On Friday, U.S. Securities & Exchange Commission Commissioner Daniel Gallagher, presenting at "The SEC Speaks in 2013," attacked the encroachment of the Financial Stability Oversight Council (FSOC) upon the SEC's turf and again predicted that an SEC proposal on money fund reforms was coming soon. (See our Jan. 17 Crane Data News, "SEC's Gallagher Says Proposals Coming in Q1, Backs Floating NAV.") Gallagher said, "This brings me to the elephant in the room: FSOC. FSOC was created, in part, to respond to the realization during the financial crisis that regulatory balkanization had resulted in a lack of communication and information-sharing among financial services regulators, which undoubtedly led to poor policy decisions during the crisis. None of us who lived through the crisis on the ground floor would argue against improvements to the regulatory structure that would facilitate coordination and information-sharing among regulators. However, with FSOC the threats to the Commission's independence move from the theoretical to the immediate, for already in its short existence, this new body has directly challenged the Commission's regulatory independence. It is also where just one member of the Commission, the Chairman, can defend that independence. Pursuant to the provisions of Dodd-Frank establishing FSOC, the group is composed not of agencies, but the individual heads of agencies, acting ex officio."

He explained, "As I have said in the past, the structure of FSOC is particularly troubling for an independent agency like the SEC. While the Secretary of the Treasury and the heads of the FHFA and the CFPB may speak on behalf of their agencies -- not to mention the President that appointed them -- the same cannot be said of the Chairman of the SEC. To preserve its independence, Congress created the SEC as a bipartisan, five-member Commission and gave each Commissioner -- including the Chairman -- only one vote. This means that the Chairman has no statutory authority to represent or bind the Commission through his or her participation on FSOC. Yet as a voting member of FSOC, the Chairman of the SEC does have a say in authorizing FSOC to take certain actions that may affect -- and indeed have already affected -- markets or entities that the Commission regulates. While one might expect that the Chairman of the SEC would always represent the views of the Commission as a whole, there is no formal oversight mechanism available to the Commission to check the Chairman's participation on FSOC. Moreover, although the Commission's bipartisan structure insulates it from undue political influence, FSOC's structure does not. On the contrary, FSOC is composed of individuals who are heads of their agencies -- typically making them members of the President's political party -- and led by a Cabinet official who is removable by the President at will. These factors, among others, make FSOC particularly susceptible to political influence which, in turn, can be -- and has been -- exerted on the agencies led by FSOC's members."

Gallagher explained, "To further complicate matters, FSOC operates under a different mandate than the SEC, having been established by Congress with a broad mandate to identify systemic risks and emerging threats to the country's financial stability. Putting aside the fact that FSOC's designation of certain firms as "systemically important" likely institutionalizes the idea of "too big to fail," FSOC's core mission is to ensure the safety and soundness of the U.S. financial system -- not surprising given that a significant plurality of FSOC is composed of the heads of bank regulators. While this mission is of unquestionable importance, so, too is the distinct mission of the SEC. To be sure, proper oversight of our capital markets should positively impact the safety and soundness of our financial system. Nevertheless, the SEC is not by statute a safety and soundness regulator. In fact, the markets we regulate are inherently risky, and with good reason. By putting money at risk, investors allocate capital in a manner that spurs economic growth in the hopes of a much higher return on their investments than they could obtain from lower-risk, lower-return investments, such as bank accounts. The SEC seeks to protect these investors from fraud and to ensure that the markets in which they put their capital to work are fair and efficient. Our mission is not, and should not be, to make these markets risk-free, nor is it to preserve the existence of any particular firm or firms. Capital markets regulators and bank regulators have drastically different missions and oversee fundamentally different markets and market participants. And, importantly for me and all of those who appreciate and advocate for free markets, we must keep a healthy distance between capital markets regulation, which rightfully assumes no taxpayer safety nets, and bank regulation."

He added, "It is not difficult to see the potential tension between the SEC and FSOC missions and the resulting threat to the Commission's ability to function independently. As the old adage goes: "No one can serve two masters." When the Chairman of the SEC faces this tension, which of these two potentially competing mandates does he or she honor?"

Gallagher also told the "SEC Speaks" gathering, "Nor is FSOC merely an advisory body without teeth. To carry out its mandate, Congress provided FSOC with extraordinary powers for an inter-agency council. For example, FSOC has the authority to designate a nonbank financial company as "systemically important," and to subject these companies to prudential supervision by the Fed. FSOC may also designate a financial market utility or a payment, clearing, or settlement activity as "systemically important," and direct the Fed, in consultation with the relevant supervisory agencies and FSOC itself, to prescribe risk management standards. To the extent that these "systemically important" utilities or activities are conducted by firms for which the SEC or CFTC is the primary regulator, Dodd-Frank provides "special procedures" pursuant to which the Fed may, if it determines that the risk management standards set by the SEC or the CFTC are "insufficient," impose its own standards. That authority is not simply a threat to the Commission's independence -- if exercised, it would be an outright annexation."

He commented, "FSOC also has the authority to recommend that a primary financial regulator, such as the SEC, apply new or heightened standards and safeguards for systemically significant financial activities or practices. In this regard, FSOC has been busy in recent months prodding the Commission on money market fund reforms, including through the release of proposed reform recommendations last November."

Finally, Gallagher said, "I won't recount the history that led to FSOC's involvement in the regulation of money market funds, an area which unquestionably falls within the core expertise and regulatory jurisdiction of the SEC. But I will emphasize that my colleagues and I have made it clear that, having now been provided with the rigorous study and economic analysis on money market funds that a bipartisan majority of the Commission asked for from the start, we fully expect the Commission to move forward with a rule proposal shortly. Why, then, is FSOC still involved in the process? FSOC was established in part to promote coordination, collaboration, and information-sharing among its member agencies. It is immensely troubling then to think of the FSOC as an institutionalized mechanism for one set of regulators to pressure another in the latter agency's field of expertise -- yet that is exactly what is happening."

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