenter's request.
Accordingly, comments will not be edited to remove any identifying or
contact information. Public comments may also be viewed electronically
or in paper in Room 146, 1709 New York Avenue NW, Washington, DC 20006,
between 9:00 a.m. and 5:00 p.m. on weekdays.
FOR FURTHER INFORMATION CONTACT: Evan Winerman, Senior Counsel (202-
872-7578), Justyna Bolter, Attorney (202-452-2686), Legal Division.
Users of Telecommunication Device for Deaf (TDD) only, call (202) 263-
4869.
SUPPLEMENTARY INFORMATION:
I. Background
Sections 401-407 of the Federal Deposit Insurance Corporation
Improvement Act of 1991 (FDICIA) \1\ validate netting contracts among
financial institutions. Parties to a netting contract agree that they
will pay or receive the net, rather than the gross, payment due under
the netting contract. FDICIA provides certainty that netting contracts
will be enforced, even in the event of the insolvency of one of the
parties. FDICIA's netting provisions were designed to promote
efficiency and reduce systemic risk within the banking system and
financial markets.\2\ As market participants generally manage their
counterparty risk by setting bilateral exposure limits vis-[agrave]-vis
other market participants, FDICIA's netting protections allow market
participants to rely on net exposure values, thereby enhancing market
liquidity and reducing counterparty risk.
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\1\ Public Law 102-242; 105 Stat. 2236, 2372-3; 12 U.S.C. 4401-
4407.
\2\ See FDICIA section 401, 12 U.S.C. 4401.
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The netting provisions apply to bilateral netting contracts between
two financial institutions and multilateral netting contracts among
members of a clearing organization. FDICIA section 402(9) defines
``financial institution'' to include a depository institution, a
securities broker or dealer, a futures commission merchant, or any
other institution as determined by the Board. In Regulation EE, the
Board broadened the definition of ``financial institution,'' consistent
with FDICIA's purpose of enhancing efficiency and reducing systemic
risk in the financial markets. In defining ``financial institution'' in
Regulation EE, the Board intended to include financial market
participants that regularly enter into financial contracts on both
sides of a financial market, where the failure of the participant could
create systemic problems in the financial markets in terms of losses to
counterparties or market confidence and liquidity.\3\ Specifically,
Regulation EE expands the FDICIA definition of ``financial
institution''--and therefore expands FDICIA's netting protections--
using an activities-based test that includes a qualitative component
and a quantitative component. The qualitative component requires that
the person ``represent[ ], orally or in writing, that it will engage in
financial contracts as a counterparty on both sides of one or more
financial markets.'' \4\ A person that makes this representation
demonstrates that it is willing to engage in transactions on both sides
of the market and is, in effect, holding itself out as a market
intermediary.\5\ The quantitative component requires that the person
have either (1) one or more financial contracts of a total gross dollar
value of at least $1 billion in notional principal amount outstanding
on any day during the previous 15-month period with counterparties that
are not its affiliates or (2) total gross mark-to-market positions of
at least $100 million (aggregated across counterparties) in one or more
financial contracts on any day during the previous 15-month period with
counterparties that are not its affiliates.\6\ Since Regulation EE was
finalized in 1994, the Board has made only a non-substantive amendment
in 1996 to clarify that the representation of financial market
intermediary status can be made orally or in writing.
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\3\ 58 FR 29149, 29150 (May 19, 1993).
\4\ 12 CFR 231.3(a). Regulation EE generally defines the term
``financial contract'' by reference to the term ``qualified
financial contract'' under section 11(e)(8)(D) of the Federal
Deposit Insurance Act, 12 U.S.C. 1821(e)(8)(D). 12 CFR 231.2(c).
\5\ 59 FR 4780, 4782 (Feb. 2, 1994).
\6\ Id.
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Regulation EE does not expand the definition of ``financial
institution'' by rule to include institutions or individuals who are
end users and not market intermediaries. However, the
[[Page 18742]]
Board has issued a limited number of case-by-case ``financial
institution'' determinations with respect to certain government-
sponsored end users and members in a large-value fund transfer
system.\7\
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\7\ Pursuant to these case-by-case determinations, the Board has
granted ``financial institution'' status to certain members of the
CHIPS[supreg] funds-transfer system and to certain government-
sponsored enterprises including Fannie Mae, Freddie Mac, Sallie Mae,
the Farm Credit System Banks, and the Federal Home Loan Banks.
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Certain payment, clearing, and settlement systems continue to rely
on FDICIA's netting provisions to ensure that their netting agreements
will be enforceable if a participant in the system becomes
insolvent.\8\ An organization that relies on the bilateral netting
provisions of FDICIA section 403 would require that all of its members
qualify as financial institutions under FDICIA's statutory definition
or under Regulation EE. An organization that relies on the multilateral
netting provisions of FDICIA section 404 would generally require that
all of its members qualify as either (1) financial institutions under
FDICIA's statutory definition or under Regulation EE or (2) clearing
organizations as defined in FDICIA section 402(2).\9\
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\8\ The Board recognizes that certain financial institutions and
clearing organizations may also rely on provisions of the Bankruptcy
Code, the Federal Deposit Insurance Act, and other statutes to
ensure the enforceability of netting agreements for particular
financial contracts (e.g., swap agreements and repurchase
agreements) and master netting agreements for multiple types of
financial contracts.
\9\ FDICIA section 402(2) generally defines ``clearing
organization'' to include entities that provide clearing, netting,
and settlement services to their members and in which all members of
the entity are themselves financial institutions or clearing
organizations. However, certain entities qualify as clearing
organizations under FDICIA section 402(2)--and are therefore
eligible for the multilateral netting protections under FDICIA
section 404--without regard to whether all of their members qualify
as financial institutions or clearing organizations. Specifically,
an entity automatically qualifies as a clearing organization if it
is (1) registered with the Securities and Exchange Commission (SEC)
as a clearing agency or has been exempted from registration by SEC
order or (2) registered with the Commodity Futures Trading
Commission (CFTC) as a derivatives clearing organization or has been
exempted from registration by the CFTC.
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II. Description of Proposed Rule
The Board proposes to extend ``financial institution'' status for
purposes of FDICIA's netting provisions to certain new categories of
entities. The Board also proposes to clarify how the existing
activities-based test in Regulation EE applies following a
consolidation of legal entities.
A. Qualification as a Financial Institution Based on Type of Entity
Consistent with the purposes of FDICIA's netting provisions, the
proposal would apply the netting benefits in Regulation EE to entities
whose coverage would reduce systemic risk and increase efficiency in
the financial markets. (The Board recognizes that some entities that
would qualify as financial institutions under the proposal might
already qualify as financial institutions under FDICIA's statutory
definition or under the existing activities-based test in Regulation
EE.)
When the Board promulgated Regulation EE in 1994, the Board chose
not to adopt a test for expanding financial institution status based on
an entity's regulatory status or charter category. The Board stated at
the time that such a test would have been over-inclusive because it
would have extended financial institution status to entities that (1)
were not market intermediaries and (2) did not engage in a volume of
transactions that could create systemic risk.\10\ The Board also noted,
when it proposed Regulation EE in 1993, that a test based on regulatory
status or charter category would have been under-inclusive because it
would have excluded ``major unregulated market participants, such as
swap dealers . . . .'' \11\
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\10\ 59 FR 4780, 4783 (Feb. 2, 1994).
\11\ 58 FR 29149, 29150 (May 19, 1993).
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Since the Board promulgated Regulation EE in 1994, the domestic and
global landscape for financial regulation has changed dramatically. For
example, the Dodd-Frank Wall Street Reform and Consumer Protection Act
(Dodd-Frank Act),\12\ signed into law on July 21, 2010, imposed or
expanded federal supervision and regulation for multiple types of
entities that serve as financial market intermediaries or are
systemically important, including swap dealers, security-based swap
dealers, nonbank financial companies that the Financial Stability
Oversight Council (FSOC) has subjected to Board supervision and
regulation, and FSOC-designated financial market utilities. In
subjecting these entities to higher levels of regulation and
supervision due to their activities, transaction volumes, and risks
presented to the financial markets, Congress indicated the importance
of the smooth functioning of these entities to the financial markets.
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\12\ Public Law 111-203, 124 Stat. 1376.
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In keeping with FDICIA's goals of reducing systemic risk and
increasing efficiency in the financial markets, the Board believes that
the addition of certain categories of institutions to the definition of
``financial institution'' would benefit financial markets that continue
to rely on FDICIA's netting provisions.
1. Swap Dealers and Security-Based Swap Dealers
As noted above, when the Board proposed Regulation EE in 1993, the
Board recognized the important role that swap dealers played in the
financial markets but stated that swap dealers were ``unregulated.''
\13\ Congress subsequently imposed extensive new requirements on swap
dealers and security-based swap dealers. Specifically, Title VII of the
Dodd-Frank Act imposes a variety of requirements on swap dealers and
security-based swap dealers, including a requirement to register with
the CFTC or the SEC, respectively, when they exceed a de minimis level
of dealing activity.\14\
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\13\ 58 FR 29149, 29150 (May 19, 1993).
\14\ See 7 U.S.C. 6s (swap dealer registration requirement) and
17 CFR 1.3 (swap dealer definition and de minimis thresholds); 15
U.S.C. 78o-10 (security-based swap dealer registration requirement)
and 17 CFR 240.3a71-1 and 240.3a71-2 (security-based swap dealer
definition and de minimis thresholds).
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The requirements in Title VII of the Dodd-Frank Act recognize the
important role that swap dealers and security-based swap dealers play
as intermediaries in derivatives markets. Proposed Sec. 231.3(d)(1)
and (2) would clarify that swap dealers registered with the CFTC and
security-based swap dealers registered with the SEC are financial
institutions.
2. Major Swap Participants and Major Security-Based Swap Participants
Title VII of the Dodd-Frank Act not only imposes new requirements
on swap dealers and security-based swap dealers, but also on major swap
participants (MSPs) and major security-based swap participants
(MSBSPs). MSPs and MSBSPs are, generally, entities that hold large
derivatives positions but are not swap dealers or security-based swap
dealers.\15\ Like swap dealers and security-based swap dealers, MSPs
and MSBSPs must, inter alia, register with the CFTC and SEC,
respectively.\16\ The requirements in Title VII of the Dodd-Frank Act
recognize that, while MSPs and MSBSPs are not necessarily
intermediaries, they may present an important source of risk in the
derivatives markets. Proposed Sec. 231.3(d)(1) and (2) would clarify
that
[[Page 18743]]
MSPs registered with the CFTC and MSBSPs registered with the SEC are
financial institutions.
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\15\ See 7 U.S.C. 1a(33) (MSP definition) and 15 U.S.C.
78c(a)(67) (MSBSP definition).
\16\ See 7 U.S.C. 6s (MSP registration requirement) and 15
U.S.C. 78o-10 (MSBSP registration requirement).
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3. Nonbank Systemically Important Financial Institutions
Title I of the Dodd-Frank Act \17\ extends Board supervision and
regulation to certain nonbank financial companies that could pose a
threat to financial stability.\18\ Title I authorizes the FSOC to
subject nonbank financial companies to supervision and regulation by
the Board in order to address any potential risks that these companies
pose to financial stability (such designated entities are referred to
as ``nonbank systemically important financial institutions'' or
``nonbank SIFIs'').\19\ In determining whether to designate an entity
as a nonbank SIFI, the FSOC considers its leverage, off-balance-sheet
exposures, interconnectedness with other entities, importance as a
source of liquidity, source of credit, manner of asset management,
asset mix, other regulatory oversight, amount and nature of financial
assets, amount and types of liabilities, and other risk-related
factors.\20\
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\17\ 12 U.S.C. chapter 53, subchapter 1.
\18\ 12 U.S.C. 5311(a)(4).
\19\ 12 U.S.C. 5323.
\20\ Id.
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FSOC designation of a nonbank SIFI indicates that the nonbank SIFI
plays an important role in U.S. financial markets. Consistent with
FDICIA's purpose of enhancing efficiency and reducing systemic risk in
the financial markets, proposed Sec. 231.3(d)(6) would define
``financial institution'' to include nonbank SIFIs.
4. Certain Financial Market Utilities
Financial market utilities (FMUs) are entities that manage or
operate multilateral systems for the purpose of transferring, clearing
or settling payments, securities, or other financial transactions among
participants or between participants and the FMU itself.\21\ FMUs
include payment systems, central securities depositories (CSDs),
securities settlement systems (SSSs), and central counterparties
(CCPs). Since FDICIA was enacted in 1991, lawmakers and regulators
around the world have increasingly recognized the importance of FMUs,
which can serve a critical role in fostering financial stability but
can also pose significant risks to the financial system.
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\21\ 12 U.S.C. 5462.
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a. Derivatives Clearing Organizations and Clearing Agencies
The Dodd-Frank Act and other post-FDICIA legislation demonstrate
specific Congressional interest in derivatives clearing organizations
(DCOs) and clearing agencies (CAs).\22\ For example, the Commodity
Futures Modernization Act of 2000 \23\ amended the Commodity Exchange
Act to create core principles with which a DCO must comply in order to
be registered and to maintain registration as a DCO, while Title VII of
the Dodd-Frank Act amended the Commodity Exchange Act to provide
explicitly that the CFTC can implement these core principles via
rulemaking.\24\ Similarly, Title VII of the Dodd-Frank Act amended the
Securities Exchange Act to, inter alia, require the SEC to adopt rules
governing CAs that clear security-based swaps.\25\
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\22\ DCOs provide clearing services for CFTC-regulated
derivatives, while CAs provide clearing services for securities. See
7 U.S.C. 1a(15) and 15 U.S.C. 78c(a)(23).
\23\ Public Law 106-554, 114 Stat. 2763 (2000).
\24\ See 7 U.S.C. 7a-1(c)(2).
\25\ 15 U.S.C. 78q-1(j).
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Under FDICIA section 402(2), DCOs and CAs are ``clearing
organizations,'' and therefore their members are eligible for the
multilateral netting protections under FDICIA section 404 without
regard to whether all participants in a DCO or CA qualify as financial
institutions or clearing organizations. However, DCOs and CAs do not
themselves automatically qualify as ``financial institutions.''
Ensuring that DCOs and CAs are ``financial institutions'' would ensure
that DCOs and CAs can participate in other FMUs that rely on the
bilateral netting protections in FDICIA section 403, which would reduce
systemic risk and increase efficiency in the financial markets.
Accordingly, proposed Sec. 231.3(d)(3) would define ``financial
institution'' to include DCOs that are registered with the CFTC or have
been exempted from registration by the CFTC,\26\ and proposed Sec.
231.3(d)(4) would define ``financial institution'' to include CAs that
are registered with the SEC or have been exempted from registration by
the SEC.\27\
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\26\ See 7 U.S.C. 7a-1(a) and (h).
\27\ See 15 U.S.C. 78q-1(b) and (k).
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b. Designated Financial Market Utilities
Under Title VIII of the Dodd-Frank Act, the FSOC can designate FMUs
as systemically important, after which such designated FMUs (DFMUs)
become subject to an enhanced supervisory framework.\28\ In determining
whether to designate an entity as a DFMU, the FSOC considers the
aggregate monetary value of its transactions, its aggregate exposure,
interconnectedness with other entities, effect of its failure or
disruption on the financial system and any other factors that the FSOC
deems appropriate.\29\ The FSOC has currently designated eight FMUs,
including a U.S. dollar payment system,\30\ a multi-currency foreign
exchange settlement system,\31\ a CSD/SSS,\32\ and CCPs for securities
and derivatives.\33\ Ensuring that all DFMUs (not just those that are
CAs or DCOs, which are captured in the discussion above) qualify as
``financial institutions'' would ensure that all DFMUs can participate
in other FMUs that rely on FDICIA's netting protections, which would
reduce systemic risk and increase efficiency in the financial markets.
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\28\ See 12 U.S.C. 5461-5472.
\29\ 12 U.S.C. 5463.
\30\ The Clearing House Payment Company, L.L.C., on the basis of
its role as operator of the Clearing House Interbank Payments
System.
\31\ CLS Bank International.
\32\ The Depository Trust Company.
\33\ Chicago Mercantile Exchange, Inc.; ICE Clear Credit L.L.C.;
The Options Clearing Corporation; Fixed Income Clearing Corporation;
and National Securities Clearing Corporation.
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Accordingly, proposed Sec. 231.3(d)(5) would define ``financial
institution'' to include DFMUs.
5. Foreign Banks
FDICIA section 402(9) defines the term ``financial institution'' to
include ``a depository institution,'' and FDICIA section 402(6) defines
``depository institution'' to include ``a branch or agency of a foreign
bank, a foreign bank and any branch or agency of the foreign bank, or
the foreign bank that established the branch or agency, as those terms
are defined in section 1(b) of the International Banking Act of 1978.''
The International Banking Act defines ``foreign bank'' broadly to
encompass banking institutions organized under the laws of a foreign
country, a territory of the United States, Puerto Rico, Guam, American
Samoa, or the Virgin Islands.\34\
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\34\ 12 U.S.C. 3101(7).
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The Board believes that FDICIA's statutory definitions of
``depository institution'' and ``financial institution'' extend to all
foreign banks, including foreign banks that do not have a U.S. branch
or agency. This view is consistent with the statutory language as well
as the relevant legislative history.\35\
[[Page 18744]]
Certain market participants have expressed concern that an alternative
reading of the statute is possible and that a court might find that a
foreign bank does not qualify as a ``depository institution''--and thus
does not meet FDICIA's statutory definition of ``financial
institution''--unless the foreign bank has a U.S. branch or agency.
Proposed Sec. 231.3(d)(7) would clarify that all foreign banks are
financial institutions, including foreign banks that do not have a U.S.
branch or agency and bridge banks that foreign authorities establish to
facilitate the resolution of foreign banks.
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\35\ See H.R. Rep No. 109-31, at 126 (2005) (noting that
expanding FDICIA's definition of ``financial institutions'' to
include foreign banks would ``extend the protections of FDICIA to
ensure that U.S. financial organizations participating in netting
agreements with foreign banks are covered by [FDICIA], thereby
enhancing the safety and soundness of these arrangements'').
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6. Bridge Institutions
Under certain circumstances, governmental authorities can charter
bridge institutions to facilitate the resolution of another legal
entity, including a non-bank entity. For example, under Title II of the
Dodd-Frank Act, the Federal Deposit Insurance Corporation (FDIC) can
establish a ``bridge financial company'' when the FDIC acts as receiver
for a nonbank ``covered financial company.'' \36\ Title II allows a
bridge financial company to, inter alia, assume liabilities of the
covered financial company and purchase assets from the covered
financial company.\37\ Similarly, section 11(n) of the Federal Deposit
Insurance Act allows the FDIC to establish a bridge bank or savings
association to facilitate the resolution of a failed bank or savings
association.\38\ Foreign authorities can establish similar bridge
institutions.\39\
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\36\ 12 U.S.C. 5390(h).
\37\ 12 U.S.C. 5390(h)(1)(b).
\38\ 12 U.S.C. 1821(n).
\39\ See, e.g., Directive 2014/59/EU of the European Parliament
and of the Council of 15 May 2014 establishing a framework for the
recovery and resolution of credit institutions and investment firms
and amending Council Directive 82/891/EEC, and Directives 2001/24/
EC, 2002/47/EC, 2004/25/EC, 2005/56/EC, 2007/36/EC, 2011/35/EU,
2012/30/EU and 2013/36/EU, and Regulations (EU) No 1093/2010 and
(EU) No 648/2012, of the European Parliament and of the Council,
2014 OJ (L 173) 190, Article 40.
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The Board believes that any bridge institution, foreign or
domestic, would require uninterrupted access to payment systems or
clearing organizations, some of which might require participants to be
financial institutions for purposes of FDICIA's netting provisions. A
bridge bank or savings association that the FDIC establishes pursuant
to section 11(n) of the Federal Deposit Insurance Act would qualify as
a financial institution under FDICIA's statutory definition, which
extends financial institution status to any ``depository institution.''
\40\ The Board also believes that a foreign bridge bank would qualify
as a financial institution under FDICIA's statutory definition, because
FDICIA's statutory definitions of ``depository institution'' and
``financial institution'' extend to all foreign banks, including
foreign bridge banks.\41\
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\40\ The first prong of FDICIA's definition of ``depository
institution'' includes a depository institution as defined in
section 19(b)(1)(A) of the Federal Reserve Act (other than clause
(vii)). The relevant section of the Federal Reserve Act states that
the term ``depository institution'' includes, inter alia, any
insured bank as defined in section 3 of the Federal Deposit
Insurance Act and any savings association (as defined in section 3
of the Federal Deposit Insurance Act) which is an insured depository
institution (as defined in such Act). Section 3(h) of the Federal
Deposit Insurance Act in turn defines the term ``insured bank'' to
mean any bank, the deposits of which are insured in accordance with
the provisions of the Act, and section 3(c)(2) of the Federal
Deposit Insurance Act defines ``insured depository institution'' to
mean any bank or savings association, the deposits of which are
insured by the Corporation pursuant to the Act. Section 11(n)(d) of
the Federal Deposit Insurance Act states that a bridge depository
institution shall be an insured depository institution from the time
it is chartered as a national bank or Federal savings association.
Accordingly, at the time the FDIC charters a bridge bank or savings
association, the deposits of that bridge bank or savings association
are insured by the FDIC, and the bridge bank or savings association
therefore qualifies as (1) an insured bank and/or an insured
depository institution under the Federal Deposit Insurance Act and
(2) a depository institution under Federal Reserve Act section
19(b)(1)(A) and FDICIA section 402.
\41\ As noted above, proposed Sec. 231.3(d)(7) would codify the
Board's existing view that all foreign banks are financial
institutions, including foreign bridge banks.
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Proposed Sec. 231.3(d)(8) would ensure that all bridge
institutions that are established to help resolve financial
institutions--including bridge financial companies established by the
FDIC and similar nonbank bridge institutions established under foreign
law--can qualify as financial institutions. Proposed Sec. 231.3(d)(8)
would provide that ``[a] bridge institution established for the purpose
of resolving a financial institution'' is itself a financial
institution.\42\ Proposed Sec. 231.2(c) would define ``bridge
institution'' as ``a legal entity that has been established by a
governmental authority to take over, transfer, or continue operating
critical functions and viable operations of an entity in resolution. A
bridge institution could include a bridge depository institution or a
bridge financial company organized by the Federal Deposit Insurance
Corporation in accordance with 12 U.S.C. 1821(n) or 5390(h),
respectively, or a similar entity organized under foreign law.''
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\42\ This provision would apply to a bridge institution
established for the purpose of resolving an entity that either (1)
meets FDICIA's statutory definition of financial institution or (2)
qualifies as a financial institution under Regulation EE.
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7. Federal Reserve Banks
The Federal Reserve Banks participate in financial markets through
various types of transactions, called ``open market operations,'' that
are used to implement monetary policy.\43\ In the event that a Federal
Reserve Bank does not separately meet the quantitative test in
Regulation EE, the Board believes that it should be clear that each
Federal Reserve Bank is a ``financial institution'' and is able to
benefit from the netting provisions of Regulation EE. Proposed Sec.
231.3(d)(9) would ensure that the Federal Reserve Banks qualify as
financial institutions.
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\43\ See sections 12A and 14 of the Federal Reserve Act
(allowing the Federal Open Market Committee to authorize the Federal
Reserve Banks to engage in various types of open market operations).
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8. Request for Comment
The Board requests comment on whether the entities described above
should qualify as financial institutions. The Board also requests
comment on whether other categories of entities should qualify as
financial institutions.
In addition, the Board requests comment on whether it should
include in the definition of financial institution an entity that is a
qualifying central counterparty under 12 CFR 217.2. What entities might
benefit from such inclusion?
B. Activities-Based Test
As noted above, the quantitative component of the activities-based
test requires that a person have either (1) one or more financial
contracts of a total gross dollar value of at least $1 billion in
notional principal amount outstanding on any day during the previous
15-month period with counterparties that are not its affiliates or (2)
total gross mark-to-market positions of at least $100 million
(aggregated across counterparties) in one or more financial contracts
on any day during the previous 15-month period with counterparties that
are not its affiliates.\44\ The Board proposes to add
[[Page 18745]]
language to clarify, consistent with its current understanding, that
the ``previous 15-month period'' also includes the day on which the
notional principal amount of $1 billion is met by adding the words ``at
such time'' to proposed Sec. Sec. 231.3(a)(1) and (a)(2).\45\
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\44\ 12 CFR 231.3(a). The Bankruptcy Code includes a test for
identifying ``financial participants'' that is substantively
identical to the quantitative test in Regulation EE. 11 U.S.C.
101(22A). Under the Bankruptcy Code, financial participants that
enter into certain types of financial contracts and master netting
agreements for those financial contracts are exempt from provisions
of the Bankruptcy Code that might otherwise delay or prevent netting
related to those contracts. See, e.g., 11 U.S.C. 362(b)(6), (7),
(17), and (27) (specifying that the Bankruptcy Code's automatic stay
does not prevent a financial participant from exercising a
contractual right to, inter alia, ``offset or net out any
termination value, payment amount, or other transfer obligation
arising under or in connection with'' certain types of financial
contracts and master netting agreements for those financial
contracts).
\45\ This amendment would align Regulation EE with the
Bankruptcy Code test for identifying ``financial participants'',
which is substantively identical to the activities-based test in
Regulation EE but includes the words ``at such time.'' 11 U.S.C.
101(22A).
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The Board also proposes to clarify how the existing activities-
based test in Regulation EE applies following a consolidation of legal
entities. The quantitative component of the activities-based test may
not be clear if, for example, two or more entities consolidate and each
of these entities did not, on its own, meet the quantitative thresholds
described above. Accordingly, the Board is proposing to clarify that,
upon the consolidation of two or more entities, the surviving entity
may aggregate the total gross dollar value of notional principal
amounts outstanding or the total gross mark-to-market positions of both
entities on each calendar day during the previous 15-month period, and
such total amounts would be used to determine whether the surviving
entity meets the quantitative thresholds of the activities-based
test.\46\ Proposed Sec. 231.3(b) would clarify that ``[a]fter two or
more persons consolidate, such as through a merger or acquisition, the
surviving person meets the quantitative thresholds . . . if, on the
same, single calendar day during the previous 15-month period, the
aggregate financial contracts of the consolidated persons would have
met such quantitative thresholds.'' The Board requests comment on this
proposed approach.
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\46\ For example, if company A acquires company B and, on the
same, single calendar day in the last fifteen months, company A and
company B each had financial contracts of a total gross dollar value
of $500 million in notional principal amount outstanding (equaling
an aggregate notional principal amount of $1 billion outstanding on
that day), company A would meet the quantitative test even if it
does not currently have financial contracts of a total gross
notional value of $1 billion. Similarly, if company A and company B
each had, on the same, single calendar day in the last fifteen
months, total gross mark-to-market positions of $50 million in one
or more financial contracts (equaling an aggregate gross mark-to-
market position of $100 million on such day), company A would meet
the quantitative test even if it does not currently have financial
contracts with a total gross mark-to-market positions of at least
$100 million. Each of these qualifications under the quantitative
test for surviving company A would last 15 months from the day on
which the relevant quantitative threshold was reached, unless
surviving company A subsequently independently meets the test.
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The Board also requests comment on whether it should make any other
modifications to the existing activities-based test. The Board does not
propose to make any other changes at this time.
IV. Regulatory Analysis
A. Paperwork Reduction Act
In accordance with the Paperwork Reduction Act (PRA) of 1995 (44
U.S.C. 3506; 5 CFR part 1320, Appendix A.1), the Board may not conduct
or sponsor, and a respondent is not required to respond to, an
information collection unless it displays a valid Office of Management
and Budget (OMB) control number. The Board reviewed the proposed rule
under the authority delegated to the Board by the OMB and determined
that it contains no collections of information under the PRA.\47\
Accordingly, there is no paperwork burden associated with the rule.
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\47\ See 44 U.S.C. 3502(3).
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B. Regulatory Flexibility Act
In accordance with section 4 of the Regulatory Flexibility Act
(RFA), 5 U.S.C. 601 et seq., the Board is publishing an initial
regulatory flexibility analysis for the proposed rule. The RFA
generally requires an agency to assess the impact a rule is expected to
have on small entities. The RFA requires an agency either to provide a
regulatory flexibility analysis or to certify that the proposed rule
will not have a significant economic impact on a substantial number of
small entities.
Two of the requirements of an initial regulatory flexibility
analysis \48\--a description of the reasons why the action is being
considered and a statement of the objectives of, and legal basis for,
the proposed rule--are contained in the information above. There are no
reporting provisions or relevant federal rules that duplicate, overlap,
or conflict with the proposed rule.\49\
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\48\ 5 U.S.C. 603(b).
\49\ As noted above, certain entities and financial markets do
not rely on FDICIA's netting provisions to ensure the enforceability
of their netting agreements, but instead rely on provisions of the
Bankruptcy Code, the Federal Deposit Insurance Act, and other
statutes to ensure the enforceability of netting agreements for
particular financial contracts (e.g., swap agreements and repurchase
agreements) and master netting agreements for multiple types of
financial contracts.
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Another requirement for the initial regulatory flexibility analysis
is a description of, and where feasible, an estimate of, the number of
small entities to which the proposed rule will apply. The Small
Business Administration (SBA) has adopted small entity size standards
which generally provide that financial entities are ``small entities''
only if they have (1) at most, $38.5 million or less in annual receipts
or (2) for depository institutions and credit card issuers, $550
million or less in assets.\50\ The Board does not believe that the
proposed rule would apply to any small entities. The proposed rule
would extend ``financial institution'' status to swap dealers,
security-based swap dealers, MSPs, MSBSPs, DCOs, clearing agencies,
bridge institutions, and Federal Reserve Banks.\51\ The Board has
previously determined that DFMUs are not small entities; \52\ the CFTC
has previously determined that swap dealers, MSPs, and DCOs are not
small entities; \53\ and the SEC has previously determined that
security-based swap dealers, MSBSPs, and clearing agencies are not
small entities.\54\ The Federal Reserve Banks are not small
entities.\55\
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\50\ 13 CFR 121.201, sector 52 (SBA small entity size standards
for finance and insurance entities).
\51\ As explained above, the proposed rule would also codify the
Board's existing view that foreign banks are financial institutions.
\52\ 79 FR 65543, 65556 (Nov. 5, 2014).
\53\ See, e.g., 81 FR 80563, 80565 (Nov. 16, 2016); 76 FR 69334,
69428 (Nov. 8, 2011).
\54\ See, e.g., 81 FR 29959, 30142 (May 3, 2016); 81 FR 70744,
70784 (Oct. 13, 2016).
\55\ None of the industry codes in the SBA's small entity size
standards necessarily apply to the Federal Reserve Banks per se, but
the SBA's size standards for commercial depository institutions are
instructive. Generally, the SBA's size standards provide that
depository institutions are small entities if they have $550 million
or less in assets. 13 CFR 121.201, sector 52. Each of the Federal
Reserve Banks holds significantly more than $550 million in assets.
See the Statement of Condition of Each Federal Reserve Bank, https://www.federalreserve.gov/releases/h41/current/h41.htm#h41tab10a.
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Similarly, a bridge financial company would not be a small
entity.\56\ As noted above, under U.S. law, the FDIC can establish a
bridge financial company when it acts as receiver for a failing
financial company. In order for the FDIC to be appointed as receiver
for a financial company, the Secretary of the Treasury must determine
that, inter alia, ``the failure of the financial company and its
resolution under otherwise applicable Federal or State law would have
serious adverse effects on financial stability in the United States.''
\57\ The failure of a financial company that is a ``small entity''
would not affect financial
[[Page 18746]]
stability in the United States.\58\ Accordingly, the FDIC would not act
as receiver--and would not form a bridge financial company--for a small
entity. It is therefore unlikely that a bridge financial company would
be a small entity.
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\56\ A bridge depository institution might be a small entity,
but this proposed rule would not affect the status of bridge
depository institutions under FDICIA because (as noted above) such
institutions qualify as ``financial institutions'' under FDICIA's
statutory definition.
\57\ 12 U.S.C. 5383(b)(2).
\58\ See 13 CFR 121.201, sector 52 (Small Business
Administration small entity size standards for finance and insurance
entities), which generally provides that financial entities are
``small entities'' only if they have (1) at most, $38.5 million or
less in annual receipts or (2) for depository institutions and
credit card issuers, $550 million or less in assets.
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C. Plain Language
Section 722 of the Gramm-Leach Bliley Act requires the Board to use
plain language in all proposed and final rules published after January
1, 2000. The Board invites your comments on how to make this proposed
rule easier to understand. For example:
Has the Board organized the material to suit your needs?
If not, how could this material be better organized?
Are the requirements in the proposed rule clearly stated?
If not, how could the proposed rule be more clearly stated?
Does the proposed rule contain language or jargon that is
not clear? If so, which language requires clarification?
Would a different format (grouping and order of sections,
use of headings, paragraphing) make the proposed rule easier to
understand? If so, what changes to the format would make the proposed
rule easier to understand?
What else could the Board do to make the regulation easier
to understand?
List of Subjects in 12 CFR Part 231
Banks, Banking, Financial institutions, Netting.
For the reasons set forth in the preamble, the Board proposes to
amend Regulation EE, 12 CFR part 231, as follows:
PART 231--NETTING ELIGIBILITY FOR FINANCIAL INSTITUTIONS
(REGULATION EE)
0
1. The authority citation for Part 231 continues to read as follows:
Authority: 12 U.S.C. 4402(1)(B) and 4402(9).
0
2. In Sec. 231.2, redesignate paragraphs (c) through (f) as paragraphs
(d) through (g), and add new paragraph (c) to read as follows:
Sec. 231.2 Definitions.
* * * * *
(c) Bridge institution means a legal entity that has been
established by a governmental authority to take over, transfer, or
continue operating critical functions and viable operations of an
entity in resolution. A bridge institution could include a bridge
depository institution or a bridge financial company organized by the
Federal Deposit Insurance Corporation in accordance with 12 U.S.C.
1821(n) or 5390(h), respectively, or a similar entity organized under
foreign law.
0
3. Amend Sec. 231.3 by revising paragraph (a), re-designating
paragraph (c) as paragraph (d) and paragraph (b) as paragraph (c) and
adding new paragraphs (b) and (e) to read as follows:
Sec. 231.3 Qualification as a financial institution.
(a) Activities-based test: A person qualifies as a financial
institution for purposes of sections 401-407 of the Act if it
represents, orally or in writing that it will engage in financial
contracts as a counterparty on both sides of one or more financial
markets and either--
(1) Had one or more financial contracts of a total gross dollar
value of at least $1 billion in notional principal amount outstanding
at such time or on any day during the previous 15-month period with
counterparties that are not its affiliates; or
(2) Had total gross mark-to-market positions of at least $100
million (aggregated across counterparties) in one or more financial
contracts at such time or on any day during the previous 15-month
period with counterparties that are not its affiliates.
(b) After two or more persons consolidate, such as through a merger
or acquisition, the surviving person meets the quantitative thresholds
under paragraphs (a)(1) and (a)(2) if, on the same, single calendar day
during the previous 15-month period, the aggregate financial contracts
of the consolidated persons would have met such quantitative
thresholds.
* * * * *
(e) Other financial institutions: A person qualifies as a financial
institution for purposes of sections 401-407 of the Act if it is--
(1) A swap dealer or major swap participant registered with the
Commodity Futures Trading Commission pursuant to section 4s of the
Commodity Exchange Act (7 U.S.C. 6s).
(2) A security-based swap dealer or major security-based swap
participant registered with the U.S. Securities and Exchange Commission
pursuant to section 15F of the Securities Exchange Act of 1934 (15
U.S.C. 78o-10).
(3) A derivatives clearing organization registered with the
Commodity Futures Trading Commission pursuant to section 5b(a) of the
Commodity Exchange Act (7 U.S.C. 7a-1(a)) or a derivatives clearing
organization that the Commodity Futures Trading Commission has exempted
from registration by rule or order pursuant to section 5b(h) of the
Commodity Exchange Act (7 U.S.C. 7a-1(h)).
(4) A clearing agency registered with the U.S. Securities and
Exchange Commission pursuant to section 17A(b) of the Securities
Exchange Act of 1934 (15 U.S.C. 78q-1(b)) or a clearing agency that the
U.S. Securities and Exchange Commission has exempted from registration
by rule or order pursuant to section 17A(k) of the Securities Exchange
Act of 1934 (15 U.S.C. 78q-1(k)).
(5) A financial market utility that the Financial Stability
Oversight Council has designated as, or as likely to become,
systemically important pursuant to 12 U.S.C. 5463.
(6) A nonbank financial company that the Financial Stability
Oversight Council has determined shall be supervised by the Board and
subject to prudential standards, pursuant to 12 U.S.C. 5323;
(7) A foreign bank as defined in section 1(b) of the International
Banking Act of 1978 (12 U.S.C. 3101), including a foreign bridge bank;
(8) A bridge institution established for the purpose of resolving a
financial institution; or
(9) A Federal Reserve Bank.
By order of the Board of Governors of the Federal Reserve
System, April 26, 2019.
Ann Misback,
Secretary of the Board.
[FR Doc. 2019-08898 Filed 5-1-19; 8:45 am]
BILLING CODE 3210-01-P