Financial Stability Oversight Council Nonbank Designation Process Prompts ‘Frequently Asked Questions,’ October 6 Executive Session

In advance of its Executive Session discussion on nonbank financial company designations scheduled for October 6, 2014, the Financial Stability Oversight Council (“FSOC”) released a set of frequently asked questions on its designation process last Friday, September 26.

To access the list of questions, click here.

Among the authorities granted to the FSOC is its ability to designate nonbank financial companies for heightened supervision–namely, enhanced prudential standards and consolidated oversight by the U.S. Federal Reserve.  Created under Section 113 of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, this authority is an important tool that allows the FSOC to address threats that certain large, complex, interconnected nonbank financial companies could pose to the nation’s financial stability.

In the context of nonbank financial company designations, the FSOC considers a “threat to the financial stability of the United States” to exist if a nonbank financial company’s material financial distress or activities could be transmitted to, or otherwise affect, other firms or markets, thereby causing a broader impairment of financial intermediation or of financial market functioning.   An impairment of financial intermediation and financial market functioning can occur through several channels, including:

• Exposure.  A nonbank financial company’s creditors, counterparties, investors, or other market participants have exposure to the nonbank financial company that is significant enough to materially impair those creditors, counterparties, investors, or other market participants and thereby pose a threat to U.S. financial stability.
• Asset liquidation.  A nonbank financial company holds assets that, if liquidated quickly, would cause a fall in asset prices and thereby significantly disrupt trading or funding in key markets or cause significant losses or funding problems for other firms with similar holdings.
• Critical function or service.  A nonbank financial company is no longer able or willing to provide a critical function or service that is relied upon by market participants and for which there are no ready substitutes.

The FSOC’s interpretive guidance, available here, provides additional detail regarding these transmission channels and associated metrics that the FSOC may consider during its evaluation.

Adopted in April 2012, the FSOC’s final Rule on nonbank financial company designations addressed the comments received from a variety of stakeholders, including insurance companies, asset managers, specialty finance companies, industry associations and public interest groups.  The final Rule and guidance includes provisions for significant FSOC interaction with each company under review. 

To view the final Rule as adopted in 2012, click here.

“Since the final Rule was adopted, representatives of the Council have testified before Congress and met with members of the public to describe the designations process,” related Suzanne Elio, a U.S. Treasury spokesperson.   “However, some recent questions about the Council’s approach present an opportunity to provide even greater clarity to the public.” 

“A number of stakeholders have also suggested ways in which the Council could enhance its process even further.  We welcome and value that feedback,” Ms. Elio added.   “The designations process is less than three years old, and the Council continues to work to balance its responsibility to be open, clear, and transparent with its financial stability mandate, which frequently involves the review of sensitive, company-specific information.  In the coming months, we expect that the Council will consider additional potential changes to its processes.”

The October 6 meeting will also include an open discussion of the FSOC’s ongoing work with asset management.  The preliminary agenda for the open session includes a presentation by the Office of Financial Research on progress and next steps for the FSOC’s 2014 annual report recommendations on data gaps and data quality.   To go to the Treasury’s Webcast Center, click here.