The Financial Stability Oversight Council was created by Dodd-Frank to apply the collective wisdom of key financial regulators to identifying and averting threats to the financial system. The FSOC has a number of concrete responsibilities, including reporting annually to Congress on potential emerging threats and identifying non-bank financial companies to be specially regulated by the Fed. The FSOC also has the power to issue "recommendations to primary financial regulatory agencies to apply new or heightened standards and safeguards . . . for a financial activity or practice." An agency has three months to embrace the FSOC's recommendation or explain why it is not doing so. Dodd-Frank provides only the vaguest of constraints on the circumstances under which this power may be exercised and little guidance about how this recommendation process interacts with the notice-and-comment rulemaking process under the Administrative Procedure Act.
The FSOC has decided to make money market fund regulation its test case of this recommendation power. Money market funds experienced a run during the crisis, which prompted the government to step in with an insurance program for an industry that had previously not been backed by the taxpayers. The Securities and Exchange Commission, which regulates money market funds, put one set of reforms in place in 2010 and was working on a second set of more meaningful reforms. Former SEC Chairman Schapiro abruptly abandoned negotiations last August and handed the matter over to the FSOC, which shared her policy prescriptions.
Money market reform makes sense, but the FSOC's involvement in the process does not. If Congress does not think that the SEC is doing its job well, Congress should dismantle the agency and transfer its responsibilities to other regulators in an orderly fashion. A piecemeal approach that allows the SEC chairman to outsource the agency's regulatory responsibilities on an ad hoc basis does not benefit investors, other market participants, or taxpayers.
Yesterday, Arthur Levitt, wrote in favor of the FSOC's involvement, a surprising position for a former SEC chairman to take. He postulates that "[t]he SEC would already have taken action were it not for industry interference." It is certainly true that the mutual fund industry has been in frequent communication with the SEC about this and other issues. Chairman Levitt celebrated the industry's engagement with the SEC in a 1995 speech entitled, "The SEC and the Mutual Fund Industry: An Enlightened Partnership." As that speech suggested, it would be irresponsible for the SEC not to listen to the industry's concerns, even if it ultimately concludes that those concerns are outweighed by other considerations. Deliberate rulemaking requires rigorous analysis and consideration of a broad range of perspectives. Thus, it can be time-consuming and difficult.
The FSOC could have enhanced--rather than undermined--the SEC's rulemaking process in two ways. First, it could have encouraged the SEC to use tried and tested regulatory impact analysis tools to identify with precision and transparency the problems to be addressed, feasible alternative solutions, and the costs and benefits of each of those alternatives. Second, the FSOC could have marshaled the relevant cross-agency expertise to address the accounting and tax issues that have stood in the way of giving investors, in the words of Mr. Levitt, "the pricing transparency [they] clearly need," namely "a floating valuation, issued in real-time or close to it." Instead of taking these positive steps toward reform, the FSOC chose to displace the SEC with its own less transparent and rigorous process.