Score: 27 / 60
RULE SUMMARY
The Agencies are proposing rules to implement the credit risk retention requirements of section 15G of the Securities Exchange Act of 1934 (15 U.S.C. 78o–11), as added by section 941 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Section 15G generally requires the securitizer of asset-backed securities to retain not less than 5% of the credit risk of the assets collateralizing the asset-backed securities. The proposed rule prohibits a securitizer from directly or indirectly hedging or otherwise transferring the credit risk that the securitizer is required to retain under section 15G and the Agencies implementing rules. Section 15G includes a variety of exemptions from these requirements, including an exemption for asset-backed securities that are collateralized exclusively by residential mortgages that qualify as ‘‘qualified residential mortgages,’’ as the term is defined by the Agencies by rule.
MONETIZED COSTS & BENEFITS (AS REPORTED BY AGENCY)
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| Expected Costs (Total) | $57.2 mil | |
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METHODOLOGY
There are twelve criteria within our evaluation within three broad categories: Openness, Analysis and Use. For each criterion, the evaluators assign a score ranging from 0 (no useful content) to 5 (comprehensive analysis with potential best practices). Thus, each analysis has the opportunity to earn between 0 and 60 points.
| Criterion | Score |
|---|---|
Openness | |
| 1. How easily were the RIA , the proposed rule, and any supplementary materials found online? The proposed rule is easily found on regulations.gov. RIA issued by Federal Reserve is difficult to find and not in docket on regulations.gov. It was eventually located after a Google search. | 2/5 |
| 2. How verifiable are the data used in the analysis? Most data are summary and listed in tables and charts. In NOPR, there is no discussion of most tables in the analysis, nor is there documentation other than a note in many cases stating, "This table is published in color in each Agency's website." RIA, in contrast, fully documents data sources discussed. Most are from government websites, government studies, and academic studies. All appear to be credible and verifiable sources. | 4/5 |
| 3. How verifiable are the models and assumptions used in the analysis? Most analysis related to the proposed rule focuses on legal issues. There is some discussion of why financial markets experienced recent problems as contained in articles by government agencies and academics, but there is surprisingly little to verify in terms of models and assumptions in the analysis given the lack of a model developed to support the proposed rule. | 3/5 |
| 4. Was the analysis comprehensible to an informed layperson? Many abbreviations and acronyms are used throughout, and few informed laypeople would have much ability to grasp much of the analysis. The proposal contains many acronyms that require re-referencing. RIA makes an effort to explain basics of securitization and how that market developed over time. | 3/5 |
Analysis | |
| 5. How well does the analysis identify the desired outcomes and demonstrate that the regulation will achieve them? | 2/5 |
| Does the analysis clearly identify ultimate outcomes that affect citizens’ quality of life? The proposed rules are intended to reduce harm to investors, consumers, homeowners, financial institutions, and the financial system from the decline in underwriting standards that occurred during the mid-2000s. The proposed rule mentions mitigation of negative macroeconomic effects that would result from improved alignment of incentives. | 3/5 |
| Does the analysis identify how these outcomes are to be measured? RIA states the general case as, "Risk retention can help align the interests of the participants in the securitization chain, reduce the risks inherent in securitization, and promote the stable formation of credit and efficient allocation of capital in the United States." While rules are proposed to help numerous parties (investors, consumers, homeowners, finanical institutions, the financial system), measurement of outcomes appears to be compliance with risk retention mandates defined within the proposed rules. | 2/5 |
| Does the analysis provide a coherent and testable theory showing how the regulation will produce the desired outcomes? Risk retention rule ("credit risk retention") proposed to require securitizers to retain larger economic interests ("skin in the game") in credit risk of assets they securitize by providing securitizers greater incentives to monitor and ensure asset quality underlying securitization transactions, and thereby help align their interests with the interests of investors. Proposed rules also attempt to strengthen regulation and supervision of statistical rating agencies (NRSROs) and improve transparency of credit ratings. | 4/5 |
| Does the analysis present credible empirical support for the theory? Very limited support. No model is developed to justify the 5% risk-retention rule rather than some other percent; e.g., 3%, 4%, or 10%. RIA states the tentative nature of empirical support: "The study does not provide a specific quantitative assessment of the fraction of real estate losses that might have been averted, because the risk retention rules under Section 941 have not yet been issued, and thus cannot be retrospectively considered. Moreover, sufficient data are not available to make such an estimate possible." | 1/5 |
| Does the analysis adequately assess uncertainty about the outcomes? RIA acknowledges uncertainty, but only requests comments from outside parties and to wait for future studies and better data. RIA states, "... the academic literature on risk retention with respect to asset-backed securitization is limited. Moreover, available information is insufficiently robust to allow for a quantitative comparable analysis for proactively adjusting mortgage origination requirements, an assessment of formulaic adjustments to such requirements, or a quantitative evaluation as to whether any adjustments should be made independently or in concert with monetary policy." | 1/5 |
| 6. How well does the analysis identify and demonstrate the existence of a market failure or other systemic problem the regulation is supposed to solve? | 3/5 |
| Does the analysis identify a market failure or other systemic problem? During the financial crisis, the Agencies argue securitization displayed significant vulnerabilities to informational and incentive problems among various parties involved in the process. Agencies believe that, when properly structured, securitization provides economic benefits that lower credit costs to households and businesses and promotes greater financial market stability. However, when incentives are not properly aligned and there is little discipline in the origination process, securitization can harm investors, consumers, and the financial system. | 4/5 |
| Does the analysis outline a coherent and testable theory that explains why the problem (associated with the outcome above) is systemic rather than anecdotal? RIA discusses 1970s evolution of securitization whereby securities are created giving investors rights to cash flows generated by pools of financial assets. It began with home mortgages mostly backed by guarantees from Government Sponsored Enterprises (“GSEs”) and typically were “passthrough” whereby principal and interest collected on assets were “passed through” on pro rata basis to security holders. Over time, asset-backed securitization expanded into other assets, with greater complexity that included commercial mortgages, credit cards, auto loans and leases, student loans, business loans, equipment loans and leases, and dealer floorplans. Securitizers also developed resecuritizations (securitizer uses cash flows of previously securitized assets as base for a new securitization). The process then became more complex with less "skin in the game" and contributed to recent financial market problems that the proposed rules seek to fix. | 4/5 |
| Does the analysis present credible empirical support for the theory? Tables and data support evolution of securitization market. RIA predicts a better framework would align incentives, provide greater confidence and certainty among market participants, promote efficient capital formation, preserve flexibility as markets evolve and allow participants to continue to engage in lending in a safe and sound manner. But, it is unclear how much of past problems stem from government regulators themselves or why widening regulatory reach will correct past problems of regulators. For example, there is no discussion of any problems associated with government regulation of GSEs such as Fannie Mae that may have promotied "moral hazard" whereby quasi-government backing of risk partially contributed to breakdown of securitization market. | 2/5 |
| Does the analysis adequately assess uncertainty about the existence or size of the problem? RIA mentions that the issue is complex and its size is uncertain. No measures of uncertainty are given. RIA, however, implies little uncertainty that the problem is large enough to justify its proposed rule. | 1/5 |
| 7. How well does the analysis assess the effectiveness of alternative approaches? | 2/5 |
| Does the analysis enumerate other alternatives to address the problem? Proposed rules provide several options securitizers may choose from when meeting risk-retention requirements. These include: retention of a 5% ‘‘vertical’’ or "horizontal" slice of each class of interests issued in securitization; options that take into account how risk retention has occurred in credit-card receivable and automobile loan and lease securitizations and in connection with issuance of asset-backed commercial paper. Proposed rules also provide complete exemption for ABS (asset backed securities) collateralized solely by QRMs (qualified residential mortgage) and establish terms for when residential mortgages qualify as a QRM. | 3/5 |
| Is the range of alternatives considered narrow (e.g., some exemptions to a regulation) or broad (e.g., performance-based regulation vs. command and control, market mechanisms, nonbinding guidance, information disclosure, addressing any government failures that caused the original problem)? There are a few exemptions. Range is fairly broad, although most are based on government mandates. No mention of private insurers or other market-based mechanisms for taking on problems with the securitization market. | 3/5 |
| Does the analysis evaluate how alternative approaches would affect the amount of the outcome achieved? No evaluation provided. RIA is a "work in progress". | 0/5 |
| Does the analysis adequately address the baseline? That is, what the state of the world is likely to be in the absence of federal intervention not just now but in the future? No evaluation provided. RIA is a "work in progress". | 0/5 |
| 8. How well does the analysis assess costs and benefits? | 1/5 |
| Does the analysis identify and quantify incremental costs of all alternatives considered? No evaluation provided. | 0/5 |
| Does the analysis identify all expenditures likely to arise as a result of the regulation? Mentions the reduced amount of origination fees and the opportunity cost of holding more funds, as well as various administrative costs, and a crude analysis is given of the administrative costs. | 2/5 |
| Does the analysis identify how the regulation would likely affect the prices of goods and services? RIA allows for possible effects, but does not evaluate them, e.g., recognizes there might be an increase in borrowing cost in the absence of regulatory flexibility. | 1/5 |
| Does the analysis examine costs that stem from changes in human behavior as consumers and producers respond to the regulation? RIA allows for possible effects, but does not evaluate them, e.g., while the agency recognizes that prices may increase, the agency does not provide an analysis of the possible reactions to that price change. | 1/5 |
| If costs are uncertain, does the analysis present a range of estimates and/or perform a sensitivity analysis? RIA acknowledged uncertainty, but does not evaluate it. For example, RIA states: "Based on the available literature, there is evidence that risk retention could minimize the procyclical macroeconomic effects of securitization by aligning incentives and improving underwriting standards. On the other hand, if risk retention requirements are too stringent, they could constrain lending, and consequently, the formation of credit." | 1/5 |
| Does the analysis identify the alternative that maximizes net benefits? No, some of the costs and benefits for some of the options are briefly discussed but not quantified. | 0/5 |
| Does the analysis identify the cost-effectiveness of each alternative considered? No analysis or discussion. | 0/5 |
| Does the analysis identify all parties who would bear costs and assess the incidence of costs? RIA acknowledges possible effects on various parties, but does not evaluate them. Mentions prices for loans may rise and there may be revenue losses for banks. | 1/5 |
| Does the analysis identify all parties who would receive benefits and assess the incidence of benefits? RIA acknowledges possible effects on various parties, but does not evaluate them. RIA mentions that risk-retention rules may benefit investors and the wider macroeconomy. | 1/5 |
Use | |
| 9. Does the proposed rule or the RIA present evidence that the agency used the analysis? RIA is requesting comment on proposed rules to implement requirements of section 941(b) of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The analysis is not meant to be final and Agencies are requesting comments, data, and analysis from interested parties. So, RIA appears to have affected questions that the agencies hopes to answer in the future that will guide rulemaking. | 2/5 |
| 10. Did the agency maximize net benefits or explain why it chose another alternative? RIA is a "work in process," but it remains unclear if future analysis will maximize net benefits or something else. RIA concludes: "...it is important to design a risk-retention framework that maximizes the benefits of asset-backed securitization as a source of credit formation and minimizes the inherent risks of an originate-to-distribute model." Thus, agencies appear to want to develop a model that might maximize net benefits, but the RIA does not complete this task. | 1/5 |
| 11. Does the proposed rule establish measures and goals that can be used to track the regulation's results in the future? RIA established the 5% rule, with various exemptions, and this can be tracked over time to see if it is met. | 3/5 |
| 12. Did the agency indicate what data it will use to assess the regulation's performance in the future and establish provisions for doing so? Not clearly discussed, but estimation of risk retention in securitization markets following the 5% rule could be tracked over time, thereby allowing it to be examined alongside the wider goal of a more stable financial system. | 1/5 |
| Total | 27 / 60 |
Additional details
- Agency
- Joint Banking Regulators
- Regulatory Identification Number
- 1557-AD40, 7100-AD70, 3064-AD74, 2590-AA43, 3235-AK96, 2501-AD53
- Agency Name
- Joint Banking Regulators
- Rule Publication Date
- 04/29/2011
- Comment Closing Date
- 06/10/2011