October, 2016

Gaining and Shedding Dodd-Frank’s Systemically Important Financial Institution (SIFI) Label

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The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) creates a new set of regulatory uncertainties for financial companies. Chief among these new worries is the possibility of being designated systemically important by the Financial Stability Oversight Council (FSOC). With that designation comes a new regulator—the Board of Governors of the Federal Reserve System (Federal Reserve)—operating under a mandate to provide enhanced, company-specific regulatory requirements and supervision for the designated company. The designation, however, may also serve as an implicit promise of government support should the stringent regulatory regime fail to keep a designated company out of trouble. For this reason, FSOC designations also matter to competitors, customers, and counterparties of designated companies and to United States taxpayers. 

This essay describes the systemic designation framework, the procedural opportunities to resist and reverse designation, and the broader financial stability implications of designation. This essay argues that the FSOC designation, as it has been implemented, runs afoul of the very logic that underlies it. Rather than encouraging companies to manage their risks carefully, FSOC uses the systemic risk label to shift risk management from private companies and state regulators to federal regulators. Companies, by contesting their designations and seeking to make the procedures for applying and revisiting their systemic labels more open and rigorous, may marginally improve the process. Real change, however, will require policymakers to reconsider the effectiveness of designation in its current form as a financial stability-enhancing tool. 

The essay starts with a description of what a designation under Title I of Dodd-Frank means. Section II discusses how it is applied. The third part briefly outlines each nonbank financial institution designation to date and the company’s response, with a particular emphasis on the most recent designation (MetLife). The fourth section examines responding to a SIFI designation. The fifth section looks at what insights other companies, the public, regulators, and policymakers can glean from the designations that have been made. Section VI discusses potential changes to the designation process and argues that real change will require a fundamental revisiting of the objective of FSOC designations. Section VII concludes.