Bank Lawyer's Blog

Memories, Like The Corners Of My Mind

Yesterday's post prompted a couple of quick responses from regular readers. One asked me if I had noticed who applauded Senator Chingachgook's question about taking big banks to trial. I had not noticed. My correspondent alleged that they were wearing NACA logos on their shirts. That explained much.

NACA is one of the non-profit organizations that was a prime player in the DAP debacle, which cost HUD a bundle of loot due to the fact that the percentage of borrowers under that program who defaulted on their loans far exceeded the percentage of borrowers who did not participate in the program. NACA also tried to convince various legislatures to enact foreclosure moratoriums, alleging that they were aghast that mortgage servicers were handling foreclosures in-house (The horror! The horror!). Finally, NACA was also one of the pre-Occupy-This-Or-That activist organizations that staged mock foreclosures at the homes of bank executives, prompting me to suggest that the way to combat those non-legal foreclosures might be with extra-legal firepower. As usual, cooler heads prevailed.

Of course the applause came from NACAites. Liz is their kind of pol.

Another reader reminded me that Senator Magua's habit of dramatic overstatement and misdirection was highlighted by me before the CFPB was even a gleam in the eye of either Dodd or Frank. That post featured the fevered dream of then-blogger Lie-awatha that national banks who were loan servicers were trying to preempt all state foreclosure laws. I think she might have thought that what national banks wanted more than life itself was to be able to move a battalion of dozers through poor neighborhoods with impunity, crushing homes like piles of matchsticks, just because they're all evil and that's what evildoers do. I'd forgotten about that post, but my elephant-minded reader had filed it away in his mental chest of fond memories.

I'm pleased that some readers pay more attention to what I write than I do. It saves time and effort to be resupplied in a timely fashion by others when the snark train needs another shovel-full of coal to keep steam in the boiler.

Full speed ahead.

Tribes To CFPB: This Means War

In one of the rather delicious ironies that occasionally pop up in our otherwise mundane lives, a spokesman for a Native American tribe has declared that a state of war exists between the tribe and the Consumer Financial Protection Bureau. Breathless reporters want to know where iconic Cherokee Princess, Liz Warren, stands. Will she go on the warpath in support of her peeps, or will she side with the Rosemary's Baby she birthed as it rolls up the Gatling Guns and seeks to mow down a free people's right to payday lend until the Sun no longer rises in the East?

U.S. regulators and Congress are scrutinizing partnerships between Native Americans and outside investors in online payday lending businesses accused of exploiting tribal sovereignty to evade state consumer-protection laws.

The push has divided Native American groups, with critics of payday lending opposing tribal involvement in the businesses, which charge interest rates as high as 521 percent for short- term loans. Other Indian groups, formed to represent the nascent industry in Washington, are pushing back against the regulators.

Charles Moncooyea, vice chairman of the Otoe-Missouria Tribe, called the interest of the Consumer Financial Protection Bureau “a declaration of war” and vowed to fight federal intervention into the new businesses.

“The fact is our tribe -- and tribes nationwide -- benefit from the positive economic impact from these and other businesses activities, with revenues directed towards such critical needs as medical care, education and many other basic necessities,” Moncooyea said in a written statement.

According to Bloomberg Businessweek reporter Carter Daugherty, at least ten tribes are involved in alliances with payday lenders. Private equity is backing some of the lenders, and it appears that the sovereign immunity afforded the tribal nations will allow the tribes to tell the states that are attempting to stop payday lenders from violating their laws, to take their payday lending restrictions, stick it in their respective pipes, and inhale deeply.

“We think this is a big growth market and will be here for a long time,’ Ken Rees, chief executive of Think Finance, said in an interview. ‘‘The legitimacy of a tribal entity to provide loans is very clear. The demand for products is clearly more than ever before.’’

This is why pervasive government control never works where there's a demand for a product that's sufficient to generate substantial profits, and where a sizable portion of the public has no strong feeling to prohibit or severely restrict it. You can bust Willie Nelson for smoking dope, but you can rest assured that the Red-Headed Stranger will be firing up a fat boy on the tour bus before it hits the next rest stop. It's human  nature. Not that the facts of life ever stopped do-gooders and ideologues from pursuing utopia here on Earth, but it's always nice to see reality continue to rear its inconvenient noggin no matter how many hammer blows true believers deliver.

Speaking of true believers, Recess Richie Cordray dropped thinly veiled threats that he's going to make like Nelson Miles and launch a strike against the tribes, sovereign immunity be damned.

Consumer bureau director Richard Cordray, also speaking to the group on March 6, said that his new agency is ‘‘zoning in” on tribal payday business.

In a March 21 interview, Cordray, a former Ohio attorney general, said he did not want to suggest he is focusing just on the tribal industry. Instead, he has a wider interest in online lending, though the agency has not announced any investigations.

That's right, you heard him: he's not going to stop with a few tribes. Once he curbs their enthusiasm for this tainted loan product, he's taking on the Mother of All Evils: The Al Gore-invented "Internets."

Cordray's staff quickly backed-and-filled.

After he spoke on March 6, consumer bureau staff met with the National Congress of American Indians, a Washington-based group with a broad membership of tribes, according to two people briefed on the meetings. The staff assured the group that the bureau is not starting a campaign directed at Native American lenders, and does not want to attack tribal sovereign immunity.

Yeah, and Custer only intended to distribute Gideon Bibles. Hear me now and believe me later, my brothers: The CFPB speaks with a forked tongue. The nations are not exempt from Dodd-Frank's "unfair, deceptive, and abusive" war-club and there's a reason Mrs. Codray has heard her hubby singing a variation of "If I Ruled The World" every morning in the shower.

If I ruled the world, every loan would be abusive as hell.
Every lender's knee would bend at my bell.
Every tribe would surely flee pell-mell.
IFFFF...IIIIII....RUUUUULED....THEEEE....WOOOOOORRRRRLLLLDDD!!!!

And watch out behind you for the champions of the oppressed and the proponents of diversity. It should come as no surprise, but they haven't "got your back." Instead, they're trying to stick a knife in it.

Senator Jeff Merkley, an Oregon Democrat, will introduce legislation on tribal lending in the next few weeks, Courtney Warner Crowell, his spokeswoman, said in an interview. The legislation would allow states to petition the consumer bureau, a federal agency, to stop lending by tribes in states where payday loans are illegal. That way, states would not directly litigate against tribes, thus preserving sovereign immunity, Crowell said.

I'm sure the tribes will get a fair hearing before the CFPB on that issue, don't you think? Introducing such legislation in an election year might be risky, but apparently Merkley's district doesn't include any independent or right-leaning Native Americans.

To be fair, some of tribes think payday lending is bad business and oppose other tribes who are entering into these arrangements.

Charles Trimble, a member of the Oglala Lakota Nation in South Dakota and a former executive director of the congress, denounced tribal payday lending as an abuse of sovereign immunity.

“It’s like having a pimp in the family,” Trimble wrote in an online column published on March 14, 2011. “He shames everyone but you can’t disown him because he is family.”

So, unlike my family, which has disowned me because I write this blog, Native American tradition would forbid the disowning of a pimp in the family? I suppose even that leniency wouldn't extend to having a lawyer in the family, but I might give it a go, "Pull a Lizzie," and induce Ancestry.com to pluck an Iroquois warrior named "Near-Sighted-Big-Talker" from my ancient family tree.

Naturally, the CFPB predicts that, unless this preemption revolution is nipped in the bud, the world as we know it will end, and not with a whimper but with a hideous bang.

Jean Ann Fox, the director of financial services for the Consumer Federation of America, said the expansion of Internet- based payday lending under the shield of sovereign immunity sets a dangerous precedent.

"Now we have payday lending," Fox said in an interview. "How about insurance?"

How about it? The horror of a business that interfaces with consumers and that is not micromanaged by state-based Nanny-Staters might nauseate Ms. Fox, but it sounds like a breath of fresh air to others. The fact that people who've been treated as shabbily as Native Americans are, from the relatively small pockets of land to which they've been confined by the dominant culture that surrounds them, mining gold from that dominant culture, in ways (including gambling, in case you've been living in a cave) that, according to critics, threaten to undermine the social fabric of the surrounding culture (the Native American culture already having been undermined for the last couple of hundred years), seems, no matter what part of the political spectrum you inhabit, to be a bit of ironic justice.

Resistance Is Futile

The American Banker's Editor-at-Large Barbara Rehm's latest column (paid subscription required) is reason enough to subscribe to that trade publication, if you're not already doing so. Barbara brings to light something that we didn't see during the last banking crisis, perhaps because in the 1980s, there were so many wild and woolly cowboys riding savings and loans off cliffs that state banking regulators didn't think that they should get between the federal banking regulators and the state banks that were free-falling to their inevitable collision with a hard surface. This time around, state regulators are speaking up.

Community bankers who argue federal regulators are being too tough on them have a surprisingly vocal ally: state commissioners. Like their federal counterparts, the state commissioners are committed to ensuring banks operate prudently and customers are protected from abuses. Many just think the job could be done more reasonably.

"I don't necessarily disagree with some of the things [federal regulators] are saying, but they are using a sledgehammer to kill a gnat," said Mississippi Banking Commissioner John Allison.

Heavy-handed federal bureaucrats who enjoy bullying small bankers? Who would have ever thought such an animal existed?

As was the case during the last meltdown, the federal regulators, especially the FDIC, argue that they should be driving the bus, because it's the FDIC's money, not the state's money, that's at risk when a bank fails. That's a legitimate point and one that state bank regulators I speak with concede. The complaint, however, is not that the feds are driving the bus, it's that they're driving it too fast and too aggressively.

The questions this raises for policymakers include: Is the dual banking system being weakened? Are talented bankers being prevented from managing their way out of a mess? Will that further concentrate the banking business? Will it thwart economic recovery?

These aren't unimportant issues to community bankers, or the larger economy, because notwithstanding the fact that the biggest banks are national banks (where they enjoy their federal preemption and the fact that they have only one primary regulator), approximately 80% of the total number of banks in this country have a state, not a federal, charter. Most small town banks are state banks, and, therefore, many smaller communities are feeling the pinch o when federal regulators beat down and (as has been happening with hundreds of them over the last few years) close down state banks.

Apparently, things have been getting a bit tense between the state and federal regulators lately.

Some state commissioners are refusing to sign enforcement actions initiated by the Fed or FDIC, saying they are simply too severe. This is not a frequent occurrence, but it is happening.

"Whatever you have to say as a state regulator really doesn't matter," said Tom Gronstal, who just completed nine years as Iowa's banking commissioner.

Gronstal said he has complained about it to federal regulators. "They were polite the first few times I said anything. They didn't really believe me. After that they just didn't want to hear it. They have their system and they are going to run with it."

According to Barbara, state officials are not blaming the local federal officials with whom they interact, but the Borgs in D.C.

Topping the list of complaints is that Washington is preventing field examiners from exercising judgment, or as one state commissioner put it "using any common sense."

"The federal regulators paint banks with a broad brush and the state regulators look at them individually," said Mick Thompson, who has led the Oklahoma banking department since 1992.

Thompson said, and other commissioners agreed, that an assessment of management talent is key to determining how much rope to give a bank. "It all goes back to management," he said. "If we have confidence in management, we are going to work with them a little bit more."

Federal officials nesting in our nation's capitol naturally deny that state regulators have any cause to complain, one even expressing bewilderment as to why they might be saying such things. Of course, they also express absolute confidence in Hosni Mubarak's continued hold on power in Egypt.

Boiling down the state regulators' complaints about the federales to their bare bones, they appear to be the following:

• If every troubled bank that is examined is hit with low ratings per a one-size-fits-all policy that disregards management's ability to recover, the low rating itself will make it virtually impossible for the bank to raise capital needed to work its way out of its problems. In other words, the clampdown becomes an accelerator of an inevitable death spiral.
• The restrictive clamps put on banks by enforcement actions are impeding the lending function, which not only hurts the banks' chances of recovery, but the economy's chances of working its way out of the malaise in which it wallows.
• The federal regulators are, intentionally or not, killing the community banking business in twos, threes, and fours-or-more at a time, which, in turn, is hastening the concentration of the banking business. As Connecticut's banking commissioner, Howard Pitkin, puts it, "If the federal government doesn't recognize that they have regulation run riot, the whole thing is going to go away and we are going to have large banks, which will not serve anybody's interest except for the very largest businesses." Howard, I hate to say it, but for all of the populist doublespeak that spews forth from certain quarters of D.C., that may very well be the hidden agenda.

As someone who's represented both the elephants and the hamsters of the banking business during the last three and one-half decades, I hope I'm wrong. I hope articles like Barbara's engender some serious dialogue, reflection, and cooperation between state and federal regulators to save those community banks that may be salvageable by some solution short of a bullet in the head. Given the fact that I receive e-mails from federal bank regulators like the following, this one from someone who asked that his/her name not be used, I'm not holding my breath:

Kevin, good capitalist that you are, I am sure you realize these institutions went under mainly because they made too many loans to people with no ability to pay them back when times got tough.  [The federal banking regulator for which this individual works] didn’t cause them to fail.  All the agency did was mercifully put those banks out of their misery (and into the loving hands of the FDIC) when they had already ruined themselves.

That's what you're dealing with, state bankers and state bank regulators. Every bank that fails does so solely because of its own ineptitude. The only mistake regulators make is not closing them down quickly enough. Nothing the regulator does contributes to the failure of any bank, other than not cracking down on the bank soon enough. Anyone who says anything to the contrary is sneer-worthy.

Speaking of which, below is rare footage of Sheila Bair's conversation with a state bank regulator who simply won't get with the program and join the hive.

The FDIC Will Abide

Let me explain something to you. Um, I am not "Mr. Lebowski". You're Mr. Lebowski. I'm the Dude. So that's what you call me. You know, that or, uh, His Dudeness, or uh, Duder, or El Duderino if you're not into the whole brevity thing.
---Jeff Bridges as Jeffrey "The Dude" Lebowski in "The Big Lebowski"

Kevin LaCroix at The D&O Diary today discussed an interesting decision by a federal district court in Georgia that put a roadblock in the FDIC's inexorable drive for world domination of all things related to suing failed banks and the former shareholders, officers and directors of the same and of the holding companies that used to "hold" the banks' stock. In the past, when times were good and national banks were expanding their powers like mushroom caps multiplying in Hunter S. Thompson's cellar, we usually focused on the need for Lebensraum evinced by the OOC's preemption opinions and regulations. Now that Dodd-Frank has (purportedly) clipped the OCC's wings to a degree, and too-small-to-save community banks have been falling like wildebeests to the guns of Great White Hunters, the FDIC is gunning to become the one and only federal banking agency that everyone will have to refer to as "The Dude."

I wont rehash LaCroix's post or the judge's opinion. They're both short and you can read them quickly. It's good to know, however, that if shareholders who think they were defrauded when they bought holding company stock, sue the former controlling shareholders and directors of the holding company for fraud under federal and state securities laws, then just because the FDIC subsequently asserts that the fraud suit is actually a "disguised derivative action against the bank," that allegation won't magically "make it so." The judge correctly (in my view) found that the lawsuit was clearly what it purported to be and that the FDIC was dead wrong.

On the other hand, I have to admire the FDIC's lust for power and the ingenuity of the argument it made. In fact, I intend to use the FDIC's argument the next time I'm at a cocktail party and to allege that I'm actually Brad Pitt in disguise. Hey, I hear that Sheila Bair's been claiming she's actually Jessica Simpson in disguise and that she snagged John Mayer, so I might as well give it a shot.

Man, She Hates Credit Cards

When I read this interview with Elizabeth Warren last week, I saved it for a later "fisking," but before I even got started, Anthony Demangone at NAFCU Compliance Blog beat me to it with a "Whoah, Nelly" summation that cut to the heart of what Ms. Warren's all about: "credit cards are bad."

Anthony also analyzes some comments of Ms. Warren that were put out by the US Treasury Department in the form of a question and answer session. Again, Ms. Warren's observations offer insight into her agenda and what banks and other financial institutions can expect from the CFPB as long as she's in charge of it whether de facto or de jure). In addition, Anthony's self-confessed "snark" happens to resonate with this purveyor of the same. Among my favorites:

Man, she hates credit cards. Forget payday lenders, fly-by-night "credit repair companies, and auto-title loan companies.  Credit cards are front and center on her agenda.

In the words of my man Snoop Dog: "Fo shizzle."

One more point made by Anthony that touches on a tune I've long been singing: We agree with Ms. Warren's desire to have "clear" disclosures so that consumers (which even we minions of the Dark Side of The Force happen to be) can make "apples-to-apples" comparisons of consumer loan products. People like the OCC's Julie Williams and this pathetic blogger have been yakking about that need for years. As Anthony also notes, however, this is a task that's easier said than done.

Keep in mind that many regulators have gone before you with this same task in hand. The Federal Reserve has spent a good deal of time on consumer issues and consumer testing of financial disclosures. No matter how much work you throw into this, keep in mind that you'll run into one basic problem: many consumers simply do not attempt to read disclosures. I agree that some credit card agreements are complex, but the Schumer Box gives consumer more than enough information to compare credit card products. And to say that the mortgage problems we face today are due to poor disclosures while not talking about broker misrepresentations, predatory lenders, and consumer responsibility is simply not telling the whole story. 

There aren't many people in D.C. of any political persuasion who are interested in "telling the whole story." You'd have a better chance of finding a Marxist on Fox News or a disciple of Russell Kirk on MSNBC. Ms. Warren has an agenda and her narrative serves the agenda. Spreading the responsibility for the consumer credit mess we're equally among the participants does not serve the agenda of building another large federal bureaucracy to protect us from ourselves. "The whole story" will have to be pieced together from other sources.

Rollin' Up The Op Subs

One of the advantages of a national bank or federal thrift charter used to be that for those banks or thrifts that engaged in mortgage lending on a multi-state scale, the mortgage operations could be housed in an operating subsidiary that had all the benefits of federal preemption that were afforded the parent bank or thrift (as confirmed by the Watters v. Wachovia ruling). The operating subsidiary could be exempt from state licensing and examination  requirements, as well as many other pesky state law requirements. For regulatory reporting purposes, the assets and liabilities of the operating subsidiary are consolidated with those of its parent; however, for liability purposes (as long as the bank and operating subsidiary avoid pitfalls that might allow a plaintiff to "pierce the corporate veil"), the parent's balance sheet can be isolated from the legal risks imposed by the subsidiary's business activities, which in the consumer lending area can be substantial. In addition, as Kate Berry observes in today's American Banker (paid subscription required), the operating subsidiaries are also sometimes set up as stand-alone operations that can be sold quickly when times got tough, which in a cyclical business like residential mortgage lending, they do on a regular basis (although usually not as rough as we've been seeing for the past several years).

With the passage of Dodd-Frank, which eliminates federal preemption for operating subsidiaries, Ms. Berry discusses the brave new world of mortgage banking, which may necessitate the wholesale "roll-up" of a lot of operating subsidiary mortgage lenders.

Industry lawyers expect most institutions to go the roll-up route, partly out of fear that sooner or later the states would try to force operating subsidiaries — and, potentially, their individual loan officers — to get state licenses. The burden of satisfying 50 state regulators would outweigh the cost in legal fees of restructuring.

The SAFE Act also comes into play.

The Secure and Fair Enforcement for Mortgage Licensing Act of 2008 required loan officers working at national banks and their operating subsidiaries to register with the Nationwide Mortgage Licensing System, a database run by the states.

Each loan officer gets a unique identifier (so all loans can be tracked) and undergoes a criminal background check under the SAFE Act.

The law has additional, more rigorous requirements for originators working at nonbanks: They must not only register but also be licensed in the states where they do business.

To do so, they must pass national and state exams and take at least 20 hours of continuing education a year.

Though most states probably would maintain the existing requirement that banks' operating subsidiaries only have to register with them, states have the authority to make operating subsidiaries meet the tougher licensing requirements, experts said.

That possibility could be the decisive factor in pushing national banks to restructure those entities.

"Right now, being a bank originator is a safe harbor," said Jeffrey Naiman, a partner at BuckleySandler. "Operating as a 50-state licensed entity has always been very difficult, but post-SAFE Act, it is becoming even harder."

As an added bonus, Dodd-Frank added to the house of horrors the dreaded Consumer Financial Protection Bureau.

Banks also are concerned that mortgage loan officers could ultimately face tougher standards when the job of umbrella enforcer for the SAFE Act is transferred from the Department of Housing and Urban Development to the planned Consumer Financial Protection Bureau in the Federal Reserve.

The CFPB may ultimately resolve the question of whether loan officers at bank subsidiaries need state licenses, said John Ryan, an executive vice president at the Conference of State Bank Supervisors.

"The line has already been drawn: Employees of federally regulated operating subsidiaries are registered; everybody else is licensed," said Ryan. "It might create a conflict with the SAFE Act to say that operating subsidiaries would have to be licensed when now they just have to be registered. So they might have to call in the CFPB."

If Elizabeth Warren is heading up the CFPB at the time it's "called in," bankers can expect the ultimate decision to be one that is not kind to their operating subsidiaries.If state banks have fumed for decades over the desire for Lebensraum shown by the preemption Nazis at the OCC and the OTS, wait until national banks and federal thrifts get a load of Reichsführer Warren and her ankle-biting storm troopers. National banks and federal thrifts will be rolling up op subs into the mother ship faster than Taylor Lautner sheds his shirt.

Lost In Translation

Tom Considine, the commissioner of the New Jersey Department of Banking and Insurance, wrote an opinion piece in last Tuesday's print edition of the American Banker (I'm unable to locate a link to it) UPDATE (8/9/10): HERE'S THE LINK, BUT A PAID SUBSCRIPTION IS REQUIRED), that affirmed something we've heard and seen repeatedly: "Despite some guidance from federal regulators, examiners do not seem to be getting the message that loan classification must be reasonable."

Since becoming commissioner of the New Jersey Department of Banking and Insurance nearly four months ago, I have spoken to many representatives of state and federally chartered banks. I am hearing that examiners are taking a hard line on risk evaluation, which in turn prompts bankers to keep credit tight, particularly in the small-business sector. Representatives of some of the largest U.S. financial institutions recently told me when asked to comment on current lending activity, "We are lending only to the very best risks."

Commissioner Considine claims that he's asked federal regulators "to change their examination approach to evaluating lending risks so that the reality in the field matches guidance from Washington."

I specifically requested that federal examiners not move an actively paying loan from "performing" to "classified" when a borrower is unable to refinance a balloon principal payment that was part of the original amortization schedule. Also, the recession-eroded value of underlying collateral should not, in and of itself, negatively affect the status of a loan. In short, let performing loans perform.

What are the odds, readers, that federal regulators will pay any attention to the commissioner's requests?

[sound of crickets chirping]

Yeah, that's what I thought, too.

It's too late now, anyway, for the hundreds of banks that the FDIC has shut down in the last couple of years, most of them "too-small-to-save" community banks. Banks like New Mexico's Charter Bank. I'm sure that bank's former owners are shedding no tears over the fact that on July 21, 2010, the Office of Thrift Supervision received a notice from Congress and President Obama that its execution is scheduled sometime between now and January 21, 2012. All things considered, however, that's cold comfort when your life's work is sent spinning down the drain so that a dead man walking can try to buy himself a few more wasted hours of an existence that will end in ignominy.

Not that those of us who represent community banks are bitter. Perish the thought!

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As I promised listeners at last week's BankLaw Stuff executive briefing on the Dodd-Frank Act, over the course of this week we'll be answering questions that were posted during the webinar and that relate to the specific topic: the effect of the Act on community banks. I don't intend to try to answer questions outside that specific scope, although one of the speakers, Joe Lynyak or Tom Bieging, may decide to go "off topic." I'll take a crack at answering a few questions below, and I'll pass along other answers as they come in from either Joe or Tom, in future posts this week. The questions below may incorporate several different questions that all ask essentially the same thing.

Incidentally, we ran up against our 500 registrant limit rather quickly, so I apologize to those who waited to register and who we couldn't accommodate. Free "stuff" tends to go quickly in an economy like this. Given the reception, we'll likely try another briefing on a "hot topic" in a few months.

Question: Are national banks still able to "export" interest rates from any state in which they are "located" to customers located in another state where the bank makes a loan? Answer: Yes.

Question: When will banks be able to pay interest on demand deposit accounts? Answer: The existing prohibition on banks paying interest on demand deposits is removed effective one year following the date of enactment, i.e., July 21, 2011.

Question: When a speaker referred to "Amvest" did he mean to refer to "Arvest"? Answer: Yes.

National Bank Preemption About To Take A Body Blow?

Back at the start of last year, when discussing the Cuomo v. Clearing House Corporation case (I expected the OCC to win, which was a bad call that surprised more than merely me), I had a feeling that those of us who had spent our careers thinking that inexorable march of national bank preemption would never be halted until the entire world was under the thumb of the OCC would soon see a countervailing move by Congress, a move that had a good chance of eventually succeeding. As I said at the time:

Even should the OCC prevail as expected, there exists the risk that a ruling to uphold the Second Circuit might be the high tide of SCOTUS preemption rulings for national banks. With a new sheriff in the White House, with the Democrats in control of the House and Senate (although control in the Senate is not  filibuster-proof), and with preemption-hating Democratic leadership in Congress influencing the public debate, I can clearly see a scenario where Barney and the Boyz lead a charge for federal legislation that shortens the reach of national preemption as it applies to certain types of state laws such as those that are the subject of this action. I see much conflation in the public mind of predatory lending, subprime lending, discriminatory lending, unregulated and regulated lenders, banks and non-banks, into one big mess of "kill them all and let God sort the guilty from the innocent." When Joe and Jane Sixpack (and their elected representatives) are looking for scapegoats, national banks will do just fine.

As I said in October 2005, I think the states will continue to lose on these issues "unless Congress changes the law." At this point, it's merely a gut feeling and nothing more, but if there ever is a time that might be ripe for such a change, this year (or next, perhaps) might be that time. Regulatory reform legislation is coming to the banking industry, and the clipping of the wings of federal preemption might be part of that package.

When I last visited the House bill provisions on preemption in December, supporters of the OCC had made headway in the House bill, and it appeared that the OCC would score a nice win. My, how times have changed.

Last week, in the American Banker (paid subscription required), reporter Cheyenne Hopkins alleged that the largest banks (all national) were leaving the OCC all by its lonesome to fight the preemption battle in the Dodd bill in the Senate. The largest banks have bigger fish to fry, like trying to save their right to engage in blatant conflicts of interest proprietary trading and to combat any meaningful unduly restrictive regulation of derivatives (games in which community banks have no skin). That makes supporters of expansive OCC preemption powers concerned that something wicked is coming their way.

The Senate bill would reestablish the so-called "Barnett" Supreme Court standard that allowed the OCC to preempt state laws on a case-by-case basis but also forced the agency to show that a federal law exists to regulate the activity addressed by the state law.

"When people say that we are simply adopting the Barnett standard, that is simply not correct," said Robert Cook, a partner in the Hudson Cook law firm. "They are adopting the Barnett standard and a couple hurdles you need to leap. … I would be thrilled if we ended up with simply the Barnett standard. I'm afraid we are going to get much worse."

While some supporters in the Senate are crafting amendments to the Dodd bill to address the concerns of the OCC, no one thinks this is going to be an easy fight.

Cook said getting any change in the bill would be an uphill battle and that banks must choose their fights carefully. "The banks don't have a lot of time left now to make changes in the financial institution regulatory bill, and they have to pick their battles, and it's not clear to me they can fight all three or four issues," he said. "Unfortunately, large banks don't have a lot of capital to fight with right now. I am not optimistic that banks large or small are going to have much impact on this bill."

Looking for an optimistic angle in this sea of sorrow, American Bankers Association CEO Ed Yingling correctly called the ultimate winners on this issue, regardless of how much of a beating preemption takes in the Senate (and in the reconciliation process with the House bill already passed): trial lawyers.

Any new language in the reform bill would effectively nullify decades of preemption decisions by the courts, sparking more court cases. "It will take years and years of litigation to figure out what the new law means, creating uncertainty," Yingling said.

State regulatory officials agreed. "This isn't going to be resolved in the Senate," said Ryan. "Whatever comes out of the Senate is going to create ambiguity and a role for courts."

In a country with more than one lawyer for every 300 citizens, and with new litters of barristers and solicitors being birthed by the nation's law schools every six months or so, the mantra regarding this legislation is: "THIS is the change we've been waiting for! Sue, Baby, Sue!"

OCC Preemption Lives To Fight Another Day

According to Stacy Kaper, reporting in today's American Banker (paid subscription required), Barney Frank worked out a compromise late yesterday with moderate Democrats that appears to roll back the attempt by more liberal Democrats to restrict the OCC's power to preempt state law. Under Frank's original bill, "the OCC would have only been able to preempt state consumer laws on a case by case basis when it interfered with the business of banking. The standard was meant to repeal the agency's sweeping 2004 preemption rules, returning it to the so-called 'Barnett standard' established by the 1996 Supreme Court case of Barnett V. Nelson." According to Ms. Kaper, Frank agreed to amend his bill to effectively preserve the OCC's current power to preempt state law.

Under the deal reached between House Financial Services Committee Chairman Barney Frank and [Illinois Rep. Melissa] Bean, the OCC could preempt a state consumer protection law by simply writing a letter or issuing a ruling. It would reaffirm the deference given to the OCC’s rulings by the courts.

It would also allow the agency to preempt all equivalent state standards at once. For example, if the OCC were to preempt an Indiana credit card disclosure law, it could apply the same standard to other credit card disclosure laws with similar language.

The bill would also lower the threshold required for the OCC to preempt state standards by saying that it can override any law that "prevents, significantly interferes with, or materially interferes" the business of banking.

That's certainly a set-back for consumer advocates and state regulators, who had high hopes that the juggernaut of OCC world domination would be somehow forced to grind to a halt. In the messy world of legislation-making, the sausage that results sometimes is not very appealing to those with refined tastes.

Frank also agreed to a legislative maneuver that makes the preemption power provision almost bullet proof.

Bean succeeded in convincing Frank to adopt the bulk of her proposal to broaden preemption and roll it into the Massachusetts Democrat’s manager’s amendment. By incorporating it as part of the base text without requiring a separate vote solely on that provision, the move virtually guarantees that her preemption language will stick.

Ms. Kaper also reported that there were further signs of compromise by Frank and the managers of this legislation with moderates, which may mean that a piece of legislation might be worked out with which banks could actually live.

During the negotiations, moderate Democrats also succeeded in convincing House leaders to consider other amendments during debate, including a measure by Rep. Walt Minnick, D-Idaho, that would substitute the creation of a new consumer agency with a proposal that would let a council of existing federal regulators jointly write new safety and soundness standards and consumer protections.

We'll have to see what amendments are actually adopted (as opposed to merely debated) and what eventually passes both houses of Congress, but if that change is as good as it sounds and makes its way into the final bill, it might address the concerns of commercial bankers who were "fixin' to open up a can of All-American whoop-ass" on Frank's bill over the single issue of the new "Consumer Financial Protection Czar." I think bankers might be able to live with a council of existing regulators who write protections. At least, you wouldn't have a newly created federal potentate with an axe to grind, and each type of bank's primary federal regulator would be able to have input as to its "constituents'" concerns. It would be nice if the new council also includes representatives of state regulators, so all interested parties have a seat at the table. Again, we'll need to see the final language before we get too excited.

The House will also consider an amendment by a group of moderates that would alter the definition of a major swap participant in derivatives legislation to better protect end-users.

The new manager’s amendment from Frank will also take steps to address another big concern of bankers and modify a provision from Reps. Brad Miller, D-N.C. andDennis Moore, D-Kans., that would have required secured creditors to take a 20% haircut in resolutions of firms that pose a risk to the economy.

Under revised language to be included in Frank's manager's amendment, the haircut would be reduced to 10% and apply only to short-term lending of 30 days or less. It would also explicitly exempt any debt secured by government entities including the Federal Home Loan banks, the government-sponsored enterprises, the Federal Housing Administration and Treasury securities.

The 20% haircut is an idea that was launched by Sheila Bair and roundly criticized by experienced expert observers. Bair recently claimed that the 20% haircut "would rarely be used" and that it was designed to target "short-term secured funding." Critics, including long-time bank consultant Bert Ely, publicly warned that the original legislative language would also apply to long-term secured lending and would, in effect, make it nearly impossible for even small financial firms to get long-term secured funding. It sounds like the latest compromises will address the critics' concerns.

If this spirit of constructive compromise keeps up, there's no telling what might happen. Something might actually get passed that will satisfy no one but harm few. That's about the best you can hope for when Congress is in full action mode.

Dead Man Talking

A couple of weeks ago, former disgraced Wall Street analyst Henry Blodget, a man flushed from his perch by The Sheriff of Wall Street, Eliot Spitzer, sat down with the former disgraced Attorney General and Governor of New York and conducted a civil discourse about the origins and possible solutions to the current financial crisis. Blodget broke down the interview into six bits and posted them Yahoo Finance (starting here). I was sidetracked last week and am only now getting around to posting about the interview. In the blogosphere, if you're a day late, you're a dollar short. On the other hand, it's evident to regular readers that I violate many of the rules of the self-proclaimed experts of blogging. It's just the way I roll.

One of my favorite portions is the one in which Spitzer reiterates a theme he's propounded recently in his Slate column: we don't need new regulators or new powers for the existing regulators. What we need is for the existing regulators to do their jobs. With every financial crisis, there appears to be a reflex reaction of those who love big government to make big government even bigger. They seem to think that bureaucrats in a spanking new agency will act differently from the way in which bureaucrats in legacy agencies have acted previously. Through governmental action, human nature will be perfected or at least corrected. All we achieve is to concentrate more power in another federal agency where it's exercised as imperfectly as it has always been exercised by flawed human beings.

I listened last week to the giant brained David Kotok discuss the banking crisis of 1907. That collapse led to the creation of the Federal Reserve Board, an entity that was designed to ensure that no such a banking collapse would ever again occur. Worked like a charm, didn't it? About as well as the creation of the FDIC nearly 30 years later ensured that there would never be another "bank run." It certainly prevented a run on IndyMac, eh?

I also like Spitzer's acknowledgment that preemption does make sense from the regulated entities' perspective. In other words, national banks are not purely evil because they desire to have a single set of rules governing the playing field. I doubt whether he would have conceded that point when he was toe-to-toe with the OCC. On the other hand, it is also difficult to argue with his contention that competition keeps regulatory agencies (as it does other types of entities) on their toes. If it leads in some cases to a "race to the bottom," it's also true that eventually, the bottom feeders are legislated out of existence. 

If there are two good examples of men who've seen the limits of human hubris, it's Blodget and Spitzer. As one commenter said in response to the usual chorus of Spitzer bashers (of which this blogger has been a long-time member), "I like the guy since he fell off his horse." We all might benefit from listening to a few more humbled former masters of the universe whose perspective has been "purified" by their fall from grace, and who no longer grasp for power based upon anything other than the quality of the insights they offer. I don't agree with everything either man has to say, but I enjoy the fact that former claymation death match opponents can sit down and have a civil discussion of issues of such critical importance and offer some seemingly honest perspective. To me, that's certainly preferable to the "sound bites of fury" and "obscenity-laced tirades" that have been prevalent lately.