[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]

EXAMINING THE IMPACT OF THE
PROPOSED RULES TO IMPLEMENT
BASEL III CAPITAL STANDARDS

=======================================================================

JOINT HEARING

BEFORE THE

SUBCOMMITTEE ON
FINANCIAL INSTITUTIONS
AND CONSUMER CREDIT

AND THE

SUBCOMMITTEE ON
INSURANCE, HOUSING AND
COMMUNITY OPPORTUNITY

OF THE

COMMITTEE ON FINANCIAL SERVICES

U.S. HOUSE OF REPRESENTATIVES

ONE HUNDRED TWELFTH CONGRESS

SECOND SESSION

----------

NOVEMBER 29, 2012

----------

Printed for the use of the Committee on Financial Services

Serial No. 112-161

EXAMINING THE IMPACT OF THE PROPOSED RULES

TO IMPLEMENT BASEL III CAPITAL STANDARDS

EXAMINING THE IMPACT OF THE
PROPOSED RULES TO IMPLEMENT
BASEL III CAPITAL STANDARDS

=======================================================================

JOINT HEARING

BEFORE THE

SUBCOMMITTEE ON
FINANCIAL INSTITUTIONS
AND CONSUMER CREDIT

AND THE

SUBCOMMITTEE ON
INSURANCE, HOUSING AND
COMMUNITY OPPORTUNITY

OF THE

COMMITTEE ON FINANCIAL SERVICES

U.S. HOUSE OF REPRESENTATIVES

ONE HUNDRED TWELFTH CONGRESS

SECOND SESSION

__________

NOVEMBER 29, 2012

__________

Printed for the use of the Committee on Financial Services

Serial No. 112-161

U.S. GOVERNMENT PRINTING OFFICE
79-691 WASHINGTON : 2013
-----------------------------------------------------------------------
For sale by the Superintendent of Documents, U.S. Government Printing Office,
http://bookstore.gpo.gov. For more information, contact the GPO Customer Contact Center, U.S. Government Printing Office. Phone 202�09512�091800, or 866�09512�091800 (toll-free). E-mail, gpo@custhelp.com.

HOUSE COMMITTEE ON FINANCIAL SERVICES

SPENCER BACHUS, Alabama, Chairman

JEB HENSARLING, Texas, Vice BARNEY FRANK, Massachusetts,
Chairman Ranking Member
PETER T. KING, New York MAXINE WATERS, California
EDWARD R. ROYCE, California CAROLYN B. MALONEY, New York
FRANK D. LUCAS, Oklahoma LUIS V. GUTIERREZ, Illinois
RON PAUL, Texas NYDIA M. VELAZQUEZ, New York
DONALD A. MANZULLO, Illinois MELVIN L. WATT, North Carolina
WALTER B. JONES, North Carolina GARY L. ACKERMAN, New York
JUDY BIGGERT, Illinois BRAD SHERMAN, California
GARY G. MILLER, California GREGORY W. MEEKS, New York
SHELLEY MOORE CAPITO, West Virginia MICHAEL E. CAPUANO, Massachusetts
SCOTT GARRETT, New Jersey RUBEN HINOJOSA, Texas
RANDY NEUGEBAUER, Texas WM. LACY CLAY, Missouri
PATRICK T. McHENRY, North Carolina CAROLYN McCARTHY, New York
JOHN CAMPBELL, California JOE BACA, California
MICHELE BACHMANN, Minnesota STEPHEN F. LYNCH, Massachusetts
KEVIN McCARTHY, California BRAD MILLER, North Carolina
STEVAN PEARCE, New Mexico DAVID SCOTT, Georgia
BILL POSEY, Florida AL GREEN, Texas
MICHAEL G. FITZPATRICK, EMANUEL CLEAVER, Missouri
Pennsylvania GWEN MOORE, Wisconsin
LYNN A. WESTMORELAND, Georgia KEITH ELLISON, Minnesota
BLAINE LUETKEMEYER, Missouri ED PERLMUTTER, Colorado
BILL HUIZENGA, Michigan JOE DONNELLY, Indiana
SEAN P. DUFFY, Wisconsin ANDRE CARSON, Indiana
NAN A. S. HAYWORTH, New York JAMES A. HIMES, Connecticut
JAMES B. RENACCI, Ohio GARY C. PETERS, Michigan
ROBERT HURT, Virginia JOHN C. CARNEY, Jr., Delaware
ROBERT J. DOLD, Illinois
DAVID SCHWEIKERT, Arizona
MICHAEL G. GRIMM, New York
FRANCISCO ``QUICO'' CANSECO, Texas
STEVE STIVERS, Ohio
STEPHEN LEE FINCHER, Tennessee
FRANK C. GUINTA, New Hampshire

James H. Clinger, Staff Director and Chief Counsel
Subcommittee on Financial Institutions and Consumer Credit

SHELLEY MOORE CAPITO, West Virginia, Chairman

JAMES B. RENACCI, Ohio, Vice CAROLYN B. MALONEY, New York,
Chairman Ranking Member
EDWARD R. ROYCE, California LUIS V. GUTIERREZ, Illinois
DONALD A. MANZULLO, Illinois MELVIN L. WATT, North Carolina
WALTER B. JONES, North Carolina GARY L. ACKERMAN, New York
JEB HENSARLING, Texas RUBEN HINOJOSA, Texas
PATRICK T. McHENRY, North Carolina CAROLYN McCARTHY, New York
KEVIN McCARTHY, California JOE BACA, California
STEVAN PEARCE, New Mexico BRAD MILLER, North Carolina
LYNN A. WESTMORELAND, Georgia DAVID SCOTT, Georgia
BLAINE LUETKEMEYER, Missouri NYDIA M. VELAZQUEZ, New York
BILL HUIZENGA, Michigan GREGORY W. MEEKS, New York
SEAN P. DUFFY, Wisconsin STEPHEN F. LYNCH, Massachusetts
FRANCISCO ``QUICO'' CANSECO, Texas JOHN C. CARNEY, Jr., Delaware
MICHAEL G. GRIMM, New York
STEPHEN LEE FINCHER, Tennessee
FRANK C. GUINTA, New Hampshire
Subcommittee on Insurance, Housing and Community Opportunity

JUDY BIGGERT, Illinois, Chairman

ROBERT HURT, Virginia, Vice LUIS V. GUTIERREZ, Illinois,
Chairman Ranking Member
GARY G. MILLER, California MAXINE WATERS, California
SHELLEY MOORE CAPITO, West Virginia NYDIA M. VELAZQUEZ, New York
SCOTT GARRETT, New Jersey EMANUEL CLEAVER, Missouri
PATRICK T. McHENRY, North Carolina WM. LACY CLAY, Missouri
LYNN A. WESTMORELAND, Georgia MELVIN L. WATT, North Carolina
SEAN P. DUFFY, Wisconsin BRAD SHERMAN, California
ROBERT J. DOLD, Illinois MICHAEL E. CAPUANO, Massachusetts
STEVE STIVERS, Ohio

C O N T E N T S

----------
Page
Hearing held on:
November 29, 2012............................................ 1
Appendix:
November 29, 2012............................................ 85

WITNESSES
Thursday, November 29, 2012

Admati, Anat R., George G.C. Parker Professor of Finance and
Economics, Graduate School of Business, Stanford University.... 51
Duffy, Terrence A., Executive Chairman and President, CME Group
Inc............................................................ 53
French, George, Deputy Director, Policy, Division of Risk
Management Supervision, Federal Deposit Insurance Corporation
(FDIC)......................................................... 12
Garnett, James M., Jr., Head of Risk Architecture, Citi.......... 54
Gibson, Michael S., Director, Division of Banking Supervision and
Regulation, Board of Governors of the Federal Reserve System... 14
Gonzales, Greg, Commissioner, Tennessee Department of Financial
Institutions, on behalf of the Conference of State Bank
Supervisors (CSBS)............................................. 17
Jarsulic, Marc, Chief Economist, Better Markets, Inc............. 56
Loving, William A., Jr., President and Chief Executive Officer,
Pendleton Community Bank, and Chairman-Elect, Independent
Community Bankers of America (ICBA), on behalf of ICBA......... 57
Lyons, John C., Senior Deputy Comptroller, Bank Supervision
Policy, and Chief National Bank Examiner, Office of the
Comptroller of the Currency.................................... 15
McCarty, Kevin M., Commissioner, Florida Office of Insurance
Regulation, and President, the National Association of
Insurance Commissioners (NAIC), on behalf of NAIC.............. 19
Poston, Daniel T., Chief Financial Officer, Fifth Third Bancorp,
on behalf of the American Bankers Association (ABA)............ 59
Smith, Paul, CPCU, CLU, Senior Vice President and Chief Financial
Officer, State Farm Mutual Automobile Insurance Company........ 60
Wilson, Gina, Executive Vice President and Chief Financial
Officer, TIAA-CREF............................................. 62

APPENDIX

Prepared statements:
Miller, Hon. Gary............................................ 86
Admati, Anat R............................................... 88
Duffy, Terrence A............................................ 126
French, George............................................... 148
Garnett, James M., Jr........................................ 168
Gibson, Michael S............................................ 176
Gonzales, Greg............................................... 198
Jarsulic, Marc............................................... 226
Loving, William A., Jr....................................... 242
Lyons, John C................................................ 248
McCarty, Kevin M............................................. 296
Poston, Daniel T............................................. 304
Smith, Paul.................................................. 317
Wilson, Gina................................................. 326

Additional Material Submitted for the Record

Capito, Hon. Shelley Moore:
Written statement of America's Mutual Banks.................. 369
Written statement of the Council of Federal Home Loan Banks.. 374
Written statement of the Mid-size Bank Coalition of America.. 394
Miller, Hon. Gary:
Letter to Federal Reserve Chairman Ben Bernanke, FDIC Acting
Chairman Martin J. Gruenberg, and Comptroller Thomas J.
Curry from Senator Susan M. Collins, dated November 26,
2012....................................................... 417
Perlmutter, Hon. Ed:
Speech delivered to The American Banker Regulatory Symposium
by Thomas M. Hoenig, FDIC Director, on September 14, 2012.. 419
Stivers, Hon. Steve:
Supplemental testimony supplied for the record by Daniel T.
Poston..................................................... 425

EXAMINING THE IMPACT OF THE
PROPOSED RULES TO IMPLEMENT
BASEL III CAPITAL STANDARDS

----------

Thursday, November 29, 2012

U.S. House of Representatives,
Subcommittee on Financial Institutions
and Consumer Credit, and
Subcommittee on Insurance, Housing
and Community Opportunity,
Committee on Financial Services,
Washington, D.C.
The subcommittees met, pursuant to notice, at 10:03 a.m.,
in room 2128, Rayburn House Office Building, Hon. Shelley Moore
Capito [chairwoman of the Subcommittee on Financial
Institutions and Consumer Credit] presiding.
Members present from the Subcommittee on Financial
Institutions and Consumer Credit: Representatives Capito,
Renacci, Hensarling, McHenry, Pearce, Westmoreland,
Luetkemeyer, Huizenga, Duffy, Canseco, Fincher; Maloney,
Gutierrez, Watt, McCarthy of New York, Lynch, Miller of North
Carolina, and Scott.
Members present from the Subcommittee on Insurance, Housing
and Community Opportunity: Representatives Biggert, Hurt,
Miller of California, Garrett, Westmoreland, Duffy, Dold,
Stivers; Gutierrez, Waters, Watt, Sherman, Capuano, and
Cleaver.
Also present: Representatives Hayworth; Green and
Perlmutter.
Chairwoman Capito. I would like to call the hearing to
order.
I first would like to say that Mrs. Maloney, who is my
ranking member--there is a lot going on in the Democrat caucus
right now. I am sure they will be here shortly. So they said to
go ahead and start, and we have Mr. Scott here to carry the
flag. So I am going to go ahead and call the hearing to order.
I would like to thank Chairwoman Biggert, Ranking Member
Maloney, and Ranking Member Gutierrez for their cooperation in
holding this joint hearing on capital requirements for
financial institutions.
We have two panels with very diverse witnesses, and they
will be presenting various concerns about the proposed rule to
implement the Basel III capital requirements. Because this is a
joint hearing with two large witness panels, I would ask my
fellow colleagues, if they would--I am going to gavel us down
at 5 minutes on questioning because we have a lot of interests
and we have a large panel at the same time.
Before I begin my formal opening statement, I would like to
take a minute to thank my good friend, Chairwoman Judy Biggert
from Illinois. This will probably be her final hearing. She has
been a mentor to me, and a good friend. She has been wonderful,
had wonderful service on this committee. She understands the
issues very deeply, and she cares. And I think all of you who
have dealt with Judy through the years are going to miss her as
much as I am, and this committee will miss her.
So, Judy, I want to say thank you. Thank you for getting
the flood bill through.
I tease her about being ``Miss Flood,'' but she got it
through. And it was her perseverance and her dedication to that
issue that actually saw it all the way through to the
President's desk. So if we could give Judy a little round of
applause.
[applause]
Chairwoman Biggert. We will never get to the hearing.
Chairwoman Capito. Judy said, ``We will never get to the
hearing.'' She is always working.
In early June of this year, the Federal Reserve Board, the
Office of the Comptroller of the Currency, and the FDIC jointly
proposed three rules to revise risk-based capital requirements
to make them consistent with the Basel III Accords.
Like many of my colleagues--and it is really surprising to
me how vocal the concern has been--I have heard a lot of
concern from financial institutions of all sizes about the
effect that implementation of these capital requirements will
have on the health of financial institutions, their ability to
lend, and the subsequent effect on the economy.
Although there was near-unanimous expectation that these
capital requirements would only apply to the largest banks,
many were surprised when the U.S. Federal agencies applied
standards that were designed for large complex institutions to
regional community banks, as well.
Higher capital requirements for large complex institutions
are entirely appropriate. Over the last year, we have seen
firsthand that a well-capitalized financial institution can
sustain a significant loss because they are holding sufficient
capital. Furthermore, higher capital requirements may help
prevent our Nation's largest financial institutions from
becoming even more systemic. The Basel III Accords were
designed to address many of the issues posed by large, complex,
systemic financial institutions. It is less clear whether these
specific capital requirements are appropriate for regional and
community banks.
The United States is very fortunate to be served by a
highly diverse financial system. The diversity in our system is
evident in the different banks that are testifying here today.
Pendleton Community Bank, near and dear to my heart, from West
Virginia is a $260 million asset bank located in rural West
Virginia. Fifth Third Bancorp is a $117 billion regional bank
serving 12 States. And Citigroup is a nearly $2 trillion bank
serving clients across the globe.
These institutions have unique business models designed to
serve different types of customers. The one-size-fits-all
approach to regulatory capital in the proposed rules does not
take into consideration the diversity of our Nation's financial
system and the unique challenges faced by different size
institutions.
Furthermore, as we will learn from several witnesses today,
the proposed rules will apply to insurance companies that own
their own thrifts. Again, there needs to be significant
flexibility in the way these rules are finalized that properly
takes into account the differences in their business models.
I know that the regulatory agencies are currently reviewing
thousands of comments on the proposed rules, and I thank them
for their diligence in reviewing the comments.
We can all agree that higher capital requirements are an
important tool in ensuring that we have a safe and sound
financial system. However, it is my hope that today's hearing
will demonstrate to the regulatory agencies the importance of
appropriately tailoring these requirements to the different
size financial institutions in the United States.
So that is my opening statement. I now recognize Mr.
Sherman for an opening statement.
Mr. Sherman. Thank you.
Increasingly, we find in this committee that what the
regulators do is more important than what we do. That is in
part because Congress finds it so difficult to pass a statute.
It is an old saying in the English language, the American
language, ``It takes an act of Congress.''
Still, we are a democracy. And if regulators are going to
pen the important laws, they should be listening to the elected
representatives of the people, even if those representatives
can't come together to the point of drafting statutes that are
binding on them.
I think that there will be a general consensus here that
while certain basic principles would apply to all banks and
relevant insurance companies, we need to have substantial
differences in the ultimate principles as they apply to those
that are the largest and the smallest, and perhaps some other
differentiations, as well.
With that, I yield back.
Chairwoman Capito. The gentleman yields back.
I recognize Mrs. Biggert for 2 minutes for an opening
statement.
Chairwoman Biggert. Thank you, Madam Chairwoman.
Contributing to the recent collapse of many financial
institutions across the country was a flawed regulatory system,
ineffective rules, and asleep-at-the-switch regulators.
Sufficient capital, sound risk management, and prudent
regulation are critical components to ensure the availability
and reliability of financial products to consumers and the
solvency of financial institutions large and small alike.
Federal bank regulators proposed rules to implement the new
Basel Accord, Basel III, increase capital for the sake of
increasing capital, while treating insurance like banking;
multifaceted large banks, like small banks; and 1-day and 5-day
derivatives contracts the same. They don't make much sense.
What could be the cost of negligence should these proposed
rules not improve? It is not the most sound and effective
regulation, and at a time when we can least afford increased
costs to families and businesses as well as no or slow job and
economic growth. Regulations should first aim to do no harm.
To comply with Basel III, our regulations must strike the
right balance. They should be tailored to different and
changing business models, account for a wide variety of
financial products and inherent risks, and set capital
requirements accordingly. The proposed rules don't achieve
these goals.
Today, I look forward to a commitment from the Federal
Reserve that they, in fact, will improve this rule and not
simply commit to review and consider submitted comments.
I thank Chairwoman Capito for her hard work in putting
together today's very important hearing, and I thank the
witnesses for their participation.
And I yield back.
Chairwoman Capito. Thank you.
I would like to recognize Mr. Miller for--do you have an
opening statement?
Mr. Miller of North Carolina. No.
Chairwoman Capito. Before I move on to Mr. Scott, I would
like to thank Mr. Miller, as well, for his service to this
committee and to this Congress. He will be leaving us. As we
all know, Mr. Miller is a very dedicated and ardent advocate in
his beliefs. And I believe he has enhanced the quality of the
committee, and I want to thank him for his service.
Thank you.
[applause]
Chairwoman Capito. Even though he is a Carolina fan and I
went to Duke, but that is okay.
I would like to recognize Mr. Scott for as much time as he
may consume for an opening statement.
Mr. Scott. Thank you very much, Madam Chairwoman.
And I, too, want to commend Mr. Miller for his excellent
service. We came into the Congress together and went on many
trips abroad together, and we are good friends.
I wish you the very best, Mr. Miller.
This is indeed an important hearing, and it is very
important to me because I represent Georgia, a State that has
led the Nation in bank closures. So I know firsthand some of
the difficulties that banks are facing now--not only a
struggling economy, overvaluation of real estate portfolios
that had an effect, but also these regulations that we are
putting in place to prevent such a calamity from happening
again. We are trying to propose sufficient regulations in the
midst of economic recovery and difficulties for our banks.
So I am very, very concerned about banks. And it is very
important for us to note that many banks are still struggling
under the pressure of a recovering economy, along with these
tighter regulations that are being put in place.
But I am very supportive of efforts to improve capital
standards for banks in order to ensure that every banking
institution, regardless of size, has a sufficient financial
buffer to absorb losses. However, through regulators' efforts
to strengthen the banking system by means of new requirements,
community banks, especially in my State of Georgia, have
suffered from the burden of maintaining unnecessarily high
levels of capital, and we need to examine that. What really
works best?
Community banks have expressed to me direct concern
regarding the proposed Basel III rules on capital requirements
and the effect they would have on bank lending and especially
on the local economy in my State of Georgia. They maintain that
these regulations would require them to increase their capital
and liquidity holding on small business loans and mortgages, in
turn reducing Georgia consumers' access to these loans.
So this causes me great concern during this time of
economic recovery, and especially in Georgia, as well, because
we have a high unemployment rate which is above the national
average. Our unemployment rate right now is hovering at 9
percent.
I expressed my concerns on this issue just last week in a
letter that I wrote to Chairman Bernanke, Comptroller Curry,
and Acting Chairman Gruenberg, where I asked for regulators to
take appropriate time to adopt rules that distinguish between
the systemic risk and megabanks and to study the potential
impact that each rule change would have on the banking
industry. There is a difference between your big megabanks,
your regional banks, and your community banks. One size just
does not fit all.
I am also concerned about the overall impact of the Basel
III proposals in conjunction with other regulations, such as
those mandated by the Dodd-Frank Act and other regulatory and
accounting rule standards on credit availability, the cost of
credit. This is a monumental issue of great complexity, and we
have to make sure that we get it right, that we understand the
impact, and that we really don't have too many unnecessary
consequences that will result in negative impact on our
customers and our consumers, because that is what we are all
here to try to solve.
With that, I yield back, Madam Chairwoman.
Chairwoman Capito. Thank you.
I recognize Mr. Hurt for 1 minute.
Mr. Hurt. I thank the Chair for yielding and I appreciate
Chairwoman Biggert and Chairwoman Capito for convening this
important hearing today.
I wanted to echo my thanks to Chairwoman Biggert for her
service. It has been a privilege to be able to serve on the
Insurance and Housing Subcommittee with you, and I thank you
for that.
As our committee has heard throughout this Congress, the
proposed Basel III capital requirements appear to have been
made without regard for their unintended consequences and
negative impacts on the economy. While sufficient capital
requirements are essential to a strong banking and financial
system, they must be appropriately tailored to consider the
intricacies of a diverse financial business model rather than a
one-size-fits-all system.
Community banks in Virginia's Fifth District, my district,
have told me that the proposed rules' complexity will impose
significant costs. In light of other regulatory impacts they
face from Dodd-Frank, these banks will be hard-pressed to
transition to these new capital standards without eliminating
key portions of their business that serve our communities.
Additionally, I am concerned by the way that proposed rules
treat insurers with depository institution holding companies.
The assets, liabilities, and accounting practices of insurers
are quite different than those of banks, yet the rules do not
differentiate between these entities.
As the regulators promulgate the final rules, I hope they
will take these concerns into account so that these capital
requirements can accommodate the needs of different enterprises
that will be impacted by these regulations and minimize the
potential harm to our economy.
I look forward to hearing from our witnesses, and I yield
back the balance of my time.
Chairwoman Capito. I recognize Mrs. Maloney for an opening
statement.
Mrs. Maloney. First of all, I thank you for calling this
incredibly important hearing.
And I want to join my colleagues in applauding Judy Biggert
for her outstanding service to our country. During this time
when flood relief is so important in New Jersey and New York
and Westchester, her work on the flood bill last year,
modernizing it, getting it in shape, really, really is being
felt in our neighborhoods. And I want to congratulate her on
that work.
I also want to mention a bill that we put in that became
law and is still law, and that was on Afghan women. The Taliban
are prosecuting women. We put in a bill that $60 million of our
aid to Afghanistan would go to NGOs either headed by women or
helping women, and created a human rights commission where men
and women, children, all people could appeal for their rights.
It was important legislation.
Judy, I just appreciate all of your hard work in so many
ways.
And Brad Miller is such an outstanding member of our caucus
and of this committee, authoring and passing many important
bills. And I have so such regard for his intellect and his
integrity and his judgment that, literally, I tried to hire him
as my personal lawyer when he left. He is telling me he is not
going to practice law, but he is a brilliant lawyer, and a
brilliant member of this committee.
We are going to deeply, deeply miss you.
I congratulate both of them on their outstanding,
incredible service to this incredible body, our Congress.
I want to thank everyone here and welcome the witnesses
today.
Four years ago, we learned a couple of very important
lessons. We learned that banks were undercapitalized,
overleveraged, and vulnerable to economic shock. We also
learned that some types of capital can protect a financial
institution better than others in a crisis. And since that
time, Congress, the financial institutions themselves, and the
regulators have taken a number of critical steps to ensure that
the banking system can withstand the next financial crisis.
Several provisions of the Dodd-Frank Act, including the
Collins Amendment, are aimed at strengthening banks' capital
and shoring up their Tier 1 capital. And banks are better
capitalized now than ever before. Total capital is up by 10
percent since 2009. And the number of unprofitable banking
institutions has dropped from 28 percent of the total in 2009
to 11 percent in 2012.
The global regulatory community has also been working to
implement Basel III, and the U.S. regulators issued a three-
part rule to do so in June. The rules that were issued in June
reflect the recommendations of the Basel Committee and focus on
three areas: imposing minimum regulatory capital ratios and
buffers; defining rules for risk-weighted assets; and setting
the supplementary leverage ratios for large, internationally
active banks.
Since the proposed rule was issued, concerns have been
raised by a number of entities with respect to how these rules
will impact small community banks and regional banks as well as
insurance companies that will have to comply with them. I do
not support the rule at this time, and I share a number of
concerns.
First, I do not believe that smaller community and regional
banks should be swept into Basel III and forced into it. If
they want to opt in, fine. But Basel is meant for larger,
cross-border banks that do business internationally, and not
for small community and regional banks that are already well-
capitalized. And I repeat, they were not part of the crisis.
They are an important part of the banking system. Even in
the great City of New York, where we have many large banks,
they serve the community. And to put these compliance costs on
them and these regulations, when they are not involved in
international business--they are really supplying services to
the community. I am concerned that these requirements may force
a lot of community and regional banks out of business. So I am
very, very concerned.
Second, I am concerned that the proposed risk weights are
punitive and will mean the consumers who cannot afford to put
down a 20 percent downpayment will be penalized. We need real
risk-based criteria and real metrics, not a further restriction
of the housing market. And I feel that should be more
completely defined.
And, finally, I am concerned about the proposed rules that
are overly complex and could prove incredibly costly to
implement. Despite their complexity, they do not take into
account the various business models of covered entities,
specifically insurance companies that will have to comply with
them even though they are covered by many other regulations in
other areas.
Those who are working on the rule announced a couple of
weeks ago that they will not issue a final rule until after the
first of the year. I think that is a positive thing. And I am
pleased to see that they are taking the time to get it right,
to address the concerns from the industry, and to hopefully
coordinate with our global partners. But I hope they will be
able to shed some light on their timeframe for issuing a final
rule.
Between the two panels here today, we have a range of
regulatory bodies and industry represented, as well as leaders
on these subjects. So I look forward to hearing from them. I
feel this is a critically important hearing, and I compliment
my colleague for calling it.
Chairwoman Capito. Thank you.
Mr. Hensarling for 2 minutes.
Mr. Hensarling. Thank you, Madam Chairwoman. I appreciate
you and Chairwoman Biggert holding this particular hearing.
We have had many debates in this hearing room about the
Dodd-Frank Act. I suspect there will be more in the future. And
regardless if it is perceived in real benefits, many of us
believe that there has been a substantial cost by the
imposition of very complex, expensive, weighty rules upon our
financial markets, ultimately making capital more expensive and
less available.
Unfortunately, on top of that now comes Basel III, weighing
in, I believe, at over 1,000 pages, when I am not so certain we
were well-served by either Basel I, Basel II, or Basel II-and-
a-half. We know that the regulators decided, in their wisdom,
that financial institutions should reserve less against both
sovereign debt and agency MBS, and I think we know how that all
played out.
I have heard some very encouraging things on both sides of
the aisle, particularly Members indicating a concern about one-
size-fits-all. I would agree with the ranking minority member
that it is a very open question whether Basel III should even
apply to our community-based financial institutions. So let's
hope the bipartisan concern and support is a harbinger of
things to come in the 113th Congress.
Clearly, the case can be made that we need more capital. A
case can be made that we need higher quality capital. It is a
very poor case for more complex capital standards that do not
recognize the difference between large money center banks and
our community financial institutions.
Somebody recently sent me a quote from Einstein that I will
close with, Madam Chairwoman. The quote is this: ``We cannot
solve our problems with the same level of thinking that created
them.'' I believe that applies to Basel III.
I yield back.
Chairwoman Capito. The gentleman yields back.
Mr. Lynch for 2 minutes.
Mr. Lynch. Thank you, Madam Chairwoman.
I want to welcome all the witnesses and thank you for
coming before this committee and helping us with our work.
One of the important lessons that we learned from the
recent financial crisis is that some banks were not required to
hold sufficient capital, either because it wasn't enough
capital or the capital itself was not of sufficient quality to
withstand the significant losses unleashed by the housing
bubble bursting.
As a result of the actions by the Basel Committee and the
requirement in the Dodd-Frank Act, U.S. banking regulators are
moving forward with the rules to modernize our outdated and
inadequate minimum capital rules. I have heard a lot of folks
here and elsewhere describe these minimum capital rules as
complex, but I think that is perhaps a little bit misleading.
The idea behind the rules is actually fairly simple and
straightforward: the level of capital banks have to hold
because of assets on their books should be determined by how
risky those assets are.
What has become complex is not this idea but the business
of banking itself. And as a result, the rules putting this
simple idea into play, that minimum capital levels should
reflect risk, have become more convoluted.
No one here today would argue that Basel I rules, which
treat a commercial loan to a blue chip company and a commercial
loan to an Internet startup as equally risky, are too complex.
In fact, nearly everyone concedes that those rules are too
simplistic and are outdated in our modern world of financial
innovation. We need rules that reflect the dynamic and
sometimes volatile world of modern finance, and those rules
also may wind up reflecting modern finance's complexity.
I am sympathetic, I admit, to the community banks. And I
would like to hear from some of our witnesses who represent the
community banks, particularly the regulators who oversee them,
about how we can make these rules easier for the community
banks to implement, whether by making some of the more
convoluted risk-weighting calculations prospective and
providing the community banks with an extended on-ramp time or
some other way to ease the burden of community banks.
Again, I thank the witnesses for coming here today, and I
look forward to hearing your testimony.
Thank you.
Chairwoman Capito. Thank you.
Mr. Miller for 1 minute.
Mr. Miller of California. I would like to thank the
chairwoman for hosting this hearing today.
There is no question that robust capital standards, when
properly applied, will help protect our economy. But when we
proceed with caution, such standards can actually be
detrimental to our economy if not properly applied.
Capital standards need to be set appropriately so they can
ensure the safety and soundness of financial institutions
without harming the availability of credit to fuel economic
growth and the ability of small banks to serve their
communities.
I am really concerned about the proposed rules' treatment
of insurance companies that own depository institutions. The
bank-centric approach to the proposed rules is inconsistent
with the safe supervision of insurance companies and could
actually harm the solvency of the insurance industry, which is
actually the opposite of what Congress intended.
Earlier this year, Chairman Bernanke acknowledged before
the committee that appropriate capital standard regulations
should take into account the different compositions of assets
and liabilities of insurance companies. Just yesterday, Senator
Collins, the author of the language in the Dodd-Frank Act, sent
a letter to the Federal Reserve, the FDIC, and Treasury stating
that, ``It was not Congress' intent that Federal regulators
supplant prudential State-based insurance regulations without
bank-centric capital standards.''
I ask unanimous consent for that letter to be introduced
into the record.
Chairwoman Capito. Without objection, it is so ordered.
Mr. Miller of California. I would be concerned that the
proposed rules do not take into account the different business
models and risk profiles of insurance companies.
I yield back.
Chairwoman Capito. Thank you. The gentleman yields back.
Mr. Duffy for 1 minute.
Mr. Duffy of Wisconsin. Thank you, Madam Chairwoman.
For Basel III, I support increasing capital requirements on
our larger banks to insulate the American taxpayer from bailing
out large financial institutions again. However, I come from
rural Wisconsin, where we are served by a number of small
community banks, and I am concerned about the impact Basel III
will have on their ability to continue serving our communities.
So today, I hope the panel will discuss a few issues.
First, under Dodd-Frank, small bank holding companies were
allowed to hold trust-preferred securities as Tier 1 capital.
Basel III requires these small banks to phase out their trust-
preferred securities, which will create significant problems
for them to access capital. Second, address the extra burden
placed on small banks from calculating gain or losses on
available-for-sale securities rather than continuing to use
book value. And third, the rationale used for setting risk-
weighting for mortgages.
Thank you, and I yield back.
Chairwoman Capito. The gentleman yields back.
I would like to recognize Mr. Dold, but before I do that, I
would like to thank him for his service. He did jump ship from
the Financial Institutions Subcommittee over to the Capital
Markets Subcommittee, but I got over it quickly. He has been a
great Member of Congress and a great member of this committee,
and we will miss him.
Mr. Dold for 1 minute.
Mr. Dold. Thank you, Madam Chairwoman. And I certainly
appreciate your leadership.
I also wanted to thank my good friend and neighbor in
Illinois, Judy Biggert, for her leadership. It is certainly an
honor to serve with you, and also my good friend Quico Canseco.
I want to thank our witnesses for being here today. And
while my colleagues and I generally support increasing the
level of high-quality capital in the banking system, I have
some serious concerns about the proposed rules implementing
Basel III and their impact on our fragile economy.
First, I am concerned that the overall complexity of the
proposed risk-based capital requirements would result in
meaningful and unnecessary new compliance costs for domestic
banks, particularly our community banks. And we have heard that
from a number of folks on both sides of the aisle.
I am also concerned that the specific risk weights are
misguided and could raise costs for many consumers, including
small-business owners, who want to use equity perhaps even in
their homes to invest in their business and create additional
jobs.
I do think that is one of the things that we all have to be
focusing on: How do we create an environment that enables the
private sector to create more jobs with an unemployment rate as
high as it is today? We can't have a one-size-fits-all
mentality for our banking system and capital requirements.
I yield back.
Chairwoman Capito. The gentleman yields back.
I would like to recognize Mr. Canseco for 1 minute, and
thank him for his service. Certainly, on my subcommittee, he
has been a force of great knowledge. He has great background in
banking.
We will miss you, Quico, but I don't think we have heard
the last from you. So Godspeed, but also, 1 minute for an
opening statement.
Mr. Canseco. Thank you. Thank you, Madam Chairwoman. And I
thank you and Chairwoman Biggert for your leadership in holding
this hearing today.
The financial crisis of 2008 exposed two glaring problems
with our financial system in existence at that time. First, the
financial system was woefully undercapitalized to deal with the
buildup of shaky mortgage assets. And, second, the rules
governing capital of the largest institutions, known as the
Basel regime, were deeply flawed and, in my opinion,
exacerbated the crisis. The Basel regime incentivized banks to
over-weight mortgages and considered the debt of countries such
as Greece and Spain to be bulletproof.
The fact that today we are discussing Basel III reminds us
that regulators have been here twice before, but,
unfortunately, I don't see much in the proposed rule which
fixes the flaws that already exist within the Basel system.
Instead, I see another iteration of the belief that greater
complexity leads to better regulation.
Sufficient capital is essential to a safe and sound
financial system, and I feel today's hearing will be successful
if we have a serious conversation about the problems with the
Basel regime and look to chart a proper course ahead of the
regulation of capital in our financial system.
Thank you, Madam Chairwoman.
Chairwoman Capito. Thank you.
Mr. Fincher for 1 minute.
Mr. Fincher. Thank you, Madam Chairwoman. I appreciate the
opportunity to participate in the discussion and examination of
the proposed rules to implement Basel III capital standards.
I am also pleased that Mr. Greg Gonzales, commissioner of
the Department of Financial Institutions in Tennessee, is here
to share his views on these proposed rules on Basel III.
Madam Chairwoman, as I begin to review these proposed rules
and hear from my constituents in Tennessee, I can't help but
think of the law of unintended consequences. It seems to me
that much of the legislation and hearing activity in this
committee results from the unintended consequences of previous
laws that were intended to do one thing but ended up doing
another.
I have heard from banks all across Tennessee and the
concerns about the impacts these proposed rules would have on
the economies of their communities. The message I have been
hearing is that these rules, as written, will hurt economic
growth and slow down our already fragile economy. I hope, as we
examine these rules, that we remember to do no harm.
I look forward to the testimony this morning and thank the
chairwoman for this hearing. I yield back.
Chairwoman Capito. The gentleman yields back.
Our final opening statement comes from my friend and
colleague, Ms. Hayworth from New York. We will miss her on our
committee and in Congress. I consider her a very good friend,
and I want to thank her for her service.
I am very generous here: 1 minute, Ms. Hayworth.
Dr. Hayworth. Thank you, Madam Chairwoman, for your
generosity and for your commitment and service in so many ways.
And I can't wait to see what your future holds for all of us
and our Nation.
Thanks to our witnesses on both panels today.
Obviously, from the State of New York, I represent the
Hudson Valley. Capital standards and those rules and the
potential unintended consequences of those rules have profound
consequences for the economy of my State and Hudson Valley in
particular.
Our economy, as we know, already faces serious headwinds
from our link with Europe, and from our own debt crisis, from
our own fiscal cliff. And it is certainly important that we
honor and reflect the agreements that we have with our
international partners on standards. It is also crucial that
our Congress ensure that standards for capital and liquidity in
the United States reflect our best interests and concerns.
So I look forward to your testimony and, in particular, how
you address the issues that our community bankers and insurers
have raised with folks like me. Thank you so much again.
And thank you, Madam Chairwoman.
Chairwoman Capito. Thank you.
With that, we will begin our witness testimony. I want to
thank all the witnesses. I will introduce, and some other
Members are going to introduce, some of the panel, but I will
introduce each of you before you give your 5-minute statement.
For the first panel, our first witness is Mr. George
French. He is the Deputy Director of the Division of Risk
Management Supervision at the Federal Deposit Insurance
Corporation.
Welcome, Mr. French.

STATEMENT OF GEORGE FRENCH, DEPUTY DIRECTOR, POLICY, DIVISION
OF RISK MANAGEMENT SUPERVISION, FEDERAL DEPOSIT INSURANCE
CORPORATION (FDIC)

Mr. French. Thank you. Good morning, Chairwoman Capito,
Chairwoman Biggert, Ranking Member Maloney, Ranking Member
Gutierrez, and members of the subcommittee. I am pleased to
testify on behalf of the FDIC about the agency's proposed
regulatory capital rules. And my statement will focus on the
two notices of proposed rulemaking (NPR) that apply to
community banks and some of the comments that we have received.
One of these NPRs deals with the Basel III capital reforms.
The core elements of Basel III would strengthen the quality of
bank capital and increase its required level. These are basic
concepts of capital adequacy that are relevant for any bank,
and the Basel III NPR would apply them to all insured banks.
The Basel III reforms also include a number of complex
provisions that are targeted at large, internationally active
banks. We have proposed to apply these only to the largest
banks, so these banks would need to comply with the basic
changes to the definition and level of capital that are
proposed for all banks and also with the additional standards
that address the unique issues faced by large banks.
The Basel III NPR also preserves the fundamental role of
the U.S. leverage ratio. The FDIC strongly supports the
introduction of the leverage ratio in the Basel framework as a
transparent and objective measure of capital adequacy.
The second NPR that is relevant for community banks is the
Standardized Approach NPR. It proposes a number of changes to
the way banks compute risk-weighted assets and removes
references to credit ratings, consistent with the Dodd-Frank
Act. I do want to clarify that the changes to risk-weighted
assets in this Standardized Approach NPR are not part of the
international Basel III reform package.
The FDIC has devoted significant efforts to outreach and
technical assistance to help community banks understand how
these proposals may affect them. We have received more than
2,000 comments at last count, and many of these comments
express concern that the proposals will negatively affect
community banks' ability to serve the credit needs of their
local communities. As the primary Federal regulator of the
majority of community banks, the FDIC takes these comments very
seriously.
In the last 5 years, we have seen over 460 insured banks
fail and many hundreds more in problem-bank status. This
painful episode has imposed significant costs on our national
and local economies and illustrates the importance of banks
having a strong capital base so that they can continue to lend
in their communities even during periods of economic adversity.
Now, many commenters do acknowledge the importance of
strong bank capital, but they also have concerns about specific
aspects of the proposals, their complexity, or the totality of
their potential effects. Among the more frequently mentioned
specific issues are the residential mortgage rules and the
Standardized Approach NPR and their interaction with the Dodd-
Frank mortgage rules. In the Basel III NPR, many commenters
have focused on the proposed treatment of available-for-sale
debt securities and many others on the phaseout of preexisting
trust-preferred securities of smaller banking organizations.
Careful review of these and other comments is a critically
important part of our process that gives us a better
understanding of the potential unintended consequences and
costs of these proposals. It is important to note that we have
not reached decisions on any of these matters. These are
proposed rules, not final rules, and we anticipate making
changes in response to comments.
The basic purpose of the Basel III framework is to
strengthen the long-term quality and quantity of the capital
base of the U.S. banking system. In light of the recent
financial crisis, that would appear to be an appropriate and
important goal. However, that goal should be achieved in a way
that is responsive to the concerns expressed by community banks
about the potential for unintended consequences.
This concludes my statement.
[The prepared statement of Deputy Director French can be
found on page 148 of the appendix.]
Chairwoman Capito. Thank you.
Our next witness is Mr. Michael S. Gibson, Director,
Division of Banking Supervision and Regulation, Board of
Governors of the Federal Reserve System.
Welcome, Mr. Gibson.

STATEMENT OF MICHAEL S. GIBSON, DIRECTOR, DIVISION OF BANKING
SUPERVISION AND REGULATION, BOARD OF GOVERNORS OF THE FEDERAL
RESERVE SYSTEM

Mr. Gibson. Thank you, Chairwoman Capito, Chairwoman
Biggert, Ranking Member Maloney, Ranking Member Gutierrez, and
members of the subcommittees. Thank you for the opportunity to
testify on the proposed interagency changes to the regulatory
capital framework for U.S. banking organizations.
The recent financial crisis revealed that too many U.S.
banking organizations were not holding enough capital to absorb
losses during periods of severe stress. In addition, some
instruments that counted as capital were not able to absorb
losses as expected. In short, banks were too highly leveraged.
In response to the lessons of the crisis, the banking agencies'
capital proposal would increase both the quantity and quality
of capital held by banking organizations of all sizes.
Another lesson from the crisis was that the largest banking
organizations were the most severely impacted. As a result,
many items in the agencies' proposal and in other regulatory
reforms are appropriately focused on larger banking firms and
would not apply to community banking organizations.
We have assessed the impact of these proposed changes on
banking organizations and the broader financial system. These
analyses found that the stronger capital standards in our
proposal would significantly lower the probability of banking
crises and their associated economic losses while having only a
modest negative effect on gross domestic product and the cost
of credit. The modest negative effects would be mitigated by
the extensive transition periods provided in our proposal.
Our impact analysis also showed that the vast majority of
banking organizations, including approximately 90 percent of
community banking organizations, would not be required to raise
additional capital because they already meet the proposed
higher minimum requirements on a fully phased-in basis. Our
impact analysis is appended to my written testimony.
Community banking organizations play a vital role in the
U.S. financial system. They can provide relationship-based
lending in their local communities in a way that larger
institutions would find difficult to duplicate. In developing
the proposal, the agencies sought to strike the right balance
between safety and soundness concerns and the regulatory burden
associated with implementation, including the impact on
community banking.
We also conducted extensive industry outreach across the
country, and we provided a tool to help smaller organizations
estimate their capital levels under the proposal. As we
consider the large volume of comments submitted by the public,
the Federal Reserve will remain sensitive to concerns expressed
by community banking organizations.
Community banking organizations are particularly concerned
about the proposed treatments of unrealized gains and losses on
securities, otherwise known as AOCI, and residential mortgage
exposures. They believe that elements of our proposal do not
adequately take into account the community banking business
model and that some aspects would have potential
disproportionate effects on their organizations. We will be
mindful of these comments when we consider potential changes to
the proposal, and we will work to appropriately balance the
benefits of a revised capital framework against its costs.
The proposal would apply consolidated capital requirements
to all assets owned by a depository institution holding company
and its subsidiaries, including assets held by insurance
companies. By treating all assets equally, the proposal would
eliminate incentives to engage in regulatory capital arbitrage
across different subsidiaries of the holding company. The
proposal is also consistent with the Collins Amendment in
Section 171 of the Dodd-Frank Act, which requires that bank
capital requirements be a floor for depository institution
holding company requirements.
Depository institution holding companies with insurance
activities have raised concerns that the proposed regulatory
capital requirements are not suitable for the insurance
business model. The Federal Reserve takes these comments
seriously and will consider them carefully in determining how
to appropriately apply regulatory capital requirements to
depository institution holding companies with significant
insurance activities.
We are working as quickly as possible to evaluate the many
comments and to issue a final rule that would provide
appropriate transition periods to come into compliance.
Thank you for the opportunity to describe the Federal
Reserve's efforts to reform the regulatory capital framework
for U.S. banking organizations, and I will be happy to answer
any questions you have.
[The prepared statement of Director Gibson can be found on
page 176 of the appendix.]
Chairwoman Capito. Thank you.
Our next witness is Mr. John Lyons, Chief National Bank
Examiner, Office of the Comptroller of the Currency.
Welcome, Mr. Lyons.

STATEMENT OF JOHN C. LYONS, SENIOR DEPUTY COMPTROLLER, BANK
SUPERVISION POLICY, AND CHIEF NATIONAL BANK EXAMINER, OFFICE OF
THE COMPTROLLER OF THE CURRENCY

Mr. Lyons. Thank you.
Chairwoman Capito, Ranking Member Maloney, Chairwoman
Biggert, Ranking Member Gutierrez, and members of the
subcommittee, I appreciate the opportunity to discuss the
proposed capital rules issued by the Federal banking agencies
and their potential impact on the industry.
We have received extensive comments on the proposals from
banks of all sizes. In response to the concerns raised by
commenters, we announced earlier this month that we will delay
the January 1st effective date.
We are especially mindful of the concerns the community
bankers have raised about the potential burden and the impact
these rules could have on their institutions.
Our goal is simple: to improve the safety and soundness of
our Nation's banking system by ensuring that banks of all sizes
have sufficient capital to weather adverse conditions and
unforeseen losses.
Strong capital plays a vital role in promoting financial
stability and moderating downturns by facilitating banks'
capacity to lend. During the recent cycle, the banks that were
best able to meet the credit needs of their customers and
communities were those with strong capital bases. This
underscores the principle that higher capital standards that
apply to all banks is essential to the financial strength of
the industry and our Nation's economy.
Capital rules also need to reflect risks appropriately. And
so, under the proposals, riskier loans, such as certain types
of nontraditional mortgages, would require more capital. We
believe the proposals reinforce the key objectives of promoting
financial stability and requiring higher capital for riskier
firms and activities.
The June rulemaking package consists of three notices of
proposed rulemakings. Each NPR calibrates requirements to the
size and riskiness of institutions so the larger banks will
hold more capital and meet stricter standards than smaller
banks. These are not one-size-fits-all regulations.
The first proposal introduces a new measure for regulatory
capital called common equity Tier 1 and two new capital
buffers: a capital conservation buffer that would apply to all
banks; and a countercyclical buffer that would apply only to
the largest institutions.
For community banks, this would result in a common equity
Tier 1 requirement of 7 percent of risk-weighted assets. For
large, internationally active banks, this requirement could be
as high as 13 percent when combined with a SIFI surcharge that
is being considered internationally.
The second proposal, the Standardized Approach NPR, would
modify certain risk-weighting so that riskier loans and
activities require more capital. Here, two distinctions are
made between small and large banks as certain provisions of the
NPR, such as those related to securitization and credit risk
mitigation, would have little or no application to most
community banks.
The third proposal, the Advanced Approaches NPR, applies
only to the largest internationally active institutions and
does not affect community banks.
To reduce possible adverse effects, especially for
community banks that have less access to capital market sources
of capital, the proposals include lengthy transition provisions
and delays in effective dates.
Our preliminary assessment is that many community banks
hold capital well above the existing and the proposed
regulatory minimums. Nevertheless, we took steps to maximize
opportunities for community bankers to learn about and comment
on the proposals. These steps included short summaries aimed at
community banks, extensive outreach with community bankers, and
a tool to help them assess the impact of the proposals.
While we have received comments on many issues, three
overarching concerns have been raised. First, many have cited
the complexity of the rules. Community bankers, in particular,
have questioned whether the proposals should even apply to
them.
Second, many have raised concerns about including
unrealized losses and gains and available-for-sale debt
securities and regulatory capital and the volatility that could
result in capital levels and other limits tied to regulatory
capital, such as legal lending limits.
Third, bankers have expressed concerns about their
recordkeeping burdens resulting from the proposed use of loan-
to-value measures for residential mortgages and the higher
risk-weightings that would be assigned to balloon residential
mortgages.
As we consider these issues, we will continue to look for
ways to reduce burden and complexity while maintaining our key
objectives of raising the quantity and quality of capital and
matching capital to risk. These enhancements will lead to a
stronger, more stable financial system.
I appreciate your interest in this matter and would be
happy to answer your questions.
[The prepared statement of Senior Deputy Comptroller Lyons
can be found on page 248 of the appendix.]
Chairwoman Capito. I thank the gentleman.
I will now yield to Mr. Fincher to introduce our next
witness.
Mr. Fincher. Thank you, Madam Chairwoman.
It is my honor to introduce Mr. Greg Gonzales, commissioner
of the Tennessee Department of Financial Institutions.
Commissioner Gonzales is a native of Cookeville, Tennessee,
and received his law degree at the University of Tennessee in
1984. Commissioner Gonzales has served at the Tennessee
Department of Financial Institutions since 1986 and was
appointed to the position of commissioner in 2005.
In his position with the department, Commissioner Gonzales
is the chief regulatory officer of Tennessee's 157 banks, 101
credit unions, 8 trust companies, and hundreds of other
financial service companies. In 2011, Mr. Gonzales was
reappointed to his position by Tennessee Governor Bill Haslam.
Commissioner Gonzales is here before us this morning
representing both the citizens of Tennessee and as chairman of
the Conference of State Bank Supervisors.
It has been a privilege to get to know Commissioner
Gonzales and his staff. His office is a great resource to me
and my staff as this committee works on issues, such as Basel
III, that impact financial institutions across all of our
congressional districts.
I am pleased the committee invited Mr. Gonzales to testify
before this panel today, and I look forward to his testimony.
Chairwoman Capito. Thank you.
Welcome, Mr. Gonzales.

STATEMENT OF GREG GONZALES, COMMISSIONER, TENNESSEE DEPARTMENT
OF FINANCIAL INSTITUTIONS, ON BEHALF OF THE CONFERENCE OF STATE
BANK SUPERVISORS (CSBS)

Mr. Gonzales. Good morning, Chairwoman Capito, Chairwoman
Biggert, Ranking Member Maloney, Ranking Member Gutierrez, and
distinguished members of the subcommittees. Thank you for the
opportunity to testify today on one of the most significant
public policy matters facing the banking industry.
CSBS believes it is in all of our best interests for the
Federal banking agencies to make significant changes to both
the Basel III and the Standardized Approach proposals. These
proposals would introduce sweeping changes to the regulatory
capital framework and would significantly impact banks' credit
allocation decisions and tolerance for risk.
As currently drafted, these proposals would have
significant and negative consequences for local, State, and
national economies. To be clear, State regulators absolutely
support elevated and enhanced capital requirements. However, we
believe Federal banking agencies should address these issues
outside of the Basel III process and should apply Basel III
only to the largest internationally active banks.
We are concerned that the proposals are too complex and
highly reactionary to the latest financial crisis. As
regulators, we must seek an appropriate balance. We must ensure
safety and soundness of the entities we regulate, but we must
also provide a system of supervision that still allows these
entities to serve their communities and achieve economic
success.
Banks must have the possibility of failure in order to have
the opportunity for success. We believe the capital proposals
will inhibit banks' ability to take prudent risk. For most
banks, risk management is based on an inherent understanding of
the underlying credit risk, a deep knowledge of its customer
base, and an alignment between the success of the bank and its
customers.
It is important to remember that many institutions do not
treat loans as anonymous commodities and that these proposed
rules will have real consequences for institutions and
communities.
Back in Tennessee, there is a rural community that has one
small bank. You probably have a similar community in your
district. The bank has been around for about 100 years and
provides a vital channel of credit for its residents, including
mortgages. The president of that bank recently shared with me
that, based on the proposed rules, he will have to limit the
number and volume of loans it can originate.
We owe it to these institutions to ensure the policies we
develop do not unnecessarily impede their ability to serve
their communities. I am hearing this all over my State, and my
colleagues have described it all over the country. We need to
seek policies that focus on improving risk management and
supervision, not on trying to steer individual credit
decisions.
Furthermore, we need to encourage a supervisory process
that prudently supports economic recovery, not policies that
will further suppress the flow of credit or drive business from
the regulated deposit system.
State regulators are also concerned about the lack of
sufficient understanding regarding the impact of these
proposals. We need to clearly understand how these proposals
will change the type of credit available, the manner in which
banks lend, and the full impact on economic recovery and job
growth.
Lawmakers, Federal banking agencies, and State supervisors
share the collective goal of supporting the effort to
strengthen our financial system and generate stability for the
American people. Unfortunately, the Basel III and Standardized
Approach proposals run counter to this goal.
I believe that, with meaningful debate and significant
engagement, we can determine the appropriate approach to
capital policy development for a diverse economy and a diverse
financial system. CSBS stands ready to work with Members of
Congress and our Federal counterparts in seeking the
appropriate regulatory balance.
Thank you for the opportunity to provide my views here
today. I look forward to responding to any questions you may
have.
[The prepared statement of Commissioner Gonzales can be
found on page 198 of the appendix.]
Chairwoman Capito. Thank you, Mr. Gonzales.
Our next witness is Mr. Kevin M. McCarty, insurance
commissioner, Florida Office of Insurance Regulation, on behalf
of the National Association of Insurance Commissioners.
Welcome, Mr. McCarty.

STATEMENT OF KEVIN M. MCCARTY, COMMISSIONER, FLORIDA OFFICE OF
INSURANCE REGULATION, AND PRESIDENT, THE NATIONAL ASSOCIATION
OF INSURANCE COMMISSIONERS (NAIC), ON BEHALF OF NAIC

Mr. McCarty. Thank you, and thank you for the opportunity
to testify today. My name is Kevin McCarty, and I am the
insurance commissioner from the State of Florida. I am also the
president of the National Association of Insurance
Commissioners.
Increasingly complex and global financial institutions pose
challenges for regulators to provide consumers with the
appropriate level of protection while not stifling competition,
innovation, or growth. The NAIC recognizes that certain
insurance groups have chosen to engage in the business of
banking, which could subject them to consolidated supervision
by the Federal Reserve. However, we are concerned that the
current capital proposal appears to apply a one-size-fits-all
bank-centric approach to these institutions, whose banking
activities typically represent only a small portion of their
overall business and overall assets.
The prospect of bank-centric regulatory rules being imposed
on insurance groups is problematic, and it is critical that the
regulatory walls around legal entity insurers that have
successfully protected policyholders for decades not be
jeopardized. Insurance products and insured assets and
liabilities are fundamentally different from banking. Banking
products involve money deposited by customers and are subject
to withdrawal on demand at any time.
Insurance policies involve upfront payments in exchange for
a legal promise to pay benefits upon specific loss-triggering
events in the future. The very nature of insurance
significantly reduces the potential of a run-on-the-bank
scenario. Insurance products, unlike banking products, do not
transform short-term liabilities into longer-term assets. This
is a critical distinction. A key reason many other financial
firms suffered during the financial crisis was that the
duration of assets and liabilities were not matched in a way
that enabled them to fund their liabilities when they became
due.
The national State-based system of insurance regulation was
specifically designed to address the unique nature of insurance
products. The system's fundamental tenet is to protect
policyholders by ensuring the solvency of the insurer and its
ability to pay claims.
My written testimony details the key aspects of our
insurance solvency regulatory framework, including the
licensing process, detailed reporting and disclosure
requirements, conservative accounting standards, continuous
financial analysis, our own risk-based capital system, and a
windows-and-walls approach to group supervision.
It is critical to emphasize that while capital requirements
are important, such requirements alone cannot ensure the safety
and soundness of complex financial institutions. Parallel to
the development of the Basel III rules we are discussing today,
there were some in the international community in favor of
universal global capital standards for insurance groups. We
fear the same overreliance on capital could become a reality in
our sector with no diversity of regulation to mitigate the
wrong incentives or to prevent systemic risk-taking.
The existence of global capital standards in the banking
sector did not prevent the last crisis and did little to
prevent large institutions from becoming larger while chasing
each other off their own fiscal cliff. Overlaying such an
approach on the insurance sector is not likely to yield better
regulation of banks or thrifts owned by insurers and could, in
fact, exacerbate the next crisis.
While the focus of our comment letter on the rules was to
provide technical clarifications on the specific insurance-
related questions, I also want to emphasize our interest in
promoting an open dialogue with the other agencies on this
panel to help them better understand the insurance business
model and our regulatory framework. We believe it is imperative
that in their efforts to regulate thrift and holding companies,
Federal agencies should have all the information necessary to
craft rules appropriate to the risk profiles of the regulated
entities.
To that end, we have provided input on the proposed
definition of separate accounts which may be in conflict with
State law and the treatment of policy loans which may need to
be reevaluated for risk-weighting purposes. We also discuss the
use of risk-based capital for managing underwriting risk, and
the requirements for surplus note reporting, and lay out the
differences between statutory and GAAP accounting.
Of particular concern is the proposed treatment of risk-
based capital (RBC). RBC is a trigger for intervention, not a
minimum standard. Given that insurers typically hold
significantly more capital than RBC trigger levels, the
proposed rule suggests either a misunderstanding of an
insurer's capital or an implication that capital above the
minimum RBC levels is excess and therefore may be available to
support capital deficiencies created by affiliated banks or
thrifts. We strongly object to policyholder funds being used to
subsidize losses of a holding company, bank, or thrift without
insurance regulator approval.
In conclusion, we look forward to sharing our experience
and expertise regulating U.S. insurers with our Federal and
international colleagues, which will assist them in developing
a regulatory approach that appropriately captures the complete
risk profile of an insurance enterprise while respecting
regulatory walls already in place to protect our policyholders.
Thank you again for the opportunity to testify today, and I
look forward to answering your questions.
[The prepared statement of Commissioner McCarty can be
found on page 296 of the appendix.]
Chairwoman Capito. Thank you, Mr. McCarty.
I am now going to recognize myself for 5 minutes to begin
the question portion. This is directed to the three
regulators--the Fed, the OCC, and the FDIC--who are with us
today. I was wondering, have any of your agencies conducted a
cost-benefit analysis? We have heard, and we are going to hear
on the second panel, too, I think, the cost to the
institutions, but a cost-benefit analysis which would ensure
that the new capital requirements achieve that appropriate
balance between safety and soundness and what economic effects
there might be.
I will start with you, Mr. French, from the FDIC.
Mr. French. Thank you. We have conducted various kinds of
analysis. We have done some statutorily required analysis of
the cost of the proposals for small institutions, banks under
$175 million in assets. Those analyses really looked at the
compliance costs. So--
Chairwoman Capito. And briefly, what did that show?
Mr. French. I think we concluded that there would be
substantial, as measured by a percentage of non-interest
income, a substantial cost, particularly for the implementation
of a standardized approach or a large number of small
institutions. Having said that, that is an initial analysis
that we are getting comments on and I think we are getting a
lot better appreciation through the 2,000 comment letters of
more specific aspects of different aspects of the proposals.
In terms of the economics of lending and growth and all
that, there has also been a lot of work done that the agencies
participated in with the Basel Committee, looking at the effect
of higher capital requirements. I think the general consensus
there, as Mr. Gibson outlined, is that there is a substantial
benefit to the economy from reducing the incidence of banking
crises, and that outweighs the sort of transitional cost of
getting the industry to a higher level, especially here in the
United States where banks are already at a fairly high level of
capital.
Chairwoman Capito. Mr. Gibson, is there a cost-benefit
analysis at the Fed?
Mr. Gibson. I don't have too much to add to what Mr. French
said. As he said, we did do an analysis of the impact of the
proposal which looked at the macroeconomic benefits of higher
capital, weighed against the costs. We did find that the
benefits outweighed the costs on the macroeconomic level.
Chairwoman Capito. Was this at institutions of various
sizes or was it the--
Mr. Gibson. This was an aggregate economy-wide analysis. We
also looked at the impact on different size categories of
banks. As I mentioned in my remarks, many banks already meet
the higher capital requirements. Large banks have built a lot
of capital in the last few years and will continue to build
capital to meet the proposed requirements. We estimate that 90
percent of community banks already meet the higher capital
requirements.
I think it is important to say, as Mr. French said in his
remarks, that we are learning a lot from the comment process
about the compliance costs of everything that is contained in
the proposal. So beyond just meeting the capital requirements,
those additional costs are something where we are learning a
lot from the comments and we will take that into account going
forward as we work toward the final rule.
Chairwoman Capito. Mr. Lyons?
Mr. Lyons. I really don't have much to add. All three
agencies did a similar type analysis and we all came up with
similar conclusions in terms of impact to the industry and to
the broader economy. And I would just reinforce the fact that
as we go through the comment period, we are receiving
additional information from the banks. We will include that in
a further analysis before we issue any type of final rule.
Chairwoman Capito. I guess it is a little bit of a
disconnect for me that on the front side--since I know that you
all reach out to your institutions quite regularly--these
considerations couldn't have come up as a surprise to you in
the comment period. But that is just a comment on my part.
The other thing I would like to ask quickly is, after the
first of the year we are going to be getting the definition of
a QM and it is going to have a significant impact on every
financial institution that writes mortgages. And part of the
Basel III, as I understand it, the residential mortgage portion
of a bank's portfolio will have significant influence on how
you calculate the risk. Have you taken into consideration how
the definition of a QM could influence the standards that you
are requiring in these new capital standards? Mr. French, I
will ask you first.
Mr. French. We certainly looked at the proposed QM
standards as we were developing those mortgage proposals and
these rules. And having said that, we have gotten sort of the
message from the commenters that the QM rules are still
uncertain, no one knows what their final form will be.
Chairwoman Capito. Right.
Mr. French. And people are very concerned about how these
two will interact. So I think those are very significant
observations that we have to look at as we develop how to
proceed with these rules. We recognize the close linkage and
the importance and the potential interactions that have to be
taken into account.
Chairwoman Capito. Does anybody else have a comment on
that?
I would urge great caution here because one of the things
that we have all heard about from our bankers large and small
is that if the QM is written too narrowly or not to the
satisfaction of compliance officers and regulators, the caution
that will be exercised by the financial institutions could
really hurt the housing market and hurt those who may be on the
bubble a little bit in terms of whether they can secure a
mortgage.
And so, I think this is an exceedingly important topic and
hopefully--I am glad to know you are looking at it closely. I
know it is very complicated, but at the same time, it is
extremely important.
I recognize Mrs. Maloney for 5 minutes.
Mrs. Maloney. Thank you very much.
I would like to ask Mr. Gibson from the Federal Reserve
about including regional and community banks in Basel III. Our
banking system is very different from Europe and Japan and
China, which is very much dominated by large global banks. We
have large global banks, but we also have community banks. And
in the financial crisis, I would say they were the ones who
continued to provide credit to our communities and to respond
to localities. Many have expressed concern that the way it is
drafted now, it will just end the existence of them, and they
will be forced to merge and everything else, which I don't
think is a good objective.
So what is the objective of applying it to the smaller
banks that are not involved in any way in international
commerce? If they want to get involved, if they want to be part
of the global community, then you could say they have to have
these standards. But if they are serving a community and are
only in the community, why in the world are we putting them
into the same capital requirements? We do have the capital
requirements of Dodd-Frank that apply to them. So what policy
objective are we meeting by sweeping in the local community and
small regional banks?
Mr. Gibson. I would agree that community banks did and
continue to play a vital role in their communities. And it is
certainly true that it was the large banks that had the most
significant problems during the crisis. As a result, our reform
package is significantly aimed at large banks and there are
many requirements, both in this proposal and in other areas,
that only apply to large banks. For example, our stress-testing
regime only applies to large banks, and enhanced prudential
standards under Section 165 of the Dodd-Frank Act only apply to
large banks. Higher capital charges for trading activities and,
as Mr. Lyons mentioned, eventually a capital surcharge for
systemically important banks all will only apply to large
banks.
Now, it is true that some of the provisions in the capital
proposal do apply to all banks. Some of that is because of the
requirements of the Dodd-Frank Act that apply to all banks, and
some of that is an effort to raise the quality and quantity of
capital for all banks. We think that strong capital is
important. We are sensitive to the comments of community banks,
and there are many aspects of the proposal where we have
learned a lot from the comments about the details of where
there might be some impacts that we need to look at, but
stronger quality and quantity of capital for all banks is an
important reform.
Mrs. Maloney. Most community banks are already well-
capitalized, and they are objecting to being put into the whole
rule. If they want to opt in, I would say let them opt in. But
if they don't and they are just serving the community, I would
let them continue.
Your rules also have a dramatic effect on capital
requirements, and by extension the pricing of loans, because of
the new method of applying risk weights to specific asset
classes, and the Basel rules allow the internationally large
complex banks to create their own methods of coming up and
their own models. But you are having the regional community
banks that compete against each other in local markets, they
must follow the standard approach. So I am questioning the
reasoning for that. And also I would say that in Dodd-Frank, we
certainly intended for the regulators to notice the difference
between banks and insurance companies. And yet your approach
seems to create a holistic floor rather than an asset-by-asset
minimum requirement or take into considerations the differences
between insurance and international banking, which have been
successful in our country. Why again put this added burden?
Mr. Gibson. In the Dodd-Frank Act, Congress did direct us
to set consolidated capital requirements for bank holding
companies and savings and loan holding companies, including the
ones that choose to own an insurance company. You are right
that the requirements of the Collins Amendment in the Dodd-
Frank Act do require that the bank capital requirements serve
as a floor for the holding company requirements. That was a
significant constraint on what was in our proposal. But also,
on your first comment about the differences between Advanced
Approaches where banks are estimating some of the parameters
compared with the Standardized Approach, there is a floor now
under the Collins Amendment that will prevent the capital
requirements for large banks falling below what would be the
generally applicable capital requirements, which, for example,
could be the Standardized Approach.
Mrs. Maloney. My time has expired. Thank you.
Chairwoman Capito. Mrs. Biggert for 5 minutes.
Chairwoman Biggert. Thank you, Madam Chairwoman. Mr.
Gibson--and this is just a yes-or-no question--isn't the Basel
III a framework that regulators of each country participating
in the agreement are required to implement through more
specific regulations? In other words, is there some flexibility
for the regulators of each country to conform to the framework
through regulations that are unique to each country?
Mr. Gibson. Yes.
Chairwoman Biggert. Okay. Wouldn't it be prudent of our
Federal banking regulators to provide the same kind of
accommodation and courtesy to our financial institutions, such
as insurance companies and State insurance regulators, within
the Basel III rules? That is a yes or no, again.
Mr. Gibson. Yes, we take the Basel agreements and we
implement them according to our domestic circumstances.
Chairwoman Biggert. Is there accommodation and courtesy to
the financial institutions or the insurance companies and State
insurance regulators?
Mr. Gibson. Yes.
Chairwoman Biggert. Yes. Okay.
Mr. Gibson. We tailor it to our domestic circumstances.
Chairwoman Biggert. All right. Are your counterparts in
Europe developing or applying Basel III, like regulations to
insurance companies?
Mr. Gibson. Mr. McCarty probably knows more about what the
insurance regulators in Europe are doing. But for us, we are
required to impose consolidated capital requirements on bank
holding companies and savings and loan holding companies, some
of which are owning insurance companies.
Chairwoman Biggert. Then, I will ask Mr. McCarty. Are the
counterparts in Europe developing or applying Basel III, like
regulations to insurance companies?
Mr. McCarty. Europeans are in the process of adopting
Solvency II, which provides for a consolidated look at the
group. The companies are allowed to use internal modeling to
determine their target capital standards, which is to
contemplate all the risks, which is very, very different than
the U.S. regulatory model, which is based upon the individual
legal entity, and we look at walling off that entity, whereas
the European model contemplated under Solvency II looks at
group capital determined by an internal model.
Chairwoman Biggert. Okay. Then a fundamental objective of
Dodd-Frank was to reduce systemic risk, and I am concerned that
the Fed's Basel III proposal would result in bank clearing
members having to hold--that is, like, the Merc--having to hold
significantly more capital when their customers use less risky
instruments, which seems just the opposite of the way it should
be. This backwards incentive could make it more expensive to
use exchange traded futures and customized swaps. Shouldn't the
rule be designed to encourage the use of lower risk profile
products and not discourage it?
Mr. Gibson. It is an important aspect of regulatory reform
to encourage central clearing of OTC derivatives, and part of
the Basel III accord is to make sure that capital incentives
are in place to do that. We have received a lot of comments on
that aspect of our proposal and we are certainly looking at
those to make sure we get the incentives in favor of central
clearing.
Chairwoman Biggert. In my opening statement, I asked if the
Federal Reserve is committed to improving the Basel III rules.
Mr. Gibson. Yes.
Chairwoman Biggert. Yes. How long is all this going to
take?
Mr. Gibson. We received a lot of comments. We extended the
comment period longer than it was originally open for to make
sure that many interested parties had a chance to comment. At
this point, we are working through the comments and working as
quickly as possible towards a final rule, but I wouldn't want
to give a prediction of a specific date.
Chairwoman Biggert. You said there is a lot of comments. Is
that 1,000, 2,000, 5,000?
Mr. Gibson. We counted around 2,500.
Chairwoman Biggert. Twenty-five hundred. I yield back.
Chairwoman Capito. Ms. Waters for 5 minutes for questions.
Ms. Waters. Thank you very much, Madam Chairwoman.
A question for Mr. French of the FDIC. One area that I am
particularly focused on is the proposed risk weights on
mortgages, particularly as they relate to small and community
banks and community development financial institutions. We all
recognize that imprudent mortgage lending was at the center of
the last financial crisis. But by and large, small and
community banks as well as CDFIs didn't engage in the kind of
activity that really created systemic risk in our economy in
2008. Their lending was much more likely to focus on meeting
the long-term needs of the borrower and facilitating a lasting
customer relationship. We have also seen that small and
community banks have been much better in terms of providing
loan modifications to borrowers than some of the larger
mortgage servicing operations.
So with that said, I want to ask about the proposed changes
in risk weights on mortgages under the Standardized Approach as
it relates to small and community banks and CDFIs. As you move
towards the finalized rule, how are you acknowledging the
unique business models of these institutions in the mortgage
lending space?
Mr. French. Congresswoman, we have heard these comments
throughout 2012. Ever since we proposed the rule, we have met
with many, many community banking groups face to face and CDFI
bankers as well. So what we are hearing is that the rules will
significantly change the economics of the business model and
affect loans that they have been making successfully for many
years in ways that they don't think they will be able to
continue.
That is what we are hearing. That concerns us greatly. So
we are in a position here where I cannot prejudge what the
outcome of the rulemaking process would be, but we do intend to
make changes to the rule in response to comments, and this is
certainly one of the areas that is of great importance and that
we are looking at very carefully with our fellow--
Ms. Waters. Thank you very much.
Mr. Gonzales, can you weigh in on this and elaborate on
what you said in your testimony about how mortgage
securitization does not encompass the entirety of the mortgage
lending industry? Further, what do you think the impact of the
Standardized Approach would be on the underserved areas?
Mr. Gonzales. In my discussions with community banks in
Tennessee, a number of them are making the 5- or 7-year
adjustable rate mortgage, maybe a balloon payment. Those are
bread and butter products that community banks, just as you
have alluded to, have been making for a long time, and have
done it well for many, many years. I have had some of these
institutions tell me that--in fact the one that I alluded to in
my opening statement asked me, what am I going to tell some of
my customers when I have to pull back in this area because the
risk-weighting is basically telling community banks we don't
want you in this area? It is not giving enough differentiation
between the largest institutions in this country and the
smallest. So that gives us a great concern because some of
these areas that I am talking about are basically served by the
community bank that is located there, and if it is not able to
do the work, then there are big questions as to who is going to
be served.
Ms. Waters. Mr. Gonzales, help me to understand the
definition of a community bank. Some have proposed that the
definition extends to banks with upwards of $50 billion in
assets. This strikes me as a little high. How can we strike the
right balance?
Mr. Gonzales. In Tennessee, most of our institutions are
less than a billion. We do have some that are above which have
the characteristics of a community bank in their decision-
making and who they serve. So there are certain situations
where there are institutions of some size that do have the
characteristics of a community bank. I don't have an absolute
definition for you, but we are relying on them heavily in my
State and in States all over this country, and we certainly
need to deal with these rules in a way that allow them to go
forward in a positive way.
Ms. Waters. What about any of the other panelists, do you
have any thoughts about what a community bank, how it should be
defined, and is $50 billion too high? What is the right
balance? Anybody?
Mr. Gibson. I would agree with Mr. Gonzales that it is
important to look at the characteristic of the bank in addition
to just the size. Internally, we have a cut-off around $10
billion, but depending on the characteristics of the bank,
there are certainly banks larger than $10 billion that behave a
lot like community banks.
Ms. Waters. Thank you, Madam Chairwoman. I yield back.
Chairwoman Capito. Thank you.
Mr. Renacci for 5 minutes.
Mr. Renacci. Thank you, Madam Chairwoman. And I want to
thank the witnesses for being here.
I am going to start, but this is more of a comment. I know
you have heard a lot from many Members, my colleagues here
about community banks, and I know many of you testified in
front of the Senate that the vast majority of community banks
will already be compliant with the capital rules and won't
suffer any ill effects. I think you are hearing a lot of those
comments from all of us, that community banks are very
important to the communities and those that they serve that and
we need to make sure that, just as you have stated, they will
not suffer any ill effects. We are hoping that is strongly
considered as you move forward.
But I want to change the discussion a little bit on the
impact the proposal will have on the economy, my constituents,
and really credit in the marketplace. Obviously, as the cost of
doing business goes up, consumers will end up footing the bill
or being left out of the market altogether. What studies have
you conducted that specifically address the impact on
consumers? What will be the impact of Basel III on mortgage
lending? Have you determined what the additional costs of Basel
III will be for consumers with lower credit scores or FICA
scores? And have your agencies undertaken a comprehensive study
of the banks they supervise to estimate the compliance costs of
this proposal? Let's start with Mr. Gibson.
Mr. Gibson. We have estimated some of the elements of the
impact that you talked about. As I said earlier, we compared
the benefits of higher quality and quantity of capital in terms
of a stronger financial system, fewer financial crises, and
compared that with the costs in terms of higher costs of credit
and growth of GDP. We determined--this was the joint analysis
with the Basel Committee--that the benefits outweighed the
costs, but in addition to some of the elements that you
mentioned, we have been getting a lot more detailed feedback
through the comment process where we are learning a lot about
impacts of different parts of the proposal. And those are very
helpful and useful as we work towards the final proposal. We
are definitely taking those comments into account and we want
to make sure we balance the impact against the benefits of a
safer and stronger financial system.
Mr. Renacci. Mr. French?
Mr. French. I don't think I have a great deal to add to
that. You mentioned the area of mortgages in your question and
I think that is a particular example where the goal is to be
more risk sensitive to get more capital for some of the
alternative structures, but then when you look at the comment
letters you are seeing a lot of useful information about areas
where we might need to reconsider. So I think that is a good
example of what Mr. Gibson is talking about.
Mr. Renacci. Mr. Gonzales, you say in your testimony you
believe that there--we do not believe there is sufficient
understanding of impact these proposals would have on the
industry and credit availability. Do you agree with that
comment, because that is pretty much what I am trying to hit
on.
Mr. Gonzales. I don't think there is enough information to
determine the impact of these rules. We certainly know that,
for instance, the FDIC, as I think has been mentioned, has
engaged in a study of $175 million asset institutions and less
and reflected a significant impact on those institutions. So if
there is additional work that is done on the rest of the
industry, it may prove that there is also troublesome
information as far as the impact on additional institutions in
this country from these rules.
Mr. Renacci. Mr. Lyons, do you have anything to add?
Mr. Lyons. As I said earlier, the three Federal agencies
did a very similar analysis and came up with similar
conclusions. And as additional comments come in we will take
these into consideration as we do additional analysis.
Mr. Renacci. Thank you. This may have been answered before,
but I guess I didn't hear the answer. When it comes to
insurance companies, they have traditionally been regulated at
the State level, yet the proposed rule would apply to holding
companies that own insurance companies. I understand that dual
oversight can exist, but how will disputes between Federal and
State regulators be reconciled? Anyone want to--
Mr. Gibson. We are currently the supervisor of bank holding
companies and now, after the Dodd-Frank Act, of savings and
loan holding companies, so we have a lot of experience working
with functional regulators in banking like the OCC or the FDIC,
as well as with insurance regulators because some bank holding
companies have owned insurance companies before. We focus on
looking at the consolidated company and capital requirements at
the highest level of the consolidated firm. And in the case of
insurance, the State regulator sets the capital requirement for
the insurance operating company that is at the State level.
Mr. Renacci. So how would disputes be reconciled, I guess,
is who would have the--
Mr. Gibson. Each regulator has authority over their own
piece of it. In cases where it is something related to the
holding company, we would have the authority and we would
consult with the State regulator. And I assume in cases where
it is the State-regulated insurance company that is at issue,
the State insurance regulator has the authority and would use
it appropriately.
Chairwoman Capito. The gentlemen's time has expired. Mr.
Watt from North Carolina for 5 minutes.
Mr. Watt. Thank you, Madam Chairwoman. And I thank the
Chairs for convening this hearing. Let me say to the Federal
regulators that I share a number of the concerns that have been
raised by my colleagues already about community banks. Although
I am aware of a number of small and community banks that went
out of business as a result of the economic downturn or had to
be reorganized or taken over by others, they are unique to our
communities, and to the extent we can accommodate them, we need
to be trying to do that. And I am happy to hear that you all
have heard the comments and are taking those into account as
you move toward adopting the final rule. So I won't belabor
that. I share the concerns and it sounds to me like you are
taking those concerns into account and will try to address
those.
I do want to address an issue that has been raised by one
of my local banks, which is what appears to me to be a
legitimate concern about the treatment of defined benefit
pension plans in the calculation of Tier 1 capital. This
particular bank, which I won't identify, has a defined benefit
plan and is in the unique position, I guess, that it is
overfunded. And they apparently have gotten an ambiguous
response, or it is ambiguous in the rule, in the proposed rule
whether that excess capital or excess funding would be allowed
to be counted toward their capital. So if you all could comment
on whether you can make that explicit or whether, if you can't
make it explicit, there is some reason that it shouldn't be
explicit, that would be helpful to me in addressing the concern
that they have raised.
Mr. French. We have certainly heard about this issue. From
a safety and soundness perspective, the overall goal was to
have assets that can absorb loss. So in this particular case of
the overfunded pension fund asset, the question is, is this
reflective of sort of estimates of what is out there in the
future. So there is the safety and soundness case, it may not
be an asset, but is as reliable as other assets. So that is the
reason for the proposal to deduct it.
We have also heard comments from a number of banks about
their concern that this is going to disincent them from
offering pension plans and that could have an unintended
consequence. So we are keenly aware of the issue.
Mr. Watt. But don't you monitor these pension plans and the
regulators don't monitor them to determine, by your own
standards, whether they are overfunded or underfunded, and
couldn't that overfunding be counted toward capital until there
is some problem with it and then ask them to build up more
capital?
Mr. French. That would be another way to address it and we
would be happy to take that thought back as we look at the
final rule. So like I said, it is a trade-off. We have the
concern about the reliability of the asset on the one hand, and
on the other hand, we have the concern about disincentives to
offering these pension plans. I think the way the rules work,
it actually is not so much of an issue for insured banks as it
is for bank holding companies. But it is important to provide
this clarity and I think you raise an important point.
Mr. Watt. This bank happens to be an insured bank, so it
obviously is an issue for them. It is of particular concern to
them because they think they are fairly substantially
overfunded and really want to stay overfunded, which is, I
think, the prudent and wise thing to do. You are either going
to disincentivize people to have defined benefit plans or you
are going to disincentivize them to overfund if you don't
address this issue, it seems to me. And I hope that you will
take this comment back and be direct about how you plan to
address it, because ambivalence in this area or a standard that
is not clear is not good either. So I appreciate it.
And I yield back, Madam Chairwoman.
Chairwoman Capito. The gentleman yields back. Mr. Garrett
for 5 minutes for questions.
Mr. Garrett. I thank the Chair for the hearing, and I thank
the witnesses as well. I apologize--I had to step out with some
constituents--if one of my questions may be redundant. Let me
start, though, with just a sentence or two from a speech given
back in September by Thomas Hoenig, Director of the FDIC. He
said this: ``In judging the role of capital it is useful to
look back at bank capital levels in the United States before
the presence of our modern safety net. Prior to the founding of
it, things were a lot simpler.'' And then he said, ``Going
forward, how might we better assess capital adequacy?'' He
said, ``Experience suggests that to be useful capital must be
simple, understandable and enforceable. It should reflect the
firm's ability to absorb loss in good times and in crisis. It
should be one that the public and the shareholders can
understand, that directors can monitor, that management cannot
easily game, and that bank supervisors can enforce. An
effective capital rule should result in a bank having capital
that approximates what the market would require without the
safety net in place.''
Not that I claim to be an expert on Basel III, I guess I
question whether what we are looking at fits those
requirements--simple, understandable, enforceable, and
approximate what the market would require without the safety
net in place. So let's get into parts of it, let's get into the
issue of risk weighing and some of the aspects on that. And I
throw this open to the panel. Is there any underlying data that
was used or would be used to calibrate the risk weights for the
various proposals? I know we had some discussion with some of
the folks in the office on some of this. We are hearing that,
as proposed, the risk-weighting may not accurately reflect true
risk, riskiness of lending exposures, and in particular
mortgages. And if that is the case, then won't failure to
accurately calibrate the capital with risk results in a bank
reducing overall lending going forward? So a two-part question.
Anyone? Was it done and what effect will it have?
Mr. Gibson. With respect to the proposed risk weights on
mortgages, they were calibrated to the types of mortgage
products where in the aggregate we saw much greater losses
during the financial crisis. What we have learned from the
comments, especially from the community banks, is that the
experience at community banks may have been different than the
experience at large banks in terms of what types of products
turned out to be the riskiest. We have gotten a lot of comments
on the particular risk factors we put into the risk weight
proposal and we are going to look at those comments as we go
forward.
Mr. Garrett. Which is one of the aspects I could get into
if I had more time, is to say this is always retrospective,
looking back to see what the last crisis was as opposed to
looking forward as opposed to what the markets would be, which
would be constantly looking forward, which is not being done
here. So do you also look at what the combination of that risk
weights that you would apply to them have on with all the other
regulations that we are imposing and whether or not that will
hinder, it will hinder or help, probably hinder, our ability to
reduce the government's footprint or presence in the housing
financial market?
Mr. French. You raise an important question about the
interaction of the various parts of the Dodd-Frank Act with
these rules. And in the case of mortgages, that is an extremely
important issue because, as you know, we have the Qualified
Mortgage (QM) rules which will come. We don't know what they
are yet. The Qualified Residential Mortgage (QRM) concept for
securitization. Risk retention also has to be developed, along
with various other assorted rules about appraisals and other
things.
Mr. Garrett. Is that something you sit and consider?
Mr. French. Absolutely. The comment letters are very clear
on this, that there is a concern about the interaction, how
this is all going to fit together. And that is one of the
important things we have to deal with before we make decisions
about how to proceed on those mortgage.
Mr. Garrett. I have a quote here from Mark Zandi. In
Moody's Analytic, he said that the current rules that you are
referring to--not yours, rules--would add 1 to 4 percentage
points spending on the parameters of the mortgages being
originated and the discount rates apply, and the rule as
written could significantly impede the return of private
securitization markets and permanently cement the government's
role in housing. And so as I understand it, some of the rules
that are being considered here as far as basically treating
guaranteed assets of those guaranteed by Fannie Mae and Freddie
Mac having a better rating risk factor than the private
securitization market would once again just put the
government's role in here and, as he puts it, cement us
permanently in this marketplace and the private label market
out of a situation. Is that something you are going to consider
before final rules?
Mr. French. The issues about the role of the government and
mortgage finance are certainly very important. I think I am not
in a position to respond on how that is going to play out going
forward. I think we have some concrete proposals about what the
risk weight should be on the various assets that typical
community banks hold, and we are certainly going to consider
how those interact with the other Dodd-Frank provisions before
we make any decisions.
Mr. Garrett. That is the point, thanks a lot.
Chairwoman Capito. Thank you. The gentleman's time has
expired. Mr. Miller for 5 minutes.
Mr. Miller of North Carolina. Thank you, Madam Chairwoman.
And, Madam Chairwoman, I wanted to compliment you on the
tasteful color of your jacket today.
Mr. Gibson, just in the last few weeks, Dan Tarullo, a Fed
Governor, and Bill Dudley, President of the New York Fed, have
said that the biggest banks are still too-big-to-fail. If they
did fail they would collapse in a disorderly heap with dire
consequences for the financial system and for the economy as a
whole. And as a result of that, there is a widespread
assumption in the market that the government would not allow
that to happen, and they can borrow money more cheaply as a
result. Do you agree with that and do you agree that is an
unfair subsidy that the biggest banks get that gives them an
advantage over the ``small-enough-to-fail'' banks that Mr.
Gonzales supervises?
Mr. Gibson. As I said earlier, we are focusing on the whole
regulatory reform program, many elements are aimed at the
largest banks. We require the largest banks to go through
stress testing. With the Basel Committee, we are working on a
capital surcharge for large banks. The ultimate goal of that is
to even out the playing field so that the systemic impact that
a large bank failure would have on the rest of the economy is
internalized by them through things like higher capital.
Mr. Miller of North Carolina. One of the ways that the
Dodd-Frank Act, that Congress tried to deal with that, working
closely with regulators, particularly the FDIC, was the living
wills requirement. The FDIC and the Fed have now completed
their first round of living wills, and Mr. Dudley in his speech
in just the last few days, he said that too-big-to-fail is an
unacceptable regime. But he also described the first round of
living wills as the beginning of an iterative process, it
confirmed that we are a long way from the desired situation in
which large complex firms should be allowed to go bankrupt
without major disruptions to the financial system and large
costs to society. Significant changes in structure in an
organization will ultimately be required for this to happen,
and that the initial exercises had given the regulators a
better understanding.
It seems a very complacent approach to think we can go
through round after round after round of this to get it right,
that the regulators can make polite suggestions, and the
institutions subject to the living wills requirement can make
tweaking changes, and at some point in the future, we will have
credible resolution plans that won't collapse the entire
economy.
The economist Simon Johnson said that he concluded from Mr.
Dudley's remarks that the living wills process was ``a sham,
meaningless boilerplate and box checking.'' With still a $67
trillion shadow banking system, a lot of uncertainties in our
financial system, how long is it going to take to have credible
living wills, credible resolution plans? And why not now? That
was to you, Mr. Gibson, since you work for the Fed.
Mr. Gibson. I would agree with the thrust of your
comments--I would agree with President Dudley's comments that
the living will process is an iterative process because we are
learning from the first round of living wills, we are going to
go back to the institutions with feedback. It is going to be a
repeated process. This is something that is completely new for
us. We are working jointly with the FDIC, building a new
process to use the living wills to make large firms resolvable.
And, frankly, it is the first time we are doing this particular
type of exercise in this level of detail. We are getting
something going that is new for us and it will take a little
time. But I agree with you it is urgent to get it going and it
is urgent to get it right.
Mr. Miller of North Carolina. Yes, ``ultimately'' is not a
particularly harsh deadline; that seems to be kind of an
indulgent deadline, to use your term. Can you give us some idea
how long it is going to take before we can feel reassured that
there are resolution plans in place that if one of these
enormous banks that are too-big-to-fail now gets in trouble, it
won't collapse in a disorderly heap, that it will be resolved
in a way that doesn't bring down the financial system and the
economy with them?
Mr. Gibson. So we have new tools, the FDIC has a new tool,
the Orderly Liquidation Authority (OLA), that could be used in
the event of disorderly stress at one of the largest companies.
But the living will process is designed as an annual process.
So there is intended to be improvement. We do have to get to
the goal of being fully confident that those large institution
are resolvable. We haven't put a deadline on that, but it is
important to get there and to get there quickly. I would agree
with that.
Chairwoman Capito. The gentleman's time has expired.
Mr. Miller?
Mr. Miller of California. Thank you, Madam Chairwoman.
I guess it is just time to pick on you, Mr. Gibson, so I
have a couple of questions for you, and they are not really
picking, but they are focused on you. When the United States
works to implement the Basel Accord, do we implement exactly
like the other countries do or do we customize the rules to our
banking structure so to outcomes equivalent to the Basel Accord
framework? And do you agree the United States should customize
them to an equivalent?
Mr. Gibson. We do customize it, yes.
Mr. Miller of California. So, yes, good. Under the proposed
rule, the bank-centric standards will be detrimental to
insurance companies. And I introduced the Collins Amendment
language to that, that he introduced in the Senate which really
clarifies that issue, and wouldn't it be more appropriate to
apply insurance-specific capital standard to insurance
companies so long as they are equivalent the capture risked as
the banks do?
Mr. Gibson. What we are doing in our proposal as required
by the Dodd-Frank Act is to impose consolidated capital
requirements at the holding company level.
Mr. Miller of California. We are trying to capture
equivalent risk as bank standards, isn't that the goal?
Mr. Gibson. What we have proposed is that if the same asset
is held by an insurance subsidiary of a depository institution,
a holding company or a bank subsidiary, that we would have the
same risk weight on that.
Mr. Miller of California. Yes. What I am saying is you are
going to appropriately apply insurance-specific capital
standards to the insurance companies so that they are equally
capturing the risk as banks would do, but they are different,
but you are equally going to capture the risk, that is the
goal, right?
Mr. Gibson. The goal is to capture the risks. I wouldn't
say it is equal because, for example, insurance companies have
unique risks associated with insurance underwriting.
Mr. Miller of California. That is what I am saying, they
are different. Different risk and different standards, but you
want to capture the risk equally based on their given
standards.
Mr. Gibson. Yes, the standards are different for insurance
underwriting risk.
Mr. Miller of California. That was a concern I had. Is it
true that the types of assets that the insurance typically
holds, such as long-term corporate bonds, are assigned to high
risk-weighting under the proposed capital standards?
Mr. Gibson. The risk rates are different according to the
riskiness of the asset.
Mr. Miller of California. Are long-term corporate bonds
assigned a higher risk?
Mr. Gibson. Higher compared to what?
Mr. Miller of California. Under your weighting standards
that you are proposing.
Mr. Gibson. The risk weights are based on the riskiness of
the asset.
Mr. Miller of California. How would you categorize a long-
term corporate bond?
Mr. Gibson. Riskier than a Treasury bond.
Mr. Miller of California. That is what I am saying. They
are categorized as a high risk. I am hearing these things, but
I want to make sure we get them on the record, and that is what
we are doing so we truly understand it. And because of the
proposed rule, won't an insurer that holds long-term corporate
bonds, which we are talking about, or their assets with high
risk-weighting, have a lower capital ratio as a consequence of
holding these assets?
Mr. Gibson. If the riskiness of the assets goes up, then
the capital ratio goes down.
Mr. Miller of California. So that is a yes?
Mr. Gibson. Yes, that is a mechanical--
Mr. Miller of California. That is what I am trying to get
to, those are some concerns we are having here. Does it then
follow that the insurer, in order to meet the capital ratios,
may have to divest certain assets with high risk-weighting such
as those long-term corporate bonds again?
Mr. Gibson. What we have proposed is a series of risk
weights that are--
Mr. Miller of California. And those are weighted higher and
so they are going to be considered riskier at the end, they
might have to divest themselves of those assets to drop to a
better standard.
Mr. Gibson. Every company chooses its own asset mix.
Mr. Miller of California. I know, but if you are saying
that the capital ratios are based on high risk and low risk, if
you are then saying long-term corporate bonds are a higher
risk, that is going to change your capital ratios.
Mr. Gibson. Yes. And if you are holding a lot of long-term
corporate bonds--
Mr. Miller of California. That is also one of the concerns
we are having. Because many of these insurance companies hold
those that have proven to be beneficial to them in the long
run, but it is going to change their risk and it is going to
change the whole matrix within they have to work with. That is
where we are trying to get and that is where some of our
concerns are. And doesn't this make the proposed rules totally
inappropriate for insurers? Think about this, if it is focusing
on those, it can't be appropriate for the insurers where they
must divest long-term assets to meet long-term commitments they
have made to their customers, they bought those for a reason.
Wouldn't it be more appropriate for financial stability for
insurers to be able to invest in long-term assets that match up
with the long-term liability of life insurance companies?
Mr. Gibson. In general, the risk weights don't depend on
the maturity of the instrument, so a corporate bond would be
rated according to the risk of the company that issued it, not
the maturity in general.
Mr. Miller of California. But if you are dealing with long-
term corporate bonds the maturity is long term.
Mr. Gibson. Yes.
Mr. Miller of California. And your liability is long term,
but the investor is invested in that.
Mr. Gibson. Right.
Mr. Miller of California. We have a problem. I yield back.
Thank you.
Chairwoman Capito. The gentleman's time has expired. Mr.
Scott for 5 minutes.
Mr. Scott. I certainly agree with Mr. Miller, we do have a
problem here. And it seems to me that it might be good for us
to pause here for a moment to get some clarity on, from you,
Mr. French, Mr. Gibson especially, and Mr. Lyons, where do we
go going forward now on what I think is the fundamental issue
here, and that is one thing we know about Basel III is one size
does not fit all. Now, do the three of you agree that we have a
problem as affecting this rule regarding our small community
regional banks, on requiring them to have this higher capital
standard?
Mr. French. I think that again, when we look back at the
last 5 years, we see over 460 bank failures, hundreds of
problem banks, and that is a significant issue for the national
economy, for many regional and local economies around the
country. There is an important policy interest in having a
well-capitalized banking system. So I think that is the goal we
are trying to achieve.
And as Mr. Gibson said, we have differentiated
significantly in terms of the levels of different requirements
applied to small and large banks. I think the question we are
hearing from the comments is whether we have differentiated
enough and that there may be a number of areas, there certainly
are a number of areas we are hearing about where they are
telling us you need to differentiate more. And we have to be
very careful as to how we review those comments and decide how
to proceed. So we completely agree.
Mr. Scott. Would you say then that one of the directions
that you might take would be to disengage the smaller community
banks from this Basel III requirement? I did a little studying
on the history of this Basel, this has been going on, Basel I
started I think under the supervision of the Switzerland bank
back in 1988. Basel II comes along to fix what Basel I could
not do. Basel III now comes along for this.
My feeling is that it might be smart of us to allow Basel
III to see how we can get that to work for what it was
essentially created for, and that is the larger banks. It is
clear from the discussion of the risk weights complexity that
it is going to require another set of thought processes for our
smaller community banks. Is that not a way we could go on this?
Mr. French. The core concept of capital adequacy, having a
strong quality of capital and level of capital, we believe that
is a relevant concept for any bank and that is something we are
trying to achieve. So what we need to do is decide which parts
of the proposals are appropriate for community banks, and that
includes the mortgages and everything else. We are looking
carefully at those.
Mr. Scott. And one other area that concerns me is I wonder
if you have given any consideration to the overall impact of
the Basel III proposals in conjunction with other regulations,
such as those mandated by Dodd-Frank and their regulatory and
accounting rule standards on credit availability, the cost of
credit, and essentially the overall mortgage lending.
Mr. Gibson. In terms of other Dodd-Frank rulemakings that
we are doing, we are certainly looking at the costs and
benefits of every rule we propose, and where there are rules
that are linked with each other we try to look at those
together. We did that with our enhanced prudential standards
proposal under Section 165, for example. And certainly in the
mortgage area, there are many Dodd-Frank provisions that are
all interacting, and we are trying as best we can to look at
those together.
Mr. Scott. For example, the due diligence with the Consumer
Financial Protection Bureau (CFPB), which is finalizing its own
due diligence, so we have two due diligence requirements and it
makes for some confusion there.
Mr. Gibson. We are consulting with the CFPB as they roll
out some of their Dodd-Frank regulations, and we are working
with them on that.
Mr. Scott. And finally, Mr. Gonzales, let me get your take
on this. What do you feel going forward, is there some value in
what I said about disengaging and understanding that if there
ever was an example of one size does not fit all, this is
certainly it, and that we might need to look at these two sizes
of banks differently?
Mr. Gonzales. Absolutely. I think you made a good
suggestion, we ought to reconsider and rework these rules.
Basel III can move forward. They were never intended to apply
to community banks, they are intended for the large
internationally active institutions, as you pointed out. So
they can go forward on that basis and then we can have a
separate dialogue with respect to community banks. We are in
total agreement with that.
Mr. Scott. Thank you, Madam Chairwoman.
Chairwoman Capito. Thank you.
Mr. Luetkemeyer for 5 minutes.
Mr. Luetkemeyer. Thank you, Madam Chairwoman.
I am just kind of curious, Mr. French, Mr. Gibson, Mr.
Lyons, do you gentlemen talk with each other with regard to
rulemaking between your agencies? Especially in this situation
with Basel III, are you guys communicating about your concerns
with each other here?
Mr. French. Yes.
Mr. Gibson. Yes, we do.
Mr. Luetkemeyer. You have regular meetings on that?
Mr. Gibson. Yes, we do.
Mr. Luetkemeyer. Do you consult with Mr. Gonzales's group
at all? Does he have any input with your decision-making
process? Because what I hear from him is a whole lot of red
flags going off.
Mr. Gibson. In terms of the rulemaking, it is the Federal
agencies that are responsible for the rulemaking. We work a lot
with State bank supervisors in the supervision process, and we
work closely with them at the--
Mr. Luetkemeyer. Are you hearing what they are saying about
Basel III?
Mr. Gibson. Yes.
Mr. Luetkemeyer. Are you going to react to it?
Mr. Gibson. The comments we have heard from our State bank
supervisor colleagues, we have heard those comments, and they
are very similar to the comments we have heard from many
community bankers. We are taking those very seriously.
Mr. Luetkemeyer. Okay. Because they are a supervisory
agency, as well. They deal with supervising banks as well as
you do. So, they have the same concerns and have the oversight
that you do, in many respects.
It is kind of curious, I was having--one of my bankers
brought this to my attention, with regard to the enforcement of
some of the rules that you have. With regard to HMDA exams, one
of my bankers did some research. And over the last 2\1/2\
years, from during 2010, 2011, to June of 2012, the FDIC in
Missouri had over 160 fines that they levied with regard to
penalties on HMDA violations. Now, the SEC and the Fed combined
had a total of five during that period of time.
Mr. French, can you give me a reason why there is such a
disparity?
Mr. French. My understanding, Congressman, is that we are
working on a response to the questions that you have just
asked--
Mr. Luetkemeyer. I realize that, and I appreciate that.
Your office said you are going to get me a letter sometime by
the end of the week, but I thought while we had you here, it
would be a good time to put you on the record. I would like to
know what is going on.
Mr. French. Yes. I will say that we have a separate
division of compliance and consumer protection, depositor and
consumer protection--
Mr. Luetkemeyer. The other agencies also have compliance
and consumer protection.
Mr. French. I don't know the answer to your question, so we
will have to wait for them to respond to you.
Mr. Luetkemeyer. That certainly is a red flag to me. And it
makes me wonder, when I asked the previous question, if you all
worked together with regard to implementation of rules,
enforcement of rules, working with the State bank supervisors,
whether you actually work together.
How in the world can you all answer that question in a
positive fashion when there is that big of a discrepancy
between the three of your supervisory agencies on this
particular issue? How can that happen? We are not
communicating. There is some discrepancy there, and I want to
know what it is. So I appreciate your response, and I thank you
for that.
With regard to other problems we have discussed today, and
we have had a lengthy discussion here with regard to all the
different concerns that the individual banks, especially
community banks, have with Basel III. And a lot of it has been
brought about by some of the actions that were taken by the big
banks back in the early 2000s and up till the 2008 meltdown.
It would seem to me that what is going on is a lot of the
new products, a lot of new financial services are outrunning
the ability to regulate them. Because we are getting out in
front with new policies, new programs, new products that we are
having difficulty getting our hands around or arms around to be
able to regulate them in a way that can control the risk and
minimize its impact to the banking community, the financial
industry as a whole.
Is there any thought to trying to pull back on some of
those products at all? Or do you think you are going to be able
to, by continuing to run, to try and catch up with the new
products, that you think you can eventually catch up to them
and regulate them?
Mr. Lyons, you haven't answered a question for a while. Let
me try to get you in the game here.
Mr. Lyons. I am not quite sure what specific products you
are referring to.
Mr. Luetkemeyer. It deals probably mostly with the big
banks, I would imagine, because the smaller banks are probably
not in this exotic financial products game.
But it is very concerning to me whenever you have
especially the investment banks going off and doing a lot of
different things and then you bring them underneath the retail
banks, expose the retail banks and the deposit base to FDIC
insurance and the too-big-to-fail situation whenever we can't
regulate those in a way that is going to minimize the risk.
Is there any thought to trying to do something?
Mr. Lyons. The entire process is part of what we are doing
today and talking about is building capital buffers to be able
to absorb any loss in those types of products, as well as--
Mr. Luetkemeyer. Yes, but that is after the fact, sir. What
you are saying there is, we are not sure we can regulate these,
so the best way to protect ourselves is to put more capital in
here. That is covering your rear.
Is there a reason that we can't regulate some of this
stuff? Is it beyond our ability?
Mr. Lyons. For those products that we think we can, we
permit the use of those products. And for those that we don't,
we have not permitted banks to use certain products.
Mr. Luetkemeyer. Okay. I see my time has expired.
Chairwoman Capito. The gentleman's time has expired.
Mr. Luetkemeyer. Thank you, Madam Chairwoman.
Chairwoman Capito. Thank you.
Mr. Perlmutter?
Mr. Perlmutter. I thank the committee for allowing me to
sit in and participate today.
Mr. Gibson, I am reading from a speech that the vice chair,
Mr. Hoenig, from our region out in Colorado/Kansas area gave in
September. And I don't know if anybody has spoken about this
yet, but it was in September of this year. And his comments
sort of reflect my feelings about this because I have tried to
dive into some of the Basel III rules and assumptions and
algorithms. You guys are trying to deal with a panoply of
assets and liabilities that are worldwide and just complex, and
I understand the effort that is going into this.
But having said that, there are a couple of paragraphs in
his speech I would like to just read, and then I have some
questions. It says--and this is a speech that he gave on the
14th of September of this year--``Basel III will not improve
outcomes for the largest banks since its complexity reduces
rather than enhances capital transparency.''
And as I was trying--and I am a lawyer, I did a lot of
Chapter 11 bankruptcy work, I looked at a lot of balance
sheets, I have dealt with bank dissolutions and a whole variety
of things. And your work, as regulators, you have a tough job,
especially with different kinds of assets and how you apply
risk. But when I look at Basel III, to me, it just adds--it
obscures the ability for a regulator or for a stockholder or
for somebody else to figure out what a bank is worth and what
really is on its balance sheets.
He goes on and says, ``Basel III will not improve the
condition of small and medium-sized banks. Applying an
international capital standard to a community bank is
illogical, particularly when models have not supplanted
examinations in these banks. To implement Basel III suggests we
have solved measurement problems in the global industry that we
have not solved. It continues an experiment that has lasted too
long.''
Now, I appreciate everybody trying to tackle the subject of
when is a bank solid and when is it ready to fold. But for us
as Members of Congress, for you all as regulators, in my
opinion, we need to try to simplify it. Einstein said, ``Make
everything as simple as possible, but not simpler.'' This
though, in my opinion, goes way too far, that even somebody who
took banks apart, like I did as part of my law practice, I
can't figure it out. Then, that really allows for the system to
be gamed. And that is my fear.
So having given you that editorial comment and asking you
to go back and take a look at his speech, I think really
reflects where I am coming from with respect to the whole array
of rules that you are proposing, or that are being proposed.
Now, let's go into a really tiny, narrow area. And it
says--and this is on trust-preferreds. So I was part of this
committee when we did Dodd-Frank, and one of the areas that we
took a good look at, especially for smaller banks, community
banks, was trust-preferred as part of their capital structure.
And under Basel III, the exception that we made in Dodd-
Frank to allow for smaller banks to use trust-preferred stock
as part of their capital structure seems to be quietly
dispensed with. Am I right or wrong?
Mr. Gibson, I will ask you that.
Mr. Gibson. In the Dodd-Frank Act, trust-preferred was
phased out of regulatory capital for all U.S. banks. But--
Mr. Perlmutter. But after 2010, right?
Mr. Gibson. Right.
Mr. Perlmutter. So before 2010--and we really, across the
Nation, we haven't added a lot of banks over the last 2 years,
have we?
Mr. Gibson. A few, but not too many.
Mr. Perlmutter. Okay. So for those banks that existed
before 2010 that relied on trust-preferred, they are
grandfathered in; am I right?
Mr. Gibson. No new trust-preferred is allowed to be issued;
that is correct.
Mr. Perlmutter. But old trust-preferred can exist and be
part of the capital?
Mr. Gibson. There are separate provisions in the Dodd-Frank
Act for larger financial institutions above $15 billion where
Congress specified a phaseout period, and Congress didn't
specify a phaseout period for below $15 billion. In the
proposal, we proposed a phaseout period of 10 years.
Mr. Perlmutter. Okay. What happens under Basel, under the
proposed rules in Basel? So that--
Mr. Gibson. I was talking about our proposed rule, which is
different from--
Mr. Perlmutter. Okay, which is different than Dodd-Frank?
Mr. Gibson. No, no. Our proposed rule is consistent with
the Dodd-Frank Act but more aggressive than Basel because of
the 3-year phase-out period for trust-preferred under our rule,
which is consistent with the Dodd-Frank Act.
Mr. Perlmutter. I am sorry. When you say ``our rule,'' is
``our rule'' the Basel rule, or is ``our rule'' the Dodd-Frank
rule?
Mr. Gibson. Our proposed joint capital rule would have the
phaseout by 2015 for trust-preferred for $15-billion-and-above
companies, which is faster than under the international Basel
agreement.
Mr. Perlmutter. Okay. And I would like to visit with you
afterwards about this subject.
Thank you, Madam Chairwoman.
Chairwoman Capito. Thank you.
Ms. Hayworth for 5 minutes.
Dr. Hayworth. Thank you, Madam Chairwoman.
A question for Mr. Gibson regarding the Collins letter that
stated or asserted that bank capital rules with regard to
insurers should not supplant capital rules for insurers.
Mr. Gibson, are you viewing things any differently in view
of that?
Mr. Gibson. I haven't seen the letter, but I did read some
news articles that quoted from it.
Dr. Hayworth. Right.
Mr. Gibson. It is certainly true that when we made our
proposal for holding company capital requirements, the Collins
Amendment was an important constraint because it says the bank
capital rules have to be a floor for holding company capital
rules.
We have certainly gotten a lot of comments from insurance
companies and others about alternative ways to interpret what
Congress wrote in the Dodd-Frank Act. I look forward to reading
the letter that I haven't had time to read yet. But it is one
of the issues we are considering very much as we look at the
comments going forward.
Dr. Hayworth. So we still--and, Mr. McCarty, this obviously
goes to your assertions regarding the obligations of holding
companies--the relationship of holding companies and insurers'
capital holdings to what holding companies should do in that
sphere.
Mr. McCarty. Absolutely. To that point, we are very much
concerned about the overlaying of the capital requirements of
Basel III on a company that primarily does insurance business;
only a small part may be subject to a thrift or bank. Again,
applying that to that would cause a lot of conflict with
already existing regulatory framework and State laws that have
proved, I think, very successful throughout the financial
crisis.
Dr. Hayworth. This could be a rather destabilizing event.
Mr. McCarty. Yes, it would be a destabilizing event, and
then it could cause a number of dislocations in the
marketplace, unintended consequences. For instance, if you have
higher capital requirements, a lot of people purchase insurance
based upon the brand, the strength of the company. If there is
a view that new capital standards is a stronger company, you
will have a flight to perceived better-quality products--
Dr. Hayworth. Right.
Mr. McCarty. --which is, obviously some unintended
consequences that could occur.
Dr. Hayworth. In listening to this discussion, obviously we
are speaking extensively about risk-weighting. That is the crux
of the whole thing: what is the level of risk that an
institution is undertaking with its holdings and how much--
obviously, how much ballast should they have to make sure that
the ship stays stable, if you will.
I firmly believe that Peter Wallison's dissent from the
FDIC was the most cogent analysis of the 2008 crisis. And one
of the underlying factors in that crisis was the fact that the
ratings agencies themselves fundamentally, from the standpoint
of essentially a layperson like myself, couldn't be trusted.
How does that play into the--how should it play into the
decisions that you are making? How should we take what you are
doing and say, you know what, if we are going to do these
things, then we have to make sure that the ratings certainly of
our government bonds actually have validity.
Is that a fair question to ask? I will throw it out to--
Mr. French. Yes, it is a fair question. I think most
importantly for the answer is that the Dodd-Frank Act requires
the agencies to remove references to credit ratings from all of
our regulations. So part of what this proposal does is
implement that so that instead of using external credit ratings
of Moody's or Standard & Poor's or whatever, there are various
alternative approaches. So, essentially, we have moved away
from that in these proposals.
Dr. Hayworth. That sounds reassuring.
Thank you so much, members of the panel.
And, Madam Chairwoman, I yield back.
Chairwoman Capito. Thank you.
Mr. Lynch for 5 minutes.
Mr. Lynch. Thank you, Madam Chairwoman.
Mr. Lyons and Mr. French, this is particularly addressed to
you. I recently have had extensive opportunities to sit with my
local chambers of commerce, populated significantly by
community banks and leaders of community banks.
And, Mr. Lyons, in your remarks you posed a somewhat
rhetorical question: Why should community banks be treated this
way under Basel III? Why should these limitations, the enhanced
capital requirements, be applied to them, given the fact that
they really weren't at the root of the financial crisis? For
the most part, they know their customer. They did not engage in
these wildly complex derivatives. And, I got an earful from my
bankers about the rules coming out.
I did hear from each of you that you acknowledged the
difficulty or the challenges in applying some of this to both
insurance companies and also to community banks. So I like what
I am hearing, in a way, that you are sensitive to the issues.
But to answer your own question, why are we applying all of
this to community banks?
Mr. Lyons. Thank you, Congressman.
I think it is important to point out that, while they may
not have caused the crisis, they did suffer substantial damage
because of the crisis in terms of failures. We had well over
400 failures. And, as Mr. French said earlier, a large number
of banks are still in troubled condition.
The stronger banks that did survive were those that had
higher capital. And we felt it was appropriate to try and
strengthen the quality and quantity of capital for individual
banks and within the system overall so that in the next crisis,
they can survive and continue to serve their customers and
communities.
Mr. Lynch. The longer on-ramp, is that something that has
been accepted, at least among yourselves as regulators, for the
ability of the community banks that may not have the staff and
the compliance mechanisms to absorb all of this? Is that
something that has been accepted by your group or with
regulators in general?
Mr. Lyons. I think, as Mr. Gibson said earlier, we did do
an impact analysis. Most banks already achieved that capital
level. The impact analysis also looked at the financial cost to
an institution to be able to implement the new regs. And there
is a concern around the cost burden to the institutions,
especially up front when they have to implement new systems and
controls to implement the requirements.
So we are taking a close look at those analyses, and we
will do further analysis as we move forward. But I assure you,
we are trying to strike the right balance between achieving
appropriate capital levels and not overburdening community
banks.
Mr. Lynch. You mentioned that about 90 percent of the
community banks already satisfy what you think would be the--I
am sorry, Mr. Gonzales, would you like to respond?
Mr. Gonzales. Yes, I was just going to address that 90
percent issue.
We would agree that a large number of community banks would
be able to meet the minimum standards today, a snapshot today.
But the real question is, where do these rules put community
banks going forward? That is the real question.
And, just a couple of examples. Are we going to accept the
volatility of the capital with respect to movements in interest
rates? And with the risk of weighted standards, we are
basically telling institutions whether you have good operating
procedures or not, we don't want you in these areas, commercial
real estate and certain mortgage products.
So that is very concerning. It is a one-size-fits-all
approach.
Mr. Lynch. Yes. That is what I am hearing.
Let me ask, the general number is 90 percent of the
community banks will meet the new capital requirements already.
That remaining 10 percent, are we looking at banks that are
particularly large within the community bank population, or is
it just random?
Mr. Lyons. Our analysis showed that it is generally the
smaller banks, a small population of smaller banks that would
not achieve it immediately. That is why we implemented the
transition periods. And our feeling is that over the transition
period, those banks would be able to accrete and achieve the
minimum capital levels.
Mr. Lynch. Okay. I see I am running short on my time here.
I would just, in closing, ask you to be very sensitive to the
concerns, as you say, valid concerns, raised by our community
banks. They are doing the lending right now in many of our
communities, and we rely on them very heavily right now to keep
the economy going in the right direction. So I would just ask
you to be very sensitive to the concerns that they have raised.
Thank you, I yield back.
Chairwoman Capito. Thank you.
Mr. Duffy for 5 minutes.
Mr. Duffy of Wisconsin. Thank you, Madam Chairwoman.
As I mentioned in my opening statement, I come from rural
Wisconsin. We have a lot of small community banks, and a lot of
credit unions that we are not necessarily talking about today,
but those are the folks who serve the financial needs of my
community, getting dollars out to our families, and our small
businesses that are the economic drivers of our community.
Many of the comments that you have heard today and concern
you have heard today, I, too, have heard that same concern from
my small financial institutions, about how Basel III's
implementation will affect their ability to be successful
moving forward.
Have you all considered the overlay of all the proposed
rulemakings and its impact on the consolidation of community
banks across the country?
Because I keep hearing about all the new rules, all the new
regulations, and the need for small banks to continue to
consolidate. And one of the benefits we have is you can get
decisions in your community. Say, you are in Medford,
Wisconsin. Your banker there can make a decision for you,
instead of having to go to Minneapolis or Chicago or Milwaukee,
and have a regional bank make those calls for you.
Are you concerned about that consolidation?
Mr. French. If the outcome of the rules was to drive
significant consolidation of community banking, we would be
very concerned. We recognize the important role that community
banks play in local communities, and we do not want to finalize
rules that will put such a degree of compliance cost on them or
change the economics of what they are doing so significantly
that they cannot fulfill those roles and are forced to
consolidate.
So we have heard--as I said earlier, we have met with
community bank groups around the country, our acting chairman
as well as the staff, and we host them here in Washington. We
had a good discussion of these issues at our Community Bank
Advisory Committee a couple of weeks ago. So we are very
focused on these comments, I can assure you.
Mr. Duffy of Wisconsin. Good.
And when the Basel Committee met, you have a group of
people who usually come from countries that have larger banking
institutions. They don't have a community bank structure like
America does; they have a larger bank structure in the
countries that all met on Basel. Is that correct, or is that
fair to say?
Mr. Gibson. For many of the countries, yes.
Mr. Duffy of Wisconsin. For many, yes, right.
And so as we look at this rule that has come out of Basel
and Basel III, and now you have proposed it here--my guys are
concerned that they didn't really have an effective voice
because we were concerned about the megabanks and there wasn't
really this concern about its impact on the small community
banks.
So you have a rule that is being proposed that had a lot of
folks sitting around a table who were concerned about the
larger institutions, and the voice of the smaller institutions
wasn't considered. And if it had, there might have been some
different proposals made for the community banks, or they, as
they had hoped, would have been excluded.
Mr. Gibson. When we discuss in the Basel Committee, we
agree to apply those Basel agreements to our internationally
active banks, which is a very small number of banks. We have
proposed something that very closely tracks the Basel agreement
for the largest banks. But what we have proposed for smaller
banks is different from what the Basel Committee agreed. We
have tailored it to the specific circumstances of our community
banks and our banking model.
Now, we have gotten a lot of comments that we need to do
more tailoring, and we are looking at those. But we have never
applied Basel agreements to all--or we are not proposing to
apply Basel agreements to all U.S. banks.
Mr. Duffy of Wisconsin. I want to ask a quick question on
the available-for-sale securities and how frequently the
proposal is that they will be required to do that calculation.
Is it once a day? It is once a month, a quarter? How frequently
do they have to make that calculation?
Mr. French. For purposes of their quarterly financial
reports to the regulators, the proposal would be that they
would include in their regulatory capital any unrealized gains
or losses in their available-for-sale debt securities, which is
a change, a proposed change, from current practice, where they
do not include that in their regulatory capital.
The safety and soundness argument for that is that if they
are forced to sell these securities in a dire scenario or a
stress scenario, they are going to have to take those losses,
and that really is what reflects their capital strength.
The counterargument is that they hold these things for
liquidity. It is going to introduce significant volatility to
regulatory capital from their perspective and complicate their
management of interest-rate risk, legal lending limits, and
other things.
So, we have to look at those comments very seriously and
relative to the underlying objective.
Mr. Duffy of Wisconsin. And I see my time has expired. I
yield back. Thank you.
Chairwoman Capito. Mr. Sherman for 5 minutes.
Mr. Sherman. Mr. French, you talk about, in effect, marking
to market the available-for-sale securities. Some banks will
want to strengthen their position by identifying their winning
securities that have gone up in value as available for sale and
those that would be marked down as not available for sale.
How strict is the definition? And what is the consequence
of declaring, this security is available for sale, that
security is not available for sale?
Mr. French. I think in the proposal they would have to
recognize all of the unrealized gains and losses on all the
available-for-sale securities. You raised the issue--
Mr. Sherman. But what is the definition of an available-
for-sale security? We are not going to sell it anytime soon.
Mr. French. You raised the issue of gaming it and moving it
to the held-to-maturity. That is an important consideration
that we have to think about, I think, as we decide.
Mr. Sherman. Do the regulations define ``available for
sale?'' And can that just be in the mind of the holder?
Mr. French. It is a defined term in accounting, so, yes.
Mr. Sherman. Well, perhaps you could get back to me with
something for the record that is more definitive than that, and
not so much dealing with gaming the system. It is just, if you
have an opportunity to easily decide whether or not something
is available for sale or not being intended for sale, you might
happen to notice what effect that would have.
Mr. Gibson, Basel III standards provide favorable
supervisorial treatment for short-term assets and unfavorable
treatment for long-term assets held by insurers. Long-term
assets would include corporate bonds. Banks tend to deal more
short-term. Insurers--I have a life insurance policy. I hope
that is a very long-term obligation of my insurance company.
If the Federal Reserve compels insurers to remake their
balance sheets in compliance with Basel III standards, what is
the impact on insurers? Will that push them out of long-term
assets into short-term assets? And is that contrary to the
sound economic principle that if you have a long-term
liability, which I hope my life is, that you match that with a
long-term asset?
Mr. Gibson. For banks and bank holding companies, we have
other regulatory requirements on liquidity that look at the
kind of maturity mismatch you are talking about.
For capital, we are looking at the potential for losses, so
we look mostly at the credit risk of the asset. If it is a
risky company, the capital charge would be higher. If it is a
less risky bond, the capital charge would be lower.
Mr. Sherman. But in terms of an insurance company, if you
have a long-term asset, yes, its market value will be affected
more dramatically by swings in interest rates no matter how
creditworthy the issuer, but the offsetting liability to those
who are insured is also long term.
Would you be treating insurance companies the same as banks
when you are looking at how to unfavorably treat long-term
assets?
Mr. Gibson. For the purposes of risk weights based on
credit risk, we have proposed the same risk weights. This
proposal doesn't deal with liquidity risk, but it would be very
different for an insurance company than for a bank.
Mr. Sherman. So you are going to be dealing with--I know
that we have a representative from those who currently regulate
insurance companies. Do we need another level of regulation, or
have the States done a good enough job?
Mr. McCarty. Certainly, if you look at the evidence during
the financial crisis, we think the States fared very well in
the current regulatory system. But it is very fundamentally
different than banking. As you were pointing out, the matching
of the assets and liabilities is very critical. There is a
reason why you don't have a run on an insurance company,
because of the structural difference in how products are
regulated.
We look at the entity, separate and corporate, individual
insurer entity as opposed to one consolidated view of it. And
we think it is important to keep assets and the policyholder's
money there available to pay claims.
Mr. Sherman. I want to commend the State regulators. Those
regulated insurance subsidiaries did very well in surviving the
crisis. And it is interesting that AIG had both regulated and
unregulated operations. That which was regulated by the States
might be profitable enough to bail out that portion of AIG that
I think in a perfect world would have been regulated by
insurance regulators but was not.
I think my time has expired.
Chairwoman Capito. Mr. Pearce for 5 minutes.
Mr. Pearce. Thank you, Madam Chairwoman.
The comments by Ms. Waters and Mrs. Maloney I think headed
in the direction that my interest lies, and that is sort of a
fascination with community banks from your perspective.
When I look at the capital requirements, I see a very
complex system. In other words, you really have generated a lot
of parameters. And I kind of wonder if the same parameters were
used in evaluating the failures. I have heard 2 or 3 of you
talk about the 460 failures, and you give a lot of attention to
real estate. Did you slice and dice the real estate as much as
you sliced and diced the risk that you are going to have
community bankers hold?
In other words, I suspect that there were greater failures
per capita maybe in Florida or Las Vegas, Nevada, than, say,
Tucumcari, New Mexico. I suspect that we didn't have a lot of
out-of-State people coming in. I don't think people were
rolling real estate.
Did you do any analysis of the actual failures themselves
before you said to community bankers, you are going to hold
these kinds of assets? Because you are shutting down the future
of small States. You are limiting it. And I am asking, does
your analysis of the failures go as deep and as finely sliced
as your analysis of what you are going to have the banks hold?
Mr. French, you can start, if you would like.
Mr. French. Sure.
Every time we have a failure over a certain size, we do a
material loss review. Our Inspector General does that. And,
typically, the profile of the failed banks in the last 5 years
was--the most frequent profile was a lot of construction
lending and funded by broker deposits, would be the typical
failed bank. So that was the kind of a bank that got hit.
Mr. Pearce. And then did--if I can interrupt right at that
point. So a lot of construction loans. Now, then, were there a
lot of construction loans in certain areas versus other areas?
How many banks in New Mexico failed over construction loans,
for instance? And I don't expect you to answer that. But I
suspect if you look at the 460 bank failures, if you had a map
of the United States and sticking pins in the places where the
banks failed, I suspect they are going to be clustered in
locations. And yet, you are painting with the same broad brush
across the entire country, saying that you are not doing one-
size-fits-all.
So my question is not so much about what caused them to
fail. My question is about your process. Did it get as
infinitely evaluative as you did on requiring capital for
community banks? That is my question.
So, Mr. French, yes or no? Have you sliced and diced it in
that--
Mr. French. I don't believe we have sliced and diced the
failed banks using the metrics in the--
Mr. Pearce. No, that is not my question. My question is, if
you put those pins in the map, did you say, there are some
places that inherently took advantage of the system and some
places did not? I suspect we could have a different measurement
criteria for Tucumcari, New Mexico, or Alamogordo, New Mexico,
as we do in maybe one of the high resort areas of Florida. Did
you slice and dice it that finely?
Mr. French. I don't think we would see many pins in the map
in New Mexico, and I think--
Mr. Pearce. We have the same requirements as if we were
located right there in one of the high-traffic areas.
Mr. French. And one of the frequent themes in the comment
letters is exactly what you are suggesting, that we have
painted sort of too broad a brush with the--
Mr. Pearce. Do you know how miserable you all make my life
when you do this broad, random stuff?
And one other thing. My time is rolling down rapidly, and I
am probably only going to get to make the point. Did you slice
and dice by size? In other words, did you make sure that most
of the regulatory requirement fell on those who, by percent,
failed in the greatest percentages? If I were to look at Wall
Street banks--there are very few of them--the failure rate was
fairly great as a percent.
And when I do your percentages, you are rolling the 460
over and over and over again as if that is going to convince
us. But when I divide 460 by 7,000 small community banks, I get
a failure rate in the 5 to 6 percent range. And I wonder if you
put that metric into your measurement before you went out and
just put these rules out that frightened the daylights out of
not just the community bankers but the small States themselves,
who see capital drying up because of what you have done just
proposing your rules.
And I think before you put these complex matrices together
for community banks to put out what they are going to have to
capitalize, you ought to do a better, more infinite study on
what caused the failures and where they occurred than what have
you done.
I yield back, since my time is gone. Thank you.
Chairwoman Capito. The gentleman yields back.
Mr. Stivers?
Mr. Stivers. Thank you, Madam Chairwoman.
I would like to ask unanimous consent to enter two things
into the record: a letter from Senator Collins; and a letter on
behalf of regional banks and some of the challenges that they
face.
Chairwoman Capito. Without objection, it is so ordered.
Mr. Stivers. Thank you.
My first question is for Mr. Gibson.
Mr. Gibson, do you believe Dodd-Frank requires you to apply
capital rules identically to insurance companies as banks?
Mr. Gibson. No. We only apply capital requirements to
depository institution holding companies, which includes ones
that happen to own an insurance company. We have tailored in
the proposal--
Mr. Stivers. I guess that is--I am sorry if I was not
specific enough, but--
Mr. Gibson. Okay. Go ahead.
Mr. Stivers. --where there are insurance company assets
inside a bank holding company, do you believe that it requires
identical capital to as if that was a bank asset?
Mr. Gibson. No. And we tailored the proposed requirements
to insurance businesses in several areas--for example, separate
accounts and policy loans. However, we are constrained by the
Collins Amendment, which sets a floor on holding company
capital requirements equal to what the bank capital
requirements are.
Mr. Stivers. Well, I have a letter from Senator Collins to
your boss that says she believes they can actually, within the
constraints of her amendment, sort of work with the standards
and work with folks like NAIC to make sure that the standards
are appropriate for insurance companies.
So I would ask you to take a look at that. I submitted it
for the record.
My second question for you is, what credit do you think
State-based regulation and State-based risk capital should be
given to insurance companies because they have State-based risk
capital? And when those laws conflict, do you think you
actually supersede the State laws? Because I don't see that in
Dodd-Frank.
Mr. Gibson. No. What we do is, we are setting a capital
requirement at the holding company level. And at the level of
individual operating companies, whether it is a bank or an
insurance company, they are separate capital requirements by
the functional regulators.
Specifically, with respect to insurance companies, they
have capital requirements set by their insurance regulator on
insurance underwriting risk, for example. We don't set any
capital requirement on that. We just take the number that comes
out of the State insurance regulatory system and we just plug
that number into ours.
Mr. Stivers. And there is going to be additional systems
cost to folks who happen to own insurance assets that they
don't have today because they currently calculate their capital
based on the State-by-State approach. Did you calculate any of
that into your costs when you did your cost-benefit analysis?
Mr. Gibson. We generally consider the impact of what we
have proposed. But we have heard comments, especially from
depository institution holding companies that own insurance
companies, that they would need more time to adjust to the
changes because the changes would be greater for them. They
were not subject to this kind of consolidated regulation
before.
Mr. Stivers. Correct. And I didn't see anything that allows
you to do that. Are you working hard to make that happen? That
is a yes-or-no question, with my limited time.
Mr. Gibson. We have heard those comments, and we are
working to incorporate them as we go forward.
Mr. Stivers. Great.
My next question is for Mr. Gibson and Mr. Lyons. Somebody
before said it is really activities of the bank, not the size,
that determines the risk. And I am really worried about mis-
ascribing the cost of risk, especially associated with
mortgages and home equity lines of credit, especially with
regard to the Qualified Mortgage, which has yet to be
completely defined.
Now, that has come up a little bit before, but can you talk
about what you are going to do to make sure that we don't mis-
ascribe risk? Because if we do, it is going to drive up the
cost of credit and limit credit availability.
Mr. Lyons. Congressman, we attempted to calibrate risk
based on the performance of those assets through the crisis. We
have received comments from many, many banks and institutions
that we need to take a look at, a second look at that, and we
will as we go through the process. But we attempted to
calibrate the risk based on the performance of those assets
through the crisis.
Mr. Stivers. Is there any way that you can finalize this
before the QM definition is defined? Because I don't think
you--if you really are going to do that, how can you finalize
this rule before the QM rule is finalized?
Mr. Lyons. That is a good point. In the proposal, there are
two categories of mortgages, category 1 and category 2.
Category 1 closely resembles what we think will come out of QM.
But we are working very, very aggressively to review all
comments and come up with a final proposal.
Mr. Stivers. And that kind of brings me back to--and I only
have 10 seconds--the problem with this requirement is it is so
complex and granular, that it has interplay with other
regulations that are only in proposal stage. And, it could be
very problematic, very difficult to implement, and, in fact,
contradict with or just not give credit to some of the other
regulations that other regulators are spending a lot of time
and effort to get right.
So I would hope you would be mindful of that as you proceed
on this course.
Chairwoman Capito. Thank you.
I want to thank the gentlemen.
Mr. Stivers. Thank you. I yield back.
Chairwoman Capito. Thank you.
That concludes the first panel.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for Members to submit written questions to these
witnesses and to place their responses in the record.
I would also, before I dismiss them, like to enter these
statements for the record: Mid-Size Bank Coalition of America;
Consumer Bankers Association; American Council of Life
Insurers; American Insurance Association; America's Mutual
Banks; Mortgage Bankers Association; Council of Federal Home
Loan Banks; Financial Services Roundtable; MCAM; and the
National Association of Insurance Commissioners.
Mr. Perlmutter. Madam Chairwoman?
Chairwoman Capito. Yes.
Mr. Perlmutter. I would like to enter into the record the
speech by Tom Hoenig of September 14, 2012, that I read from.
Chairwoman Capito. Without objection, the speech from
Thomas Hoenig will be inserted into the record.
Mr. Perlmutter. Thank you.
Chairwoman Capito. I want to thank the gentlemen on the
first panel. I appreciate your very forthright testimony.
We will switch out, and I might stand up and take a little
break myself. So we will start back in about 4 or 5 minutes.
[recess]
Chairwoman Biggert [presiding]. I think we will start. We
are still missing one witness, but let's get started so that--I
know you have all been waiting a long time. That was a long
time for the first panel.
I am now going to introduce the second panel. First of all,
we have Professor Anat Admati, George G.C. Parker Professor of
Finance and Economics, Graduate School of Business at Stanford
University.
Second, we have Mr. Terrence Duffy, executive chairman and
president, CME Group Incorporated. It is very nice to see you.
Mr. Duffy has been one of my constituents for 14 years. And I
have enjoyed working with you.
Third, Mr. James M. Garnett, Jr., head of risk architecture
at Citi; followed by Mr. Marc Jarsulic, chief economist, Better
Markets, Inc.; Mr. William A. Loving, president and chief
executive officer, Pendleton Community Bank, on behalf of the
Independent Community Bankers of America; Mr. Daniel Poston,
chief financial officer, Fifth Third Bancorp, on behalf of the
American Bankers Association; Mr. Paul Smith, senior vice
president and chief financial officer, State Farm Mutual
Automobile Insurance Company; and Ms. Virginia Wilson,
executive vice president and chief financial officer, TIAA-
CREF.
Thank you all for being here.
And we will start with the first witness. Professor Admati,
you are recognized for 5 minutes.

STATEMENT OF ANAT R. ADMATI, GEORGE G.C. PARKER PROFESSOR OF
FINANCE AND ECONOMICS, GRADUATE SCHOOL OF BUSINESS, STANFORD
UNIVERSITY

Ms. Admati. Thank you. I very much appreciate being here
today. I have spent a lot of my time thinking precisely on the
issue of capital, and I have some materials. I have not
submitted comments for this one because I was busy writing a
book on the subject.
The first thing I want to refer to is the question that was
asked in the invitation letter, which asked about how
capitalized the U.S. institutions are. And, specifically, it
asked how their capital reserves compare to the years prior to
the crisis.
The term ``capital reserve'' leads me to stop right here,
as well as what I have been hearing in the last 2 hours, to
just make a very important clarification about what we are
talking about. The use of the term ``capital reserves'' is
very, very confusing, as is the language being used. The term
``reserves'' is like a rainy-day fund. It is cash set aside for
some emergencies. And you could say the banks hold reserves. A
certain fraction of their assets are actually in cash or in
deposits with the central banks.
But the problem is that unless reserves are, like, 100
percent or very, very, very high, they don't solve the
following problem. And the problem is, when the banks make
loans, how are they going to be able to absorb those losses
without becoming distressed? That is where capital comes in. So
the word ``capital'' actually refers basically to unborrowed
funding. It has nothing to do with what the banks actually
hold.
So banks actually do not hold this capital, and there is
nothing stopping them from lending capital. Because in the rest
of the world, in the rest of the economy, the word ``capital''
is actually not used in that way. The word that is used is
``equity.''
And down the street from me in California there is a
company called Apple. And we do not say that Apple holds 100
percent capital. But Apple actually does not borrow, and yet it
invests a lot. So there is nothing about capital that actually
stops lending, nothing about it. Lending will happen if banks
want it.
And the only issue about lending is who bears the losses
when that happens. Is it the safety net, or is it the banks
themselves and their shareholders? If they lose on any
investments, can they still function, or do they become so
distressed that we see a problem? So the issue is the extent of
borrowing that banks do.
Banks are among the most indebted corporations in the
economy. Nobody in the economy borrows as much. There is no
healthy company in the economy that operates with a single-
digit amount of equity. And so, banks might tell you that is
their business, but that is false. It is not their business to
be as highly leveraged. In fact, when they are so highly
leveraged, they do worse for the economy because the stress or
highly indebted entities do not make good investment decisions.
The key for banking stability is the banks have sufficient
funding with equity so they can withstand losses without
getting the stress, and so they worry about the downside of
their investments more than they currently do. The safety net
of banking has increased and expanded to a degree that people
forget that they are actually corporations who can own their
decisions on the upside and on the downside.
We do regulate them, and we do not regulate the other
companies in the economy, and yet they do not borrow as much.
They could, but they don't. Why do banks love so much
borrowing? I have written extensively about this, and I won't
talk about it here. We do regulate the amount of borrowing
because when they get distressed, we all suffer. So that is
important.
How much equity should they have? I side with--my benchmark
is pre-safety-net, just like Mr. Hoenig, and it is certainly
not in the single digits relative to total assets. That is the
amount of equity that they should have. There is absolutely
nothing at all that stops banks from having 20 or 25 percent
equity. They will have to transition there, but that is the way
they would be healthier and serve the economy better. There is
no increase in their funding cost except for the fact that they
own more of their downsides and they are less able to use tax
subsidies and borrowing than other people who don't use as much
as they do.
The Basel is risk-calibrated, and this risk calibration
actually creates distortions in lending. Banks lend too much to
mortgage, and now we want to correct that, but next they might
lend too much. So municipalities which have low-risk rates in
Europe, they lend too much to governments and they take the
governments and themselves down. That is very unhealthy. So the
risk weights can be highly destructive to lending.
What we need banks to do is lend to businesses. The risk
weights actually discourage that. Banks would lend if we give
them the opportunities to lend and not expect them to do so.
The current regulation is made that way, and it is greatly
insufficient.
One comment on whether it should be one-size-fits-all,
definitely not. But the biggest institutions definitely need
more capital requirements, but the one thing that all
regulators should do--and if they are not here, I have
certainly tried to say this to them. The one thing that must be
done right away on the biggest institutions is to stop them
from paying out to their equity holders right now and for the
foreseeable future. There is absolutely no reason that a large
institution should pay to its equity holders, to its
shareholders, instead of lending the money, paying down their
debts. Their debts are debts that they chose to take,
overfunding with equity. When they pay out, the equity is
depleted, and the economy is harmed.
That is a failure of the regulation, repeating failures
from before the crisis, where half of the amount that TARP
ended up having to put into the banks was the amount that was
paid in the years 2007-2008 out to shareholders,
disproportionately to bank managers. This industry should be
brought into the world of real economic costs and benefits.
Thank you.
[The prepared statement of Professor Admati can be found on
page 88 of the appendix.]
Chairwoman Biggert. Thank you.
I now recognize Mr. Terrence Duffy for 5 minutes.

STATEMENT OF TERRENCE A. DUFFY, EXECUTIVE CHAIRMAN AND
PRESIDENT, CME GROUP INC.

Mr. Terrence Duffy. As a former trader, I actually didn't
need a microphone. I was going to be able to yell just fine.
But let me thank you, Madam Chairwoman and members of the
subcommittees, for allowing me to testify today. And, Madam
Chairwoman, let me also thank you for all of your service to
your district and to our district, for your service and your
leadership. You did a wonderful job, and we are going to miss
you. So thank you very much.
CME Group applauds the Federal Reserve Board, the FDIC, and
the Office of the Comptroller of the Currency for deferring the
capital rules, and implementing the Basel III Interim Capital
Framework.
Both Dodd-Frank and the G-20 mandates aim to reduce
systemic risk and increase the transparency. Our concern is
that Basel III's one-size-fits-all rules for capital charges
based on the risk of cleared derivatives is at odds with these
objectives.
The Basel framework treats all cleared derivatives as if
they require a margin to cover a 5-day period of risk. This
means that highly liquid derivative contracts that trade by
means of central limit order book that can be easily and
quickly liquidated without substantial risk are put in the same
category as cleared OTC contracts that are not usually
liquidated or traded transparently.
Clearinghouses recognize the difference between these two
products. They require margin levels based on timeframes that
are justified by the actual risk inherent in liquidating the
positions. In the United States, this means 1 or 2 days for
futures, and 5 days for less liquid cleared swaps.
If capital charges are not based on properly measured risk,
it could encourage the use of higher-risk instruments. This is
inconsistent with both Dodd-Frank and the G-20 policy goal to
reduce risks in derivative trading by moving from opaque
markets to transparent markets.
Clearinghouses properly set margins for liquid derivatives
to cover 1-day risk. If banking regulators impose a capital
charge based on a 5-day, banks will be burdened with
unwarranted capital requirements. This cost will be passed down
to the customers trading liquid products in the form of higher
collateral or higher fees, once again contrary to the Dodd-
Frank Act.
This could distort customers' product choices. Customers
may move away from trading liquid exchange-traded derivatives.
There is the potential that central limit order book exchange-
traded products could be more expensive. The last thing we want
to do is drive customers back into an opaque OTC market because
of a one-size-fits-all margin period.
Basel III's one-size-fits-all margin period is also
inconsistent with the international clearinghouse standards.
These standards recognize that margin levels and risk periods
should correspond to risk and liquidity profiles: as I said
earlier, 1 to 2 days for futures; 5 days for OTC cleared swaps;
and then, of course, 10 days for uncleared swaps.
Liquid derivatives traded via a central limit order book
and cleared through a clearinghouse offer complete
transparency. They trade in deep liquid market. The turnover is
10 times more frequent than OTC swaps. Those characteristics
permit rapid offset and liquidation in the event of an
emergency.
There is no risk management benefit to the banks or the
system by imposing capital charges beyond the clearing level
margin established by these liquid contracts. We have expressed
these concerns in written comments to the Fed, the FDIC, and
the OCC. We have also had discussions with the Fed staff. In
addition, we have submitted two letters to the Basel Committee.
The agencies' capital rules should be amended to eliminate
the addition of 4 days' capital on top of a 1-day margin for
exchange-traded derivatives. This should be replaced with an
approach consistent with the current standards. These standards
recognize that margin periods will differ based on the
liquidity, transparency, and other risk-reducing
characteristics of each product.
I want to thank you for the opportunity to testify before
you today.
[The prepared statement of Mr. Terrence Duffy can be found
on page 126 of the appendix.]
Chairwoman Biggert. Thank you, Mr. Duffy.
Mr. Garnett, you are recognized for 5 minutes.

STATEMENT OF JAMES M. GARNETT, JR., HEAD OF RISK ARCHITECTURE,
CITI

Mr. Garnett. Good afternoon, members of the subcommittees.
My name is Jim Garnett, and I am the head of risk architecture
for Citigroup. In that capacity, I am responsible for
implementing the Basel III capital rules for Citi within the
United States and throughout the 160 countries and
jurisdictions where Citi does business around the globe.
Citi broadly supports the goals of Basel III capital rules
proposed by the U.S. banking regulators. As a global bank, Citi
has long supported risk-based capital standards along with
heightened liquidity standards. We recognize the importance of
capital to serve as a buffer against changing market and
economic conditions. Aligning capital with economic risks
ensures that adequate capital exists to cover risks and avoid
excess capital, which can unnecessarily constrain lending and
investment activities that support the real economy.
There are, however, certain features of the proposed rules
that deserve refinement in order to avoid unintended negative
consequences.
First, cumulative capital levels will unnecessarily
constrict credit for all but the Nation's most creditworthy
borrowers. Notably, small-business owners will be adversely
affected in the form of higher credit costs and constrained
credit availability, particularly because small businesses do
not have direct access to the capital markets.
To help avoid capital standards that divide consumers, we
support the industry's call for a quantitative impact study of
the proposed rules. Such a study would enable Congress, the
Federal banking regulators, and others to better understand the
impact of the proposed rules and, if appropriate, make
adjustments that avoid an unintended contraction in credit to
customers.
Second, the elimination of the filter for the accumulated
other comprehensive income in calculating Tier 1 common equity
will negatively impact the ability of banking organizations to
extend new credit, thereby reducing investments in U.S.
Treasuries, agency debentures, and mortgage-backed securities.
A better solution would be to continue to exclude
unrealized gains and losses in Basel III Tier 1 common capital
for available-for-sale securities of only the most creditworthy
and liquid issuers. This approach would create consistency
between the regulatory capital treatment of securities and the
regulatory capital and accounting treatment of the deposit
liabilities they are largely hedging. Further, it would reduce
the negative consequences caused by volatility in regulatory
capital levels.
Third, we are concerned about the apparent lack of uniform
application of capital and other supervisory standards within
the United States and globally. An unlevel Basel playing field
across national jurisdictions can arise from two different
sources. First, banking supervisors in different countries may
apply different standards when approving internal models or
approving internally calculated risk parameters.
Second, if the Basel rules are adopted and implemented
uniformly, a given rule can have a disparate impact across
national jurisdictions because of differences in market
structures and associated accounting standards across
countries. Thus, U.S. international banking regulators need to
ensure that the Basel III rules are applied consistently and
uniformly. Deviations in risk-weighing should not be allowed.
Finally, we believe the capital rules should be tailored to
different types and sizes of banks. Community banks are
justifiably concerned about the compliance costs imposed by
Basel III, and Citi supports a simpler set of risk-based rules
for these institutions. The Federal banking regulators should
reconsider the application of Basel III through traditional
community banks that do not have complex balance sheets and
permit such institutions to continue to comply with Basel I or
some other simplified risk-based capital regime.
In closing, I would like to note that Citi today is one of
the best-capitalized banks in the world. We support strong
capital requirements as one of the critical pillars of a safe,
sound, and effective financial system. We have added over $140
billion in new capital to our capital base. Our capital
strength is more than 5 times higher than it was during the
crisis. Although the Basel III capital requirements do not
fully become effective until January 2, 2019, Citi is well
under way toward complying with them, both the baselines and
the surcharges. We are in a position to put our financial
strength to work for our clients during challenging and
uncertain economic times, and we are doing so.
Thank you again for the opportunity to discuss these
important rules, and I am happy to answer any questions you may
have.
[The prepared statement of Mr. Garnett can be found on page
168 of the appendix.]
Chairwoman Biggert. Thank you very much.
Mr. Jarsulic--am I pronouncing that correctly?
Mr. Jarsulic. Yes, you are.
Chairwoman Biggert. You are recognized for 5 minutes.

STATEMENT OF MARC JARSULIC, CHIEF ECONOMIST, BETTER MARKETS,
INC.

Mr. Jarsulic. Good afternoon, Chairwoman Biggert, Ranking
Member Maloney, and members of the subcommittees. Thank you for
the invitation to Better Markets to testify today.
I will note that I am summarizing written testimony that I
have submitted to the committee, and I will restrict my
comments to two issues: the adequacy of proposed capital
requirements generally; and the application of these
requirements to community banks.
Let me begin by observing that the financial crisis
revealed two important weaknesses of the U.S. banking system.
The first weakness is that U.S. banks use far too much debt
and far too little equity to finance their positions. High
leverage makes them vulnerable to asset price declines and
creditor runs. This is very clear from the data. As detailed in
my written testimony, highly leveraged banks such as Washington
Mutual, Wachovia, Citigroup, and Bank of America all went
through similar scenarios. As the crisis developed and they
charged off loans and wrote down assets, markets doubted that
they were solvent. They either lost access to the capital
markets and failed or were rescued by the injection of
government equity and other crisis support.
Their losses, or the sum of their losses plus government
equity injections, were between 7 and 11\1/2\ percent of
tangible assets. The failure or near failure of these and other
important banks clearly indicate that banks require common
equity of at least 20 to 25 percent of tangible assets to
survive financial crises of the severity that we have just
witnessed. They require that much equity to absorb large losses
and remain viable.
The second weakness is that the broker-dealers operated by
large banks are highly exposed to the risk of very rapid
counterparty runs. Broker-dealer trading is heavily reliant on
repo financing, which can be highly unstable. In early 2008,
there was a general run on repo as firms and asset classes
became suspect even for overnight loans. By the end of the
year, the outstanding repo held by primary dealers contracted
from a peak value of $4.6 trillion to $2.4 trillion.
It is also the case that the broker-dealers with large
over-the-counter derivatives books are subject to rapid runs
during which their counterparties novate contracts, close out
contracts, or make margin calls. Runs of this kind materialized
during the financial crisis at Bear Stearns and Lehman
Brothers, contributing to the collapse of those firms.
Let me next observe that the proposed capital rules do not
adequately address either of these two weaknesses. The proposed
capital rules do not require banks to use nearly enough equity
finance. For example, the proposed rules require banks to have
common equity equal to 4 percent of on-balance-sheet assets.
But the evidence clearly indicates that banks require common
equity equal to at least 20 to 25 percent of their tangible
assets to survive financial crises of the sort we have just
witnessed.
In addition, the proposed rules do not require banks to
self-insure against the run risk posed by over-the-counter
derivatives and repo borrowing. The proposed rules allow banks
to calculate repo exposures net of collateral used to borrow
and to calculate derivatives exposures net of counterparty
exposures. These net calculations do not reflect the fact that
runs on repo finance will mean a loss of gross repo financing
or that the run on over-the-counter derivatives is related to
gross exposure to the weakened dealer. Instead, equity
requirements should rise as trading operations increase their
gross repo borrowing or gross derivatives exposures. This would
force banks to self-insure against runs.
Finally, let me observe that while it may prove useful to
make some adjustments to the proposed capital requirements for
community banks, those adjustments should be restricted to a
properly defined set of banks. The banking agencies have
indicated that the capital rules may need some changes to
account for issues that are specific to community banks. Some
real changes discussed in my written testimony may help
preserve the supply of credit to households without
significantly increasing the risk to the overall financial
system.
However, these changes should be restricted to genuine
community banks. Researchers often use an asset threshold of $1
billion as a proxy to identify community banks. If that
threshold were raised to $10 million, it would mean, with the
exception of some small banks and multiple bank holding
companies, 98 percent of all individual banks would be
considered community banks. Such a threshold would also
guarantee that large, too-big-to-fail banks would be prevented
from using changes to the capital requirements to unduly
increase systemic risk.
Thank you, and I would be happy to answer any questions.
[The prepared statement of Mr. Jarsulic can be found on
page 226 of the appendix.]
Chairwoman Biggert. Thank you.
Mr. Loving, you are recognized for 5 minutes.

STATEMENT OF WILLIAM A. LOVING, JR., PRESIDENT AND CHIEF
EXECUTIVE OFFICER, PENDLETON COMMUNITY BANK, AND CHAIRMAN-
ELECT, INDEPENDENT COMMUNITY BANKERS OF AMERICA (ICBA), ON
BEHALF OF ICBA

Mr. Loving. Good afternoon, Chairwoman Capito, Chairwoman
Biggert, Ranking Member Maloney, Ranking Member Gutierrez, and
members of the subcommittees. My name is William A. Loving,
Jr., and I am president and CEO of Pendleton Community Bank, a
$260 million bank in Franklin, West Virginia. I am also
chairman-elect of the Independent Community Bankers of America,
and I am testifying today on behalf of its nearly 5,000
members.
Basel III was meant to only apply to the largest
internationally active institutions, as opposed to community
banks with their simple capital structures and conservative
lending. Applying the same capital standards in addition to the
many other new far-reaching regulations that will soon become
effective will undermine the viability of thousands of
community banks.
In numerous ways, these rules strike at the heart of the
community bank competitive advantage: customized lending based
on firsthand knowledge of the borrower and the community. We
ask you to support an exemption for banks with assets of less
than $50 billion in size.
There are many overreaching provisions of Basel III in the
Standardized Approach. Individually and collectively, they will
fundamentally reshape the United States financial industry. I
will begin my remarks with the impact the rules will have on
residential mortgage lending.
New risk weights on certain residential mortgages will
impose punitive capital charges on all but standardized, plain-
vanilla loans. Customized loans such as balloon loans, a staple
of community banking, would move from their current 50 percent
risk weight to a minimum of 100 percent and potentially 200
percent, though they are fully secured by real estate.
In the rural areas I serve, many loans are ineligible for
sale into the secondary market because they lack comparables or
because the house sits on an irregular or mixed-used property.
I am happy to hold such loans in my portfolio, but the only way
I can protect my bank against interest-rate risk is to
structure the transaction as a balloon loan, typically with a
5- to 7-year maturity.
I and other community bankers have safely offered balloon
loans for decades. Because I retain these and other loans in my
portfolio, I have a vested interest in their performance. I am
not aware of any data whatsoever that demonstrates that balloon
loans are more risky than other types of credit. I would have
to seriously reconsider making these loans with a 100 percent
risk weight, let alone 200 percent.
Second liens, like home equity loans and home equity lines
of credit, would also become impossible under the new risk
weights. Prudently underwritten second liens serve a vital role
in the lives of homeowners: financing property improvements;
sending a child off to college; or starting a small business.
The new risk weights will drastically curtail residential
lending in the rural and underserved areas that community banks
serve, including mutual and thrift institutions. This is
especially true if combined with new rules on Qualified
Mortgages, Qualified Residential Mortgages, and other issues.
I will note one additional provision that will undermine
community bank regulatory capital. Requiring us to include
unrealized gains and losses on certain investment securities
will create volatility where stability is paramount. When
interest rates rise--and they surely will--today's paper gains
on Treasuries and other securities will rapidly become paper
losses. The sudden adverse impact on capital levels will be
substantial, though the banks' actual ability to absorb the
losses will remain unchanged. Large banks manage these risks
with interest-rate derivatives that are simply impractical for
community banks. Volatile capital levels send the wrong signal
to the public, depositors, investors, and regulators.
Many additional provisions are nearly as troubling, and the
total impact, as I have stated, could increase consolidation
and reduce the number of community banks. An economy dominated
by a small number of very large banks offering commodity
products would not provide the same level of competitive
pricing and choice and would definitely not be in the best
interest of consumers. Small towns in rural areas will face
curtailed access to credit and economic stagnation.
Thank you for convening this hearing and helping to raise
the profile of a significant economic policy issue with far-
reaching and still unappreciated applications. Your letters to
the bank regulators, both in their thoughtful quality and their
sheer number, have hopefully made a significant impression. We
look forward to working with you in this committee to obtain a
full exemption on Basel III and the Standardized Approach for
banks with less than $50 billion in assets.
[The prepared statement of Mr. Loving can be found on page
242 of the appendix.]
Chairwoman Biggert. Thank you, Mr. Loving.
Mr. Poston, you are recognized for 5 minutes.

STATEMENT OF DANIEL T. POSTON, CHIEF FINANCIAL OFFICER, FIFTH
THIRD BANCORP, ON BEHALF OF THE AMERICAN BANKERS ASSOCIATION
(ABA)

Mr. Poston. Chairwoman Capito, Chairwoman Biggert, and
members of the subcommittees, my name is Dan Poston, and I am
chief financial officer of Fifth Third Bancorp, a regional bank
based in Cincinnati, Ohio.
Fifth Third, like most other regional banks our size, is a
traditional banking organization. We are domestically focused,
serving our local communities by providing traditional banking
services, primarily consumer and business loans, deposits,
trust and related services. We are not complex or
interconnected, and we do not have large trading or capital
markets businesses.
We strongly support standards for appropriate levels of
high-quality bank capital. We also support a more risk-
sensitive system that applies broadly and treats similar risks
with similar capital treatment.
There are 7,000 banks in the United States, the vast
majority of which are community-based banks. Therefore, any
general risk weights must work for these banks or else they
don't work. We believe that such an approach would be entirely
appropriate for regional banks like Fifth Third, whose risks
are those of a traditional bank.
U.S. bank capital levels are now at historic highs. The
issue is not whether U.S. banks have the capital for these
rules; the vast majority of us do. It is the complex way that
the rules would operate that would be so damaging to our
customers and to the United States economy overall.
For example, the proposed risk weights would double the
capital required for certain traditional mortgage products. The
proposed rules are especially punitive to home equity lines of
credit, which have not demonstrated the risk implied by these
rules. We believe the rules as proposed would reduce mortgage
availability, tightening credit and raising the cost of these
products for borrowers and reducing credit to small businesses
that use equity in their homes to start up and support the
growth of their companies.
The risk weights would also raise costs and reduce credit
availability to many commercial borrowers.
We strongly recommend that the Standardized Approach be
withdrawn. The proposed risk weights have never been studied as
part of a capital framework. There is time for the careful
study that is absolutely critical to ensure consistent and
workable rules for all. This is especially the case given that
this proposal goes beyond any Basel agreement and is not
required by any Federal legislation.
All banks, large and small, would benefit from an effective
but much simpler replacement for Basel I than the one that has
been proposed. Banks large and small have voiced very strong
and remarkably consistent concerns about the complexity and
burden of the proposed Standardized Approach.
We very much appreciate that the banking agencies have
indicated that they are carefully considering these concerns
and will take them into account. We look forward to working
with the Members of Congress, banking regulators, and others to
address these issues for the good of all.
I thank you for your time today and will gladly answer any
questions you have.
[The prepared statement of Mr. Poston can be found on page
304 of the appendix.]
Chairwoman Biggert. Thank you, Mr. Poston.
Mr. Smith, you are recognized for 5 minutes.

STATEMENT OF PAUL SMITH, CPCU, CLU, SENIOR VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER, STATE FARM MUTUAL AUTOMOBILE INSURANCE
COMPANY

Mr. Smith. Chairwomen Biggert and Capito, Ranking Members
Gutierrez and Maloney, and members of the subcommittees, thank
you for providing State Farm this opportunity to testify on how
the Basel proposals impact savings-and-loan holding companies,
particularly those engaged in the business of insurance.
I have a written statement for the record which I would
like to summarize, and then I look forward to the questions at
the close of the panel.
State Farm is a proponent of strong capital standards, and
we appreciate the complexity facing the Federal Reserve as they
enact Dodd-Frank. However, applying a banking framework to
companies predominantly engaged in the business of insurance is
fundamentally flawed. It entails costly and questionable
reporting requirements and favors structuring capital in a
manner making insurers financially weaker, not stronger.
We are also asked to spend hundreds of millions of dollars
developing new accounting and reporting systems that provide
little, if any, added benefit over current conservative
accounting systems required by State law. Effectively, this new
system would be used exclusively to complete a form that does
not add value to the safety and soundness of the financial
system.
We do not believe applying the Basel framework to
insurance-based savings-and-loan holding companies is required
by Dodd-Frank and, in fact, think doing so runs counter to
congressional intent, as expressed most recently by Senator
Collins in a November 26th letter to the leadership of the
Federal Reserve, the FDIC, and the Office of the Comptroller of
the Currency. Instead, the Board should utilize longstanding
and effective State-based insurance regulatory requirements in
setting minimum capital standards for insurance companies.
Finally, unless the Board is willing to accept the State-
based capital rules, which it appears reluctant to do, we
believe the Board should repropose specific governing rules for
insurance-based savings-and-loan holding companies.
I would like to share a little bit about State Farm. State
Farm Mutual Automobile Insurance Company is a mutual company
founded in Bloomington, Illinois, in 1922. Through a network of
18,000 independent contractor agents and our staffs throughout
North America and with an employee base of 68,000, we are the
largest home and auto insurer in North America.
These businesses--property and casualty insurance--comprise
85 percent of our revenues. Adding in our life business, which
was founded in 1929, brings that revenue number to 98 percent.
We are clearly primarily in the business of insurance.
Our thrift comprises about 2 percent of our revenues but
provides important convenient service to customers in the
middle market. State Farm Mutual Automobile Insurance Company,
our primary automobile insurer, sits atop our holding
structure. And that is important because, as you listen to the
testimony, you have heard the discussion about holding
companies that own insurance companies or banks that own
insurance companies. Our holding company is an insurance
company, and it is not recognized within the regulations.
Banks and insurance are very different. Banks take
deposits, which are liabilities on the bank's balance sheet
since depositors can take their money back at any time. In
sharp contrast, insurers collect a premium to pay for
fortuitous or unplanned events.
Effective capital management of insurance companies is
driven by matching our liabilities and our asset durations.
Unfortunately, the banking regulatory model does not account
for the nature of insurance liabilities and punishes holding
longer-term assets. For a life insurance company, in
particular, with long liability horizons, short-term banking
regulatory preferences actually encourage asset-to-liability
mismatches.
Similarly, banking rules ignore the nature of property and
casualty liability risks faced by the insurance industry.
Ironically, since many lines of P&C are of shorter duration, we
could envision satisfying minimum capital standards under
banking rules at levels that would garner regulatory action at
the State level. So we would actually be looked at as well-
capitalized for banking purposes and fail regulatory capital
rules on the insurance basis.
This was recognized in a joint report with the NAIC and
Federal Reserve staff. And I will quote from a report that was
written in 2002: ``The effective regulatory capital
requirements for assets, liabilities, and various business
risks for insurers are not the same as those for banks. And
effective capital charges cannot be harmonized simply by
changing the nominal capital charges on individual assets.'' As
the rules have come out, that is exactly what we have tried to
do, and it is simply not an effective regime.
When you take the bank-oriented rules and combine them with
the uncertainty regulators have created for insurers through
the lack of specific rulemaking on the Volcker Rule, where
insurance thought longstanding State-regulated investment rules
applied, one wonders if there is any meaningful regard for
insurance issues among Federal regulators.
My time is up, but the bottom line is that banking rules do
not work for insurance companies and, we believe, are
inconsistent with legislative intent. We are respectfully
asking for rules that make sense.
Thank you.
[The prepared statement of Mr. Smith can be found on page
317 of the appendix.]
Chairwoman Biggert. Thank you, Mr. Smith.
We are having a vote right now, so that is why some people
have left. They will hopefully be back.
Ms. Wilson, you are recognized for 5 minutes.

STATEMENT OF GINA WILSON, EXECUTIVE VICE PRESIDENT AND CHIEF
FINANCIAL OFFICER, TIAA-CREF

Ms. Wilson. Thanks very much. Chairwoman Biggert,
Chairwoman Capito, Ranking Members Gutierrez and Maloney, and
members of the subcommittees, my name is Gina Wilson, and I am
executive vice president and chief financial officer of TIAA-
CREF. I appreciate the opportunity to testify regarding your
concerns about the regulatory proposals to implement an
enhanced capital regime for banking organizations.
TIAA-CREF is an insurance company with a not-for-profit
heritage and the Nation's largest private provider of
retirement benefits. Our primary goal is to ensure the lifelong
financial well-being of our 3.7 million clients working in the
academic, research, medical, and cultural fields.
Many of our clients have lifetime relationships with TIAA-
CREF and trust us to provide for their long-term financial
success. To ensure that we are meeting our clients' needs, we
offer a comprehensive set of low-cost financial products and
services, and among those services is a small thrift
institution that allows us to offer our clients the option of
banking with a company that they know and trust.
While our thrift company is less than 2 percent of our
total assets, it still brings us under the purview of the
Federal Reserve, and therefore subjects our entire organization
to the capital regime contemplated by the regulators.
TIAA-CREF believes in having a set of robust capital rules
governing financial institutions, and it is essential to
increasing the safety and soundness of the financial system. We
also believe the structure of the capital rules needs to
account for the unique business models of the firms to which
the rules apply.
The Federal Reserve's approach, however, is built solely on
the banking business model. As a result, the proposals fail to
adequately consider both the vast differences between insurance
and banking and the potential negative consequences of applying
a bank capital structure to an organization like TIAA-CREF that
has a small bank but is overwhelmingly engaged in insurance.
Let me be clear. We are not asking for an exemption from
the proposal. We believe that imposing the proposed structure
without consideration for the existing strict capital rules to
which insurers already adhere would negatively affect TIAA-
CREF's ability to offer our clients a full range of reasonably
priced products and services. Therefore, we are asking the
Federal Reserve to integrate the existing insurance capital
rules into the proposals as they move forward with the final
rulemaking process.
In drafting the proposals, the Federal Reserve has taken
the position that the Collins Amendment to the Dodd-Frank Act,
which was intended to permit due consideration of insurance
companies involved in banking, prohibits them from treating
insurance assets differently from banking assets. We
respectfully but definitively disagree with this
interpretation. We believe that the Collins Amendment provides
regulators with ample flexibility to integrate the existing
insurance regulatory capital regime into their proposed model.
Just this week, Senator Collins confirmed our
interpretation of her amendment in a letter to regulators. In
it, she states that she hopes regulators will ``give further
consideration to the distinctions between banking and
insurance.'' The Senator also goes on to note that Congress did
not intend for Federal regulators to supplant prudential State-
based insurance regulation with a bank-centric capital regime.
We appreciate Senator Collins' comments and believe that they
provide the Federal Reserve with a clear path forward.
In our written testimony and in our comment letter, we have
outlined two viable alternative approaches that would allow the
Federal Reserve to incorporate the existing insurance
regulatory capital regime into the proposals. These
alternatives would accommodate insurers who own thrifts, while
still imposing a robust regulatory structure on all banking
organizations. We hope regulators seriously consider these
alternatives, especially in light of Senator Collins' letter
stating that it was the intent of Congress that they do so. We
also ask the members of the subcommittees to keep these viable
alternatives in mind as you work with and talk to the Federal
Reserve about this initiative.
Thank you for your interest in our issues. Your assistance
and support is invaluable in complementing our own efforts to
ensure that the final rules adequately consider the business of
insurance. And I look forward to answering any questions you
may have.
[The prepared statement of Ms. Wilson can be found on page
326 of the appendix.]
Chairwoman Biggert. Thank you.
We will now turn to Members to ask questions, and I will
yield myself 5 minutes.
While the proposed Basel III rules are intended to reduce
the ability of banks to take excessive risks and damage the
economy, it seems like the very nature of the business of
insurance is not to take on excessive risk.
Could the proposed Basel III rules unnecessarily harm
insurance consumers, the industry, and the economy,
particularly those that might have a holding company or a bank?
Let's start with you, Ms. Wilson, and then go to Mr. Smith.
Ms. Wilson. I would say that the potential harm to our
policyholders is indirect, in that the risk-weightings for
longer-dated assets, which are really necessary for us to
provide retirement benefits, would cause us potentially to look
for less long-dated assets. And that would actually create risk
for the organization and potentially harm the returns that we
can earn in supporting those retirement benefits.
Chairwoman Biggert. Okay.
Mr. Smith?
Mr. Smith. Yes, I agree with Gina on that. And I would only
add that the cost of compliance--so we use a State-based
regulatory system for our reporting, a statutory accounting
that is auditable. And a conversion to a GAAP statement for the
State Farm organization would run a cost of somewhere in the
neighborhood of $150 million and over 4 years to implement.
Those are costs that would go toward regulatory compliance
and wouldn't be available to support our policyholders. So,
along with just the disconnect with the risk-weightings, you
also have the issues of cost of compliance that I think are a
negative impact to the industry.
Chairwoman Biggert. Okay.
Mr. Smith, can you envision a scenario where under the
proposed Basel III rules, an insurance company could look
solvent, but under State insurance regulations, the insurance
company could be subject to regulatory intervention?
Mr. Smith. Yes, in the property and casualty world,
basically the majority of the risk is actually carried on the
liability side of the balance sheet. It is in the loss
reserves; it is not on the asset side of the balance sheet. And
the assets are actually very conservatively managed because we
have to have liquidity for unexpected events. And that
conservative balance sheet fares very well under a Basel III
framework but ignores the risks to the company.
So we have run some of our affiliates through a model that
shows that it is actually shows the affiliates are well-
capitalized at a time that we would--well-capitalized from a
banking standpoint where they would be not well-capitalized or
even subject to regulatory involvement at the State level.
Chairwoman Biggert. Thank you.
We are going to stand in recess for a few minutes. Mrs.
Capito should be back, but I have to go vote. So we will be in
recess.
[recess]
Chairwoman Capito [presiding]. I will call the committee
back to order and recognize Ms. Hayworth for 5 minutes for
questions.
Dr. Hayworth. Thank you, Madam Chairwoman.
I have a question for Mr. Garnett regarding your testimony.
And of course, there is great concern about the harmonization
and the universal application of capital standards, supervisory
standards.
At this point, how do our efforts in the United States
compare with international efforts in terms of implementing
Basel III?
Mr. Garnett. I think that we are probably on the same page
with regard to the implementation of Basel III. As you may or
may not know, we have been managing to what we think our
interpretations are of Basel III for approximately a year now.
Dr. Hayworth. Right.
Mr. Garnett. We are getting new roles and drafts quite
frequently. But I would say that they were certainly ahead of
us with regard to implementing Basel II, which we did not do
here.
Dr. Hayworth. Right.
Mr. Garnett. But with regard to an all-in, if I can say
that, Basel III, I would say that we are probably on a similar
pace.
I think the concerns with regard to the implementation of
Basel III are similar, in the sense of we have raised in both
continents, if I can say that, we have raised an enormous
amount of capital; we have raised an enormous amount of
liquidity; we have right-sized our organizations; we have
simplified our organizations.
And the question we have now--and I think it is the same
question that the Europeans have--is, where is the right
balancing spot between when enough is enough and when we start
to impair doing business that we should be doing business?
Dr. Hayworth. Right.
Mr. Garnett. And I think that is what we are both
struggling with. I think that, obviously, some of that had to
do with the delay that we have seen here and most certainly has
a lot to do with the delay that we have seen in Europe.
Dr. Hayworth. But presumably, you have to act in an
anticipatory way because the cost of retrofitting--
Mr. Garnett. Yes. I can't take the chance of nothing
happening, nor have we. As I said, we are implementing and
adhering to and making business decisions every day as if Basel
III were with us.
Dr. Hayworth. And you have rightly noted the cost, the
opportunity cost, if you will, of overregulating. If you never
want to fall off a bicycle, don't get on; you just won't go
anywhere.
Do you think that we risk--the further we go, do you think
we risk tipping the balance in a way that is detrimental to our
capital markets, to our opportunities for growth?
Mr. Garnett. I think there has to be a line in the sand
somewhere. I am not quite sure where it is.
Dr. Hayworth. But do you think it is somewhere within Basel
III, Mr. Garnett? Do you think--
Mr. Garnett. I think with regard to where at least we as an
institution are adhering today to Basel III and the ratios that
we produce, we believe as in institution we are well-
capitalized, in a very strong position of liquidity, which is
also, most people forget, a part of Basel III.
Dr. Hayworth. Right.
Mr. Garnett. We have simplified. We stress ourselves six
different ways every month. We are complying with the CCAR
requirements that put us and several other financial
institutions through significant stress tests via the Fed.
And it is my personal opinion, with the amount of capital
that has been raised as a result of Basel III and other related
requirements, that we are at a point now where we really need
to stop and think, if you would, about how much more we need to
go before we impair lending to consumers in the United States.
Dr. Hayworth. Right. That is an enormous issue and one,
certainly, that I hear about on the community bank level.
Because I have had very good people come to me and say, I can't
get a loan from my bank anymore because the regulators are
leaning so heavily on them.
Madam Chairwoman, thank you. I yield back.
Chairwoman Capito. Thank you.
Mr. Miller, do you have any questions?
Mr. Miller of North Carolina. I think Ms. McCarthy has more
seniority, but she is being very gracious today.
Mr. Jarsulic, I am sure you heard my questions earlier to
the earlier panel about living wills. And I know the answer was
about the Orderly Liquidation Authority, but the idea of the
Orderly Liquidation Authority is to be guided by what is in the
living wills. You have to know what you are going to be looking
for if one of the systemically important institutions goes bust
and what is going to be required.
Are you satisfied with what New York Fed President Dudley
described, I think earlier this week or last week, of the first
round of living wills being the beginning of an iterative
process, where now we are learning what the impediments will
be? And we certainly know what a difficult time we would have;
we have learned that. And ultimately, there may be changes to
the banks as a result of the living wills.
Before the reforms of the New Deal, the deposit insurance,
the prudential regulation, we didn't have financial crises
every few generations, we had them every few years.
Are you satisfied with the pace of the living wills
process?
Mr. Jarsulic. Let me say that I am not familiar with Mr.
Dudley's speech. But I think that, looking at the level of
equity that banks currently hold, I am not confident that the
banks are really far away from the fragile state that they were
in prior to this crisis. And, therefore, that puts a stronger
weight on the ability of Federal regulators and Federal
agencies to respond should something go wrong with one of these
very large banks.
And I am not at all surprised that it has been very
difficult for the banks and the regulators to converge on
living wills given the complexity of the organizations that we
are talking about. There was a study recently by people at the
New York Fed looking at very large bank holding companies, and
some of them have literally thousands of subsidiaries.
So to construct a plan to quickly and effectively resolve
an institution that complex seems on some levels very, very
difficult. And, therefore, it seems to me that adds impetus to
the need to provide other safeguards and not to rely on a
backstop should something go wrong. Therefore, capital
requirements, I think, are extraordinarily important.
Mr. Miller of North Carolina. I am all for more equity.
And, obviously, the importance of having an equity cushion, a
capital cushion if something goes wrong, makes it less likely
that there would be a catastrophic collapse of a systemically
important institution.
But just today there is an article that the Bank of
England--their financial policy committee said that the banks
may be overstating their capital because they are understating
the risks with different kinds of assets, not really taking
losses on troubled loans.
Would the same thing be true in the United States? It is
pretty striking that the market value of the stock of almost
all of the biggest banks is well below the book value, which
suggests that the market doesn't quite believe their
accounting.
Professor Admati, do you want to--
Ms. Admati. I commented about this in my written testimony,
because when you ask how well-capitalized they are, the
question is, what measures do you use for that? What measures
of the equity, what measures of the assets, so that you can
look at capitalization?
It is, in fact, the case that market values are very low.
And in a book by Mike Mayo, an analyst, he estimated in 2011
that there are $300 billion in unrecognized losses. Some of
what we see in terms of mortgage renegotiations, even eminent
domain debates and all of that, has to do with banks--with the
inconvenience of recognizing losses.
Of course, if you use accounting measures to measure
capital, then you might look better than you actually are, and
the market knows that. So I am quite concerned about the lower
market values because those are the ones that are relevant also
for raising equity. Unfortunately, the banks did lose, and,
unfortunately, they are weak.
So I think the Bank of England is right spot-on in
challenging the banks on giving a correct picture. And even in
Europe, when they did their special requirements, which were
very helpful to the banks that complied with them, they made
sure that they recognized more losses.
When you have denial, as we saw in the savings and loans,
as we saw in Japan and other places, that does not help the
economy. Banking problems should be recognized early. We have
potentially some zombie banks. The book claims that Bank of
America and Citi might be insolvent, so we don't know.
Chairwoman Capito. The gentlewoman's time has expired.
I am going to recognize myself for 5 minutes for questions.
I want to start with Mr. Loving.
In your statement and in other statements, it was
mentioned, the Qualified Mortgage issue, the rule that is still
pending. You and I talked about this when I visited the bank
several months ago. And I specifically asked the regulators the
question, as did a lot of other Members because there is a lot
of concern.
Are you satisfied with the response in terms of that they
are actually looking at the interplay between these two issues,
very large issues, and how they could impact a bank of your
size?
Mr. Loving. It is certainly encouraging to hear that they
are looking into it, but it is still concerning if the two
would come together at the same time or even separate.
When you look at the definition of QM or QRM, if it is
defined too narrowly, it could potentially force many
institutions, community banks that provide much of the lending
in rural and underserved areas, it could force them out of the
mortgage market. And if you add to that the additional capital
reserves that would be required by Basel III, it could be a big
issue.
I am, as I said, encouraged that they are looking at it. I
hope we have an answer soon on a definition of the Qualified
Mortgage and hope it is not too narrow.
Chairwoman Capito. Thank you.
Mr. Garnett, could I ask you to educate me a little bit--I
know you have been in risk analysis for a long time for a large
institution. And we have heard a lot about risk-based assets
and how they are going to be assessed.
But going forward--we can predict today what maybe the risk
is on a lot of on financial instruments, but you have to have
elasticity enough to be able to price the risk of the financial
instruments of the future. And I think, obviously, from 2008,
some of the risk was not properly assessed by the institutions
or the regulators.
What advice would you have, looking forward--this is a
little off-topic--but looking forward--because it is topical in
terms of how you are going to set these regulations--that we
are not pricing the risk-based assets today for Basel III but 5
years from now they are going to be insignificant because of
the change in the marketplace? Do you have any thoughts on
that?
Mr. Garnett. I do. And inherent in any measurement using
models, most usually look over their shoulder to help them
conclude on whatever you are asking the model to conclude. And
looking over your shoulder is not always necessarily going to
give you the clearest path forward, as you said.
What has been done, and has been done not only by the
industry but by the regulatory community, has introduced very
rigorous stress testing, coming up with hypothetical scenarios
to test our resolve and to test the loss-absorption capacity in
our institution, whether that be testing liquidity or testing
losses that may be absorbed by our capital or our reserves.
The CCAR is a perfect example of where I think the industry
over the last 3 or 4 years has begun to do a lot more forward
looking, a lot more hypothetical thinking, rather than simply
relying on the past, which unfortunately is an inherent
weakness with relying solely on models.
And that is one of the reasons, I think, that our
regulators are not solely relying on Basel, they are not solely
relying on recovery or resolution plans, they are not solely
relying on new liquidity. But when you put the stuff together,
it makes a pretty powerful package.
Chairwoman Capito. Thank you. I think that is an important
issue to keep before the committee as we move through these
next several years, because you can't anticipate--we were never
able to really anticipate where the weaknesses were. Maybe we
weren't looking hard enough or looking in the right places. But
you always hear profit-makers are always a little step ahead of
you, and so we know that is the case.
Mr. Poston, let me ask one last question. You heard the
regulators express the fact that they were looking through the
thousands of comments. How does that make you feel? Better?
More relieved that they are actually taking this issue that has
been brought to them by regional banks and others seriously? Or
do you have any comments on anything you heard them say today
that caused a red flag for you?
Mr. Poston. I wouldn't say anything raised concern relative
to a red flag. However, there are 2,000 comment letters, there
are lots of different views with respect to these rules.
Certain elements of the rules--the feedback from the industry
has been remarkably consistent. And I am hopeful and encouraged
by the fact that they have said they are committed to reviewing
those comments and taking those comments seriously as they
finalize these rules.
Chairwoman Capito. Thank you.
My time is up. I will say the consistency that--we also
heard that consistently across both the Republican and Democrat
side here as we raised the concerns.
Mrs. McCarthy?
Mrs. McCarthy of New York. Thank you. And thank you for
having this important hearing.
I will have to say, and I will repeat the chairwoman's
words, there are many of us on both sides of the aisle who are
very concerned about what the rules have been. Because it
certainly was not our intent for those who had worked on this
side of the aisle, the Frank side. We left the language that
way because many of us do not believe that one-size-fits-all.
You have insurance companies here, you have regional banks
here, you have community banks here. They all have different
models. So we were hoping, in their wisdom, they would
understand that.
With that being said, though, I believe both sides of the
aisle have been working. We will continue, in my opinion, to
speak out very diligently to come up with a fair ruling. We do
not--and this is something that Barney Frank said right in the
beginning when we started working on the Frank bill. And it
took us almost a year-and-a -half to do it. We took our time,
trying to cover everything. Obviously, we couldn't cover
everything. But with that being said, I think we did a very
good job on that.
With that being said, I have a curiosity because the bottom
line is what we are trying to do is protect our constituents.
That has always been the bottom line for all of us.
So, Ms. Wilson, with your line of business--because I know
that in your company you take care of middle-income families.
They are nurses, they are teachers, they are all along those
particular kinds of jobs. How would the changing of the rules
as they seem to be going with the regulators, how is that going
to impact your customers, your clients?
Ms. Wilson. Thank you very much for the question.
We serve about 3\1/2\ million participants, and we protect
their retirement savings. And to the extent that these proposed
rules and the risk-weightings for some of the longer, more
diverse asset types in America will get a heavier risk-
weighting, that might cause us to invest less in America for
long-term construction projects, for long-term bonds for
corporate America that are creating jobs.
And what that does to our participants is it actually
potentially would reduce the amount that they will get in
retirement, which to us is really the wrong answer. We have
looked at the insurance regulatory regime for how much capital
an insurance company needs, and it has worked very well for
decades. And it is based on pretty rigorous analysis where the
risk exists in the insurance products and in the assets we
carry. And if we can't get that match between the long assets
that we buy and the long promises we are making, we could
potentially disadvantage our customers.
Mrs. McCarthy of New York. Just a very quick, maybe a yes-
or-no answer: During the really rough years, did any of your
clients lose their monthly check?
Ms. Wilson. They did not. In fact, we probably benefited
indirectly from the crisis, in that we had more people who were
willing to trust their money with us.
Mrs. McCarthy of New York. Excellent.
Mr. Loving, when you had given your testimony, you
basically came up with the banks not being looked at for--you
put a price tag on it, $50 billion. How did you come to that
particular amount of money?
Mr. Loving. The $50 billion aligns itself with the limit
that was set in the Dodd-Frank for the systemically important
institutions. And so that is where that limit came from as a
cutoff for those that should be exempted from the Basel III.
Mrs. McCarthy of New York. Just following up a little bit,
if the rule goes into effect as the FRB proposed, what do you
think will be the bottom line, Ms. Wilson, on your company?
Ms. Wilson. We will have to see what the final rules look
like before we have a full assessment. Right now, we are doing
modeling to see what it would look like under the proposed
rules. And we are probably going to have to make some changes
to our investment philosophy, if you will.
Mrs. McCarthy of New York. I would say to all of you that
this is one of those issues, whether the full committee agreed
with Dodd-Frank or not, that we are working together again to
try to--certainly, because we don't want to stifle the economy.
But the bottom line is we want to make sure our constituents
are protected. It is all of your reputations that are on the
line to do the best for them. Because if your reputation goes
down the tubes, you are not going have any clients, and that is
the bottom line.
Thank you for your testimony, and thank you for your
patience basically the whole day.
Thank you. I yield back.
Mr. Canseco [presiding]. The Chair recognizes Mr.
Luetkemeyer for 5 minutes.
Mr. Luetkemeyer. Thank you, Mr. Chairman.
I will yield my spot in line to the gentleman from Ohio if
I can pick back up after him.
Mr. Canseco. Certainly.
Mr. Luetkemeyer. He has another committee to go to. Thank
you, sir.
Mr. Canseco. Okay.
Mr. Stivers?
Mr. Stivers. Thank you. I appreciate the gentleman from
Missouri allowing me to scoot up a little bit.
I appreciate all the witnesses' testimony. My first
question is for Mr. Poston.
You talk about in your testimony the concern about the
Standardized Approach for risk-weighting. And, I was really
taken by a point you make on page 7 about how some
nonperforming loans actually are seen as less risky than home
equity lines of credit and other mortgage products.
Would you like to talk about that a little bit? Because
that does seem incomprehensible, that a nonperforming loan
would be less risky than a loan that is performing.
Mr. Poston. Yes, I think your question gets to a point that
I think has been one that many in the banking industry have
focused on, and that is the treatment of mortgage loans and the
treatment of home equity loans. And the risk-weighting with
respect to those categories of loans has been made excessively
more complex than it has been under prior rules and is very
punitive, in the view of most in the industry.
So the example that you point out gets to the
inappropriateness, in our view, of the risk-weightings of
mortgage loans and home equity loans and what we believe will
have a significant negative impact on our customers in terms of
the availability of that type of credit as well as the cost of
that type of credit.
Mr. Stivers. Thanks.
And with regard to that, sort of a formulaic approach to
risk-based weighting, where the regulators assume they know
exactly what the risk of every potential problem is, seems to
me like it is very problematic because, in my experience--I
have been in the Army 30 years, and the generals always want to
fight the last war. And this appears to me like we are creating
a Maginot Line that the regulators today believe is
impenetrable. And, as we all know, in World War II they just
found another way, and we don't always judge the right crisis.
Does anyone else want to talk about the concerns of sort of
the standardized risk-weighting? I know that in Mr. Loving's
testimony, it was something you addressed. Is there anybody
else who has concerns about it, the formulaic approach where we
pretend to know exactly what the risks are in some mathematical
formula?
The professor is shaking her head. Maybe she would like to
address something, too. Mr. Loving first, maybe, and then the
professor.
Ms. Admati. Oh, sure.
Mr. Loving. Yes. When you look at the Standardized Approach
and the risk weights that are applied, it does create some
question as to the real estate marketplace and the risk weights
that are placed on certain real estate loans versus other
components, whether it be commercial loans or home equities.
They all carry a different level of risk, but I am not sure
that a 200 percent risk weight is the appropriate level on a
balloon mortgage or even a home equity.
Mr. Stivers. Go ahead, Professor.
Ms. Admati. Yes, it seems like they are fighting the last
war in a very narrow way. They are not learning the really big
lesson, which is more what you said, that it is an illusion
that we can measure these things, that there are a lot of
things, that it is sort of about unknowns, it is about having
an actual buffer.
Even in the stress testing, by the way, there is a lot of
reliance on models.
Mr. Stivers. Right.
Ms. Admati. How would you predict, and do you know the
contagion mechanism, and do you really know what AIG is
holding, and do you really predict these things?
So we should be humble about our ability to do this
modeling. And I am saying this as a theorist in finance.
Mr. Stivers. Great.
Mr. Poston. If I could just add to that, I think--
Mr. Stivers. Sure.
Mr. Poston. --the other concern, I think, with the risk
weights, in our view, is that those risk weights are driven off
of qualitative factors largely about product structure and not
on the elements that we believe drove risk and drove losses
through the last crisis. And those are more things about how
the loan is underwritten, what the debt-to-income ratios are,
what the FICO scores are, what the creditworthiness of the
borrower is.
So, in our minds, being more risk-sensitive makes a lot of
sense, but the rules seem to focus in on the wrong thing.
Mr. Stivers. Sure. And to follow up on that, Mr. Poston, do
you think that capital rules should be tailored to the
complexity of the institutions that are covered at all or--
Mr. Poston. Yes, we would support capital rules that are
related to the complexity, but I think it is important to
recognize that it is the complexity of the activities that are
going on--
Mr. Stivers. Right.
Mr. Poston. --that needs to be focused on. So I think
focusing on the complexity of derivatives activities or capital
markets activities, international activities is appropriate.
One thing I think that concerns me, concerns Fifth Third,
concerns some regional banks, is that size is sometimes used as
the only barometer of risk.
Mr. Stivers. The proxy.
Mr. Poston. And I think these rules really need to look at
the underlying activities and make sure that for the same
underlying activity, irrespective of the size of the bank, it
gets the same capital treatment.
Mr. Stivers. It is what you do, not how big you are.
Mr. Poston. Absolutely.
Mr. Stivers. I yield back the nonexistent balance of my
time, Mr. Chairman.
Mr. Canseco. Thank you, sir.
The Chair now recognizes the gentlelady from New York, Mrs.
Maloney.
Mrs. Maloney. Thank you all for your testimony. We have a
lot of activity today, and the caucusing on the Floor, and many
of us could not be here the whole time. I would like to ask Ms.
Wilson and Mr. Smith, do you believe that the regulators have
enough flexibility within the current law to structure the
Basel rules to make distinctions between insurance companies
and other financial institutions?
Mr. Smith. I will take a shot at that first, and Ms. Wilson
will clean up after me. I think, clearly, if we consider the
legislative intent, and as confirmed by Senator Collins in her
letter early this week, the equivalency is the test, not the
same set of rules. And so if you apply an equivalency standard,
you can actually use the insurance-based model and say, what is
equal to the capital strength that would be applied within the
Basel framework to a bank, and not necessarily formulaically
apply that same set of rules.
And so I believe, yes, there is flexibility within, and
clearly legislative intent to deliver that flexibility that
Basel III is a floor. It was not a formulaic approach. It was
an intent to get equivalency of capital standards. And there
are clearly a lot of strengths in the State-based regulatory
capital system that could be looked at for equivalency to the
Basel rules as applied to banks.
Mrs. Maloney. Ms. Wilson?
Ms. Wilson. I would agree. And I think the other important
thing that the Federal Reserve has talked about is making sure
that there is a floor and there is absolutely no impediment to
making sure that you have this no less than, and the
equivalency covered, even if you respect the insurance capital
regime that is already in place.
Mrs. Maloney. Okay. What changes, Ms. Wilson, could the
regulators make that would possibly improve the situation and
that will recognize the distinct business models of your
organization, insurance, and other organizations? And also, Mr.
Smith, if you would like to comment?
Ms. Wilson. What we had proposed in our comment letter were
two different ways that the Federal Reserve could adjust their
approach to recognize the fact that insurance companies are
already well-regulated by State insurance regulators: one is
referred to as the deduction approach; and the other one is a
calibration approach. We think either one is a possibility.
If I could describe one, it is almost like looking at the
two different parts of the organization separately, giving them
a blended grade, and saying that is good enough. The other one
is actually kind of doing an equivalency test between metric
and sort of U.S. standards. So it is not that hard. We just
think that it wasn't really considered.
Mr. Smith. And I don't have really anything to add to that.
I think the way that TIAA-CREF has proposed addressing this is
very logical in looking at the existing system and adding to
that and making sure you have a comprehensive view of the
organization, but not necessarily forcing it into the same
model.
Mrs. Maloney. Okay, thank you.
And, Mr. Jarsulic, we heard testimony in our offices here
today that the smaller community banks and regional banks,
where they have said that complying with the Basel formula will
mean that mortgages will be harder and more expensive to obtain
and there will be less capital out there. Are you sympathetic
to that argument?
Mr. Jarsulic. I am not sure precisely where they feel the
increased cost is coming from. If the increased cost is coming
from--
Mrs. Maloney. They are talking about the 20 percent
downpayment that a lot of people don't have. If you are a low-
or moderate-income worker, you don't have a nest egg to put it
down, and it might limit their ability to get credit and to get
mortgages and to move forward.
Mr. Jarsulic. The claim seems to be that if we have to have
greater equity backing the lending that we are doing, that is
somehow going to increase the cost of finance to us. And I
think the data don't really support the notion that lower
levels of leverage are correlated with higher costs. If you
look at the historical data--there are some cited in my
testimony--there does not appear to be a correlation between
leverage levels and cost of finance. It doesn't seem to
translate.
So while these banks may have other issues with some of the
rules for mortgage lending under Basel III, it is not clear to
me that there is going to be an increased cost of finance.
Mrs. Maloney. I would like to see if Professor Admati and
Mr. Loving and Mr. Poston would respond, but I also want to ask
for comment on an article I was reading last night that said
that Basel II had no capital requirements compared to Basel
III. And then the swing from that, Basel II never went into
effect, but that was the article that I was saying, that there
was a tremendous swing.
And if anyone would like to comment also on community and
regional banks. Of course, they are going to be regulated by
Dodd-Frank, but should they also be required to go into Basel
III even though they are not doing any international commerce
at all? They are saying that it is going to really hurt them,
and I would like to hear the panel's response to that.
Mr. Loving. I will comment on that as it relates to
community banks and being applied to Basel III. As I have said
in my testimony, many of the provisions are going to create
hindrances, in some cases, exit of the institutions from the
mortgage market.
As was mentioned earlier, the possibility of QM and QRM
coming into existence at the same time, although in itself they
created a problem in themselves, if they come together, it will
create real problems, and increase cost in trying to determine
if it is a fully docked loan or not a full doc loan, and
whether it needs to be a category one loan, or a category two
loan, and simply the cost involved to determine whether it is a
category one or a category two loan.
In our case, looking at previous underwriting, because we
know our borrower, we would have to go back on a file-by-file
review to determine if it meets the requirements of a fully
documented loan, simply because we may not have required a
verification of employment.
In our area, we know where they work, we know where they
live, and we know what they make. And so that creates a
significant problem for us and many community banks across the
country.
Ms. Admati. I would like to comment on that. When you say
Basel III, there are really two things there, there are the
levels and there are the risk weights. The levels, I concur
with Mr. Jarsulic's comments. On the levels of equity, there is
no problem there except for transition. We want the levels to
be higher so the downside is where the upside is. So there is
just a question of being operating at the safe level, and not
compare it to speed limit or something.
On the risk weights, there could be huge distortions. So I
agree with the comments that this notion of complicating the
matters and starting to fine-tune, exactly changing their
incentives to do something versus another in one particular
way, and then having the risk go some other places, what the
regulations think are safer, but are actually not safer, or
becomes unsafe, that is not a good path.
So I am in favor and many academics are in favor of very
high, and cruder, simpler kinds of requirements. But we
especially want the markets to work. We want the markets to
guide investments and funding decisions.
Mr. Canseco. The gentlelady's time has expired.
And the Chair now recognizes the gentleman from Missouri,
Mr. Luetkemeyer.
Mr. Luetkemeyer. Thank you, Mr. Chairman.
I just want to talk with Mr. Smith for a second with regard
to--Mr. Miller, back here behind me in the first panel, were
you listening to his discussion?
Mr. Smith. Yes.
Mr. Luetkemeyer. He made some really good points with
regard to the assessment of your securities that you invest in
to offset the term of the investments that you make or the
policies that you write.
Mr. Smith. Right.
Mr. Luetkemeyer. Can you give me some for instances here of
the direct effect it would have on your business with regard to
if they downgrade their securities so that you have to put
additional securities in there, or you have to put more
additional capital in there, how would you offset this
situation to make sure it didn't impact or how does it impact,
I guess, your portfolio of--
Mr. Smith. I appreciate the question. I think we would
ground the answer to that question in the fact that we are a
very well-capitalized organization, and under any of these
standards we show up as a well-capitalized organization.
Relative to our business model, frankly, we wouldn't change,
because for us to change the business model in response to the
regulatory scheme would be a shame. And it would be
inappropriately matching the assets to the liabilities.
If you forced the matching to be shorter term, so if you
took the life insurance industry and put it in shorter-term
duration assets, you effectively would be driving down the
yields, or the crediting rates associated with the policies,
and you would be hurting the policyholders who purchased it.
The longer-term view with quality bonds is actually a very
effective way to fund those long-term liabilities.
Mr. Luetkemeyer. My question is, if the regulators come in
and say that the quality of your bonds is not as good as you
think it is and they start arguing with you about that, how
does that impact your cost for the products that you have or
are you going to have to go out and purchase different
securities to match off or how would you solve the problem?
Mr. Smith. The costs would increase if we had to move in
that direction. Frankly, we would be faced with a decision as
to whether we would stay in the banking business, which many of
our competitors have made a decision to exit the business. It
is a shame when the regulatory framework puts upon the industry
a change that actually causes people to say, it is just not
worth it because I can't conform.
And so, we are really faced with that decision at the same
time we would face the funding decision. Given 98 percent of
our revenue is from insurance, it would really call into
question the banking. And we feel that having a bank is
actually good for the United States, so it is a positive thing.
Mr. Luetkemeyer. I am asking with regard to the insurance
portion of your business. That is where I am going with my
question.
Mr. Smith. It would raise the cost. It would raise the cost
and it would make some products difficult to offer.
Mr. Luetkemeyer. Okay, thank you very much.
Mr. Loving, with regard to all the community banks, they
hold their securities to maturity most of the time. Very few of
them trade their securities. So one of the things with Basel
III here is that they want to look at every single security,
and then making you charge off or add to your capital account
the unrealized loss or gain from what you are doing here. And
it is really difficult for a lot of the smaller institutions
because obviously they hold them to maturity and it is not a
big deal to them.
What effect do you think this would have on the smaller
institutions with regard to their purchase of local bonds? In
other words, a lot of your community banks will buy the local
hospital bonds, they will buy the local sewer bonds, the local
fire department bonds to help their own communities be able to
build or help them to exist, provide the services for the
community. How would that affect their ability to support the
community with those types of investments?
Mr. Loving. I believe that those particular investments
will be looked at and will have to be looked at under
additional requirements as to the value and the
creditworthiness of that particular investment. There are some
regulations coming down that guide us on how we value and
underwrite those credits.
So I think there will be an impact. I think it will be a
negative impact on the ability to hold and to buy those and
there may be an impact on the value of that institution, or of
that obligation that you are--
Mr. Luetkemeyer. Do you think that you would probably cut
back on the amount that you would invest, instead of 1 percent
of your investments in local bond issues, maybe half a percent
or something like that?
Mr. Loving. Each institution would probably evaluate it
differently and specifically, but, yes, I think in general,
there would be a deduction or a decrease in the amount
purchased and held.
Mr. Luetkemeyer. Mr. Poston, Mr. Jarsulic made a comment
with regard to the increased cost of mortgages, that he didn't
think there was an increased cost. Would you like to make a
comment about that?
Mr. Poston. Yes, thank you. I think Mr. Loving addressed
earlier some of the increased costs with respect to mortgage
lending with respect the to the administrative costs, and I
would certainly agree with those comments. The other thing I
would point out is that perhaps in some of the discussion here
of those who think that there is no significant increase in
costs, they are not considering the cost of capital.
To the extent that a tremendous amount of additional
capital is required to be held by that loan, that loan is in
fact funded not by customer deposits, or not by borrowings
which carry a much lower rate, particularly in this rate
environment, that cost may be half a percent, three-quarters of
a percent. If you have to fund greater portions of that loan
with equity, the cost of equity is 12 or 13 percent, so it is
multiples of 20 times the cost in terms of the funding costs of
that loan if it is funded with equity or capital, rather than
borrowings or deposits.
Mr. Luetkemeyer. Okay, thank you.
I see my time is up. Thank you, Mr. Chairman.
Mr. Canseco. Thank you.
The Chair now recognizes the gentleman from California, Mr.
Sherman, for 5 minutes.
Mr. Sherman. Thank you, Mr. Chairman.
Mr. Garnett, you might be best for this. Basel envisions
marking to market those securities identified as available for
sale. And I could imagine a bank having to decide whether a
particular bond that had declined in value is available for
sale. Does management pretty much get to pick which ones are
available for sale and which are not?
Mr. Garnett. No, they do not.
Mr. Sherman. What is the definition of a security available
for sale?
Mr. Garnett. It is a security that you want to have the
ability to sell for liquidity purposes. It is not an asset you
are going to hold to maturity, and it is not a trading account.
Mr. Sherman. Okay, but I am a local bank. I buy some water
bonds, I buy some sewer bonds, I buy some school bonds.
Mr. Garnett. Right.
Mr. Sherman. And every year, I have to decide what is my
intention. Do I want to hold these to maturity or not?
Mr. Garnett. At the time you purchase that security, you
must determine.
Mr. Sherman. And that is permanent for the entire--so if I
change--
Mr. Garnett. That is where you start.
Ms. Sherman. That is where you start.
Mr. Garnett. Right now. If you want to change and move a
security that is held for sale into a held to maturity, it must
be done at the current market value. So you can't simply ignore
any gain or loss in that transfer.
Once you move it into held to maturity, it is there
forever.
Mr. Sherman. So there is no way to, if a security has
declined and you designate it as available for sale when you
purchase it, there is no way to delay the recognition of the
unrealized loss because you either keep it as available for
sale and you would have to recognize that, or you redesignate
it and that act causes the recognition.
Mr. Garnett. Recognizing the loss, yes, sir.
Mr. Sherman. And if it was a security that you knew was
going to go further down in the future, if you really knew
that, you would sell it now?
Mr. Garnett. That is correct.
Mr. Sherman. Okay. So really do have a mark-to-market on
anything that wasn't designated as hold. What about the other
direction, though? You buy a security. It goes up in value. And
you had it designated hold to maturity and now you want to make
it available for sale.
Mr. Garnett. You cannot do that, sir. Hold to maturity, you
are stuck.
Mr. Sherman. Hold for maturity, even if you have called
your broker and he is a minute before selling it, it is still
not available for sale.
Mr. Garnett. You might be able to sell it just before you
go and visit the FDIC before they put you into resolution.
Mr. Sherman. Okay. On the other hand, if you actually sell
an asset that was designed to be held for maturity, that is a
recognition event that increases your capital if you sell at a
profit.
Mr. Garnett. That gain would already be recognized in your
capital because you are already marking it to market.
Mr. Sherman. You are marking to market the hold to maturity
securities?
Mr. Garnett. No, I thought you said the--
Mr. Sherman. Okay, if you buy something and you are going
to hold it to maturity, you put it in that account.
Mr. Garnett. Yes, sir.
Mr. Sherman. It goes up in value a couple million bucks and
you sell it. Have you increased your capital by a couple
million bucks?
Mr. Garnett. You cannot go to held to maturity and sell
things prior to maturity.
Mr. Sherman. Wait a minute. I buy a 30-year bond.
Mr. Garnett. Yes.
Mr. Sherman. I intend to hold it to maturity. For business
reasons, a new business plan, after holding it for 5 years I
want to sell it, and the banking regulators won't let me sell
the bond?
Mr. Garnett. In what account did you put it?
Mr. Sherman. The hold to maturity when I bought it but I
changed my mind.
Mr. Garrett. You cannot change your mind, sir.
Mr. Sherman. That is a hell of a straitjacket.
Mr. Garnett. We can't blame that on the regulators. That is
a very clear accounting regulation.
Mr. Sherman. Accountants, and I am one, account for what
you do. We don't tell you, you can't do it. I have never heard
of a business being told it can't sell an asset.
Mr. Poston, do you agree with that, that under existing
bank regulations, if you buy something intending to hold it to
maturity and after several years you decide it is in the best
interest of the bank to sell it, you need liquidity, you are
not allowed to sell it?
Mr. Poston. No, I would disagree with that. I think you are
allowed to sell it. The challenge and the problem comes in as
to what are the consequences of you selling that. And the
consequences are all other securities that you are classifying
as held to maturity no longer qualify for that classification.
So it is viewed as a privilege, that if you are going to
classify securities as held to maturity--
Mr. Sherman. Wow. Let me move on to another question. Ms.
Wilson, if the rule goes into effect as the Federal Reserve has
proposed it, what is going to be the impact on your
organization, TIAA-CREF?
Ms. Wilson. We would have to seriously consider whether we
would make changes to our investment policy because there is a
likelihood that longer-dated securities would be treated less
favorably. One of the challenges with long-dated securities is
the pricing varies substantially, so there is more volatility
in those assets. And even though we intend to hold them for the
duration, the volatility in the capital levels would be
uncomfortable for us.
Mr. Sherman. As I pointed out with the first panel, an
insurance company tends to have long-term liabilities. As long
as my doctor is right about me, that is true. And you would try
to match that with long-term assets. I believe, speaking of
long-term, that my--oh, no my time has not expired.
Mr. Canseco. It has, Mr. Sherman.
Mr. Sherman. The clock is inaccurate?
Mr. Canseco. No, you are beyond--
Mr. Sherman. Oh.
Mr. Canseco. That is all right. It is all right.
Mr. Sherman. I yield back to the Chair.
Mr. Canseco. The gentleman's time has expired.
And the Chair will yield himself 5 minutes for some very
brief questioning.
Ms. Wilson, if the proposed rule goes into effect as it
stands right now, has your company considered de-banking?
Ms. Wilson. We have certainly looked at what other
companies have done with respect to their depository
institutions. We are aware that there are some other very large
companies that have decided to get out of the banking business.
We have some significant conversations ongoing with our board
and within the management team. And we really would like to
stay in the banking business because we think it is good for
America and good for our customers, but if the rules don't
change at all we will continue to discuss that.
Mr. Canseco. And there is the balance of your shareholders,
too.
Ms. Wilson. We don't really have shareholders. We are a
not-for-profit, so this is all for benefit of our participants.
Mr. Canseco. All right. If a company such as TIAA-CREF was
forced to de-bank, where do you think its clients would end up
and where would they take their money?
Ms. Wilson. Right now, they have a limited number of
choices. In large banks that provide really diverse services.
They obviously can take advantage of services from community
banks. But when we are talking about some of our clients'
needs, they include things like trust planning and stuff of
that nature that we do now, and we would hate to have to give
that up.
Mr. Canseco. Thank you.
Professor Admati, do you have concerns that the overly
complex Basel III requirements could encourage arbitrage
amongst some of the more sophisticated banking organizations?
Ms. Admati. Arbitrage is always a problem. So arbitrage
created the shadow banking system, and there are all kinds of
ways that people always try to get around regulation. That is
true for tax codes as well.
So the key is to kind of keep track of where the risk is
going, how the risk is being spread. Industry can do well by
moving the risk to good places, spreading it efficiently, but
it can accumulate in various places and some of the regulation
can do that. But the key is really to not allow people to lay
risks that they take on others. So that should be the
objective, and that stability as well.
I just have to make one statement, which is that for more
than 50 years, we know that the statement was just made that
because equity has a higher required return than debt, that
funding with equity is more expensive. We know that is false. I
would teach that in every basic course. The risk has to go
somewhere, just because some security pays more than others. By
this logic, Apple is being crazy, or Wal-Mart, or all the other
companies that fund with so much equity even though they are
not required to. So this reasoning is just false. Somehow in
banking they don't accept that reality, but the downside risk
has to be borne by somebody.
Mr. Canseco. Thank you for that comment.
Now, do you believe that the complex models included in the
proposed rule, going back to the Basel III rule, have any kind
of predictive model, or would it be more effective to rely on
simpler measures such as leverage ratio?
Ms. Admati. I believe the models are very limited and I
believe people trust them too much. I think that is the big
conclusion, not that we need to tweak it that way and the other
way, but that the approach is flawed.
So I think that, again, we have to watch the system, but we
have to kind of step back and see what we are trying to do,
which is maintain a stable system that doesn't run into too
much trouble. Just like speed limits. And so we don't in speed
limits go to the trucking companies and ask them for fancy
models about, and then worry about whether they took account of
the fog or the kid jumping in front of the truck. We have speed
limits that try to maintain safe limits for trucks going
through neighborhoods, and that is how we should view leverage.
It is like speed.
Leverage creates unnecessary risk. Risk is good, but
leverage risk is unnecessary. And that is what we have to
reduce. So we should keep our eyes on the ball, basically, and
I think the details of the accounting and the risk weights and
the models, and that is just letting you forget what it is
about.
Mr. Canseco. Thank you.
Mr. Poston, could you tell us how you think the capital
standards included in the proposed rule will affect your
customers, particularly small businesses?
Mr. Poston. I think the provision that will most
significantly impact small businesses is one that we have
talked about several times today already. And that is the way
mortgage lending and home equity lending is treated by the
Standardized Approach. Higher risk weights, particularly with
respect to home equity lending, will be particularly difficult
on small businesses, the owners of which often rely on the
equity in their homes to provide the ability to borrow for the
seed capital to start those businesses and to grow those
businesses.
So I think with respect to our ability to help small
business owners, that particular provision would be
particularly difficult.
Mr. Canseco. Would the proposed rule ultimately make the
financial system riskier by shifting activity to less regulated
corners of the market like Dr. Admati mentioned?
Mr. Poston. Yes. I think in particular to the extent that
rules start to be written that apply differently to different
organizations, whether that is amongst different sized banks,
or differences between non-banks and banks, the credit will
flow to those areas where it is least regulated and requires
the least capital. And that creates difficulties in terms of
differential rules because then you start to create risk
concentrations perhaps in places where they shouldn't be, and
the flow of capital is suboptimal for the economy as a whole.
Mr. Canseco. Thank you, Mr. Poston.
My time has expired, but I see that--Professor Admati, did
I call you doctor out of turn?
Ms. Admati. You can call me Anat.
Mr. Canseco. Okay. You wanted to say something.
Ms. Admati. I do want to say something because I want to
make sure to not imply that the risk of somebody trying to
evade regulation is a reason not to regulate. For robbers going
into dark alleys, we don't tell the police not to go to the
dark alleys.
Mr. Canseco. No different. The speed limit being--
Ms. Admati. Exactly. So we need the police to go to
wherever they are going to drive fast. And so therefore, the
shadow banking system just presents an enforcement problem. But
any regulation needs enforcement. So just because we would try
to evade it does not mean we shouldn't try to regulate it. That
is sort of an upside-down reason not to regulate, to say
somebody will evade it, because then we are lost. Then, it is
too bad.
Mr. Canseco. Thank you.
The Chair now recognizes the gentleman from Michigan, Mr.
Huizenga.
Mr. Huizenga. Thank you, Mr. Chairman. I appreciate that.
And once again here in Congress, we are trying to defy
physics. I am supposed to be in another hearing upstairs as
well. So my apologies for coming in a little late, and I will
be leaving here. But I do have a couple of questions. And I
appreciated the chairman's questioning. That is something I am
quite concerned about as well.
But I had a question for Mr. Poston from Fifth Third here,
a little bit about underwriting standards and loan underwriting
standards, and I am just curious how that standardized approach
will impact your underwriting if finalized?
Mr. Poston. I think our underwriting standards are
primarily designed for us to control and manage our risk. So,
in a certain sense, those underwriting standards will continue
because that is the way we manage risk.
The difficulty, I think, will be that we are now creating a
standardized approach which has a totally different view of
risk and will greatly complicate the underwriting process
because not only are we trying to look at the things that we
truly believe drive risk, we are also looking at measuring,
trying to capture, create systems to capture and track other
factors and metrics that we don't believe drive the risk solely
for purposes of compliance with these--
Mr. Huizenga. So are you saying that risk on the East Coast
versus perceived risk on the West Coast versus perceived risk
in Cincinnati, or Grand Rapids, Michigan, may be different
things?
Mr. Poston. Absolutely.
Mr. Huizenga. Okay. I think that is part of the problem
with this, is we may be trying to pound square pegs in round
holes with some of this. Another quick question I have for you
is, and I am trying to make sure I word this properly, but I
think you have seen on both sides and from the earlier panel a
lot of concern for the small community-based banks and the
bipartisan concern there.
I think that most of the quite large banks are either going
to be able to hire the compliance or be able to go in and work
with regulators in a way differently than a Fifth Third-sized
bank, whether it is PNC or Huntington or a number of those
types of mid-sized regional banks.
And I am curious if you would comment a little bit on
whether you are concerned that the proposed capital standards,
whether they could impact with competitive balance between you
as mid-sized banks and most banks really on either side of you.
Is it possible that you could actually be at a competitive
disadvantage?
Mr. Poston. Yes, we could envision a situation where we are
at a competitive disadvantage. As you mentioned, regional banks
are kind of caught in between the truly large banks which often
do have differentiated risks. They are pursuing activities,
such as trading activities derivatives, international
activities, et cetera, that are riskier and perhaps require
more complex rules.
Our activities are largely traditional activities which are
very similar to community banks and smaller banks. The regional
banks are not often thought of as community banks because of
their size, but the activities in which we engage are very
similar, if not the same, as most community banks, carry the
same risk as community banks.
And to the extent that we end up with rules that
differentiate us because we happen to be above $50 billion, or
some other threshold, it can create competitive balances which
we are very concerned about, both for us as well as for our
customers because it lessens our ability to provide to our
customers those credit services that they need.
Mr. Huizenga. In less than about 30 seconds, does anybody
else have anything that they want to add on that?
Professor?
Ms. Admati. Just one sentence: I am not concerned with
equity levels. I think they can be way, way, way higher. And
people misunderstand that there is really no cost to the
economy for that.
The risk measurements are problematic, and I think there we
need to sort of try to figure out how to apply them to
different institutions. The insurance companies definitely--I
haven't commented on that at all--but they do seem to have a
different model. If you blend them, then it is not clear that
everybody should do everything. So this is kind of my other
comment.
Companies in the rest of the economy, we don't insist that
all of them always exist. Somebody buying distressed community
banks actually told me in private equity that he thinks there
are too many of them, so maybe that is the case. I am sorry to
have to say that, but we do not support the existence of every
single company. If a company has value to generate, it should
be able to find funding for itself in the market. If it can't,
then there might be a question about it.
Mr. Huizenga. Mr. Chairman, with your indulgence, I know I
am over my time, but I am just curious if we could have the
professor clarify a little bit on that.
Mr. Canseco. Go ahead.
Mr. Huizenga. Thank you.
So you do or do not believe that maybe the smaller
community banks may operate differently than a mid-sized bank
versus the truly large banks and whether that is okay or not?
It sounded to me like you were saying that we need to apply the
same standards to all of them.
Ms. Admati. No, no, that is not what I was saying. The
thing about the big banks is their ability to scale their risks
to the extent that they do. For example, derivative trading.
This is a huge concern. This is a way to hide a lot of risks,
and to take a lot of risks and scale them up. You can take a
little tiny bit of return, and scale it all up.
And so, the size is just really scary for the largest
banks. So those are kind of in a whole category of themselves,
and once they do a lot of trading and especially the ones on
derivatives, there are three such banks in the United States,
and we are talking trillions of dollars of exposure.
To the extent that the bank does traditional banking
activities, you can sort of wrap your hands around that
possibly a little bit better. Do they have skin in the game on
their loans? Do they hold them? So debt can matter. I am not
sure where the lines are drawn exactly in terms of how, it has
already came up here, how you define a community bank, what
does that actually mean. So we do have to look at the risk
characteristic or nature of what they do.
But in principle, I think the regulation should aim not to
interfere as much with what people do, but to make them be
making their decisions in light of the risk of the investments
and their appropriate cost of funding for the investment that
is borne by investors.
Mr. Huizenga. Thank you, Mr. Chairman.
Mr. Canseco. Thank you.
And on behalf of Chairwoman Capito, I want to thank all of
the members of the panel for coming here and for your candor.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for Members to submit written questions to these
witnesses and to place their responses in the record.
This hearing is now adjourned.
[Whereupon, at 2:43 p.m., the hearing was adjourned.]

A P P E N D I X

November 29, 2012

[GRAPHIC] [TIFF OMITTED] T9691.001

[GRAPHIC] [TIFF OMITTED] T9691.002

[GRAPHIC] [TIFF OMITTED] T9691.003

[GRAPHIC] [TIFF OMITTED] T9691.004

[GRAPHIC] [TIFF OMITTED] T9691.005

[GRAPHIC] [TIFF OMITTED] T9691.006

[GRAPHIC] [TIFF OMITTED] T9691.007

[GRAPHIC] [TIFF OMITTED] T9691.008

[GRAPHIC] [TIFF OMITTED] T9691.009

[GRAPHIC] [TIFF OMITTED] T9691.010

[GRAPHIC] [TIFF OMITTED] T9691.011

[GRAPHIC] [TIFF OMITTED] T9691.012

[GRAPHIC] [TIFF OMITTED] T9691.013

[GRAPHIC] [TIFF OMITTED] T9691.014

[GRAPHIC] [TIFF OMITTED] T9691.015

[GRAPHIC] [TIFF OMITTED] T9691.016

[GRAPHIC] [TIFF OMITTED] T9691.017

[GRAPHIC] [TIFF OMITTED] T9691.018

[GRAPHIC] [TIFF OMITTED] T9691.019

[GRAPHIC] [TIFF OMITTED] T9691.020

[GRAPHIC] [TIFF OMITTED] T9691.021

[GRAPHIC] [TIFF OMITTED] T9691.022

[GRAPHIC] [TIFF OMITTED] T9691.023

[GRAPHIC] [TIFF OMITTED] T9691.024

[GRAPHIC] [TIFF OMITTED] T9691.025

[GRAPHIC] [TIFF OMITTED] T9691.026

[GRAPHIC] [TIFF OMITTED] T9691.027

[GRAPHIC] [TIFF OMITTED] T9691.028

[GRAPHIC] [TIFF OMITTED] T9691.029

[GRAPHIC] [TIFF OMITTED] T9691.030

[GRAPHIC] [TIFF OMITTED] T9691.031

[GRAPHIC] [TIFF OMITTED] T9691.032

[GRAPHIC] [TIFF OMITTED] T9691.033

[GRAPHIC] [TIFF OMITTED] T9691.034

[GRAPHIC] [TIFF OMITTED] T9691.035

[GRAPHIC] [TIFF OMITTED] T9691.036

[GRAPHIC] [TIFF OMITTED] T9691.037

[GRAPHIC] [TIFF OMITTED] T9691.038

[GRAPHIC] [TIFF OMITTED] T9691.039

[GRAPHIC] [TIFF OMITTED] T9691.040

[GRAPHIC] [TIFF OMITTED] T9691.041

[GRAPHIC] [TIFF OMITTED] T9691.042

[GRAPHIC] [TIFF OMITTED] T9691.043

[GRAPHIC] [TIFF OMITTED] T9691.044

[GRAPHIC] [TIFF OMITTED] T9691.045

[GRAPHIC] [TIFF OMITTED] T9691.046

[GRAPHIC] [TIFF OMITTED] T9691.047

[GRAPHIC] [TIFF OMITTED] T9691.048

[GRAPHIC] [TIFF OMITTED] T9691.049

[GRAPHIC] [TIFF OMITTED] T9691.050

[GRAPHIC] [TIFF OMITTED] T9691.051

[GRAPHIC] [TIFF OMITTED] T9691.052

[GRAPHIC] [TIFF OMITTED] T9691.053

[GRAPHIC] [TIFF OMITTED] T9691.054

[GRAPHIC] [TIFF OMITTED] T9691.055

[GRAPHIC] [TIFF OMITTED] T9691.056

[GRAPHIC] [TIFF OMITTED] T9691.057

[GRAPHIC] [TIFF OMITTED] T9691.058

[GRAPHIC] [TIFF OMITTED] T9691.059

[GRAPHIC] [TIFF OMITTED] T9691.060

[GRAPHIC] [TIFF OMITTED] T9691.061

[GRAPHIC] [TIFF OMITTED] T9691.062

[GRAPHIC] [TIFF OMITTED] T9691.063

[GRAPHIC] [TIFF OMITTED] T9691.064

[GRAPHIC] [TIFF OMITTED] T9691.065

[GRAPHIC] [TIFF OMITTED] T9691.066

[GRAPHIC] [TIFF OMITTED] T9691.067

[GRAPHIC] [TIFF OMITTED] T9691.068

[GRAPHIC] [TIFF OMITTED] T9691.069

[GRAPHIC] [TIFF OMITTED] T9691.070

[GRAPHIC] [TIFF OMITTED] T9691.071

[GRAPHIC] [TIFF OMITTED] T9691.072

[GRAPHIC] [TIFF OMITTED] T9691.073

[GRAPHIC] [TIFF OMITTED] T9691.074

[GRAPHIC] [TIFF OMITTED] T9691.075

[GRAPHIC] [TIFF OMITTED] T9691.076

[GRAPHIC] [TIFF OMITTED] T9691.077

[GRAPHIC] [TIFF OMITTED] T9691.078

[GRAPHIC] [TIFF OMITTED] T9691.079

[GRAPHIC] [TIFF OMITTED] T9691.080

[GRAPHIC] [TIFF OMITTED] T9691.081

[GRAPHIC] [TIFF OMITTED] T9691.082

[GRAPHIC] [TIFF OMITTED] T9691.083

[GRAPHIC] [TIFF OMITTED] T9691.084

[GRAPHIC] [TIFF OMITTED] T9691.085

[GRAPHIC] [TIFF OMITTED] T9691.086

[GRAPHIC] [TIFF OMITTED] T9691.087

[GRAPHIC] [TIFF OMITTED] T9691.088

[GRAPHIC] [TIFF OMITTED] T9691.089

[GRAPHIC] [TIFF OMITTED] T9691.090

[GRAPHIC] [TIFF OMITTED] T9691.091

[GRAPHIC] [TIFF OMITTED] T9691.092

[GRAPHIC] [TIFF OMITTED] T9691.093

[GRAPHIC] [TIFF OMITTED] T9691.094

[GRAPHIC] [TIFF OMITTED] T9691.095

[GRAPHIC] [TIFF OMITTED] T9691.096

[GRAPHIC] [TIFF OMITTED] T9691.097

[GRAPHIC] [TIFF OMITTED] T9691.098

[GRAPHIC] [TIFF OMITTED] T9691.099

[GRAPHIC] [TIFF OMITTED] T9691.100

[GRAPHIC] [TIFF OMITTED] T9691.101

[GRAPHIC] [TIFF OMITTED] T9691.102

[GRAPHIC] [TIFF OMITTED] T9691.103

[GRAPHIC] [TIFF OMITTED] T9691.104

[GRAPHIC] [TIFF OMITTED] T9691.105

[GRAPHIC] [TIFF OMITTED] T9691.106

[GRAPHIC] [TIFF OMITTED] T9691.107

[GRAPHIC] [TIFF OMITTED] T9691.108

[GRAPHIC] [TIFF OMITTED] T9691.109

[GRAPHIC] [TIFF OMITTED] T9691.110

[GRAPHIC] [TIFF OMITTED] T9691.111

[GRAPHIC] [TIFF OMITTED] T9691.112

[GRAPHIC] [TIFF OMITTED] T9691.113

[GRAPHIC] [TIFF OMITTED] T9691.114

[GRAPHIC] [TIFF OMITTED] T9691.115

[GRAPHIC] [TIFF OMITTED] T9691.116

[GRAPHIC] [TIFF OMITTED] T9691.117

[GRAPHIC] [TIFF OMITTED] T9691.118

[GRAPHIC] [TIFF OMITTED] T9691.119

[GRAPHIC] [TIFF OMITTED] T9691.120

[GRAPHIC] [TIFF OMITTED] T9691.121

[GRAPHIC] [TIFF OMITTED] T9691.122

[GRAPHIC] [TIFF OMITTED] T9691.123

[GRAPHIC] [TIFF OMITTED] T9691.124

[GRAPHIC] [TIFF OMITTED] T9691.125

[GRAPHIC] [TIFF OMITTED] T9691.126

[GRAPHIC] [TIFF OMITTED] T9691.127

[GRAPHIC] [TIFF OMITTED] T9691.128

[GRAPHIC] [TIFF OMITTED] T9691.129

[GRAPHIC] [TIFF OMITTED] T9691.130

[GRAPHIC] [TIFF OMITTED] T9691.131

[GRAPHIC] [TIFF OMITTED] T9691.132

[GRAPHIC] [TIFF OMITTED] T9691.133

[GRAPHIC] [TIFF OMITTED] T9691.134

[GRAPHIC] [TIFF OMITTED] T9691.135

[GRAPHIC] [TIFF OMITTED] T9691.136

[GRAPHIC] [TIFF OMITTED] T9691.137

[GRAPHIC] [TIFF OMITTED] T9691.138

[GRAPHIC] [TIFF OMITTED] T9691.139

[GRAPHIC] [TIFF OMITTED] T9691.140

[GRAPHIC] [TIFF OMITTED] T9691.141

[GRAPHIC] [TIFF OMITTED] T9691.142

[GRAPHIC] [TIFF OMITTED] T9691.143

[GRAPHIC] [TIFF OMITTED] T9691.144

[GRAPHIC] [TIFF OMITTED] T9691.145

[GRAPHIC] [TIFF OMITTED] T9691.146

[GRAPHIC] [TIFF OMITTED] T9691.147

[GRAPHIC] [TIFF OMITTED] T9691.148

[GRAPHIC] [TIFF OMITTED] T9691.149

[GRAPHIC] [TIFF OMITTED] T9691.150

[GRAPHIC] [TIFF OMITTED] T9691.151

[GRAPHIC] [TIFF OMITTED] T9691.152

[GRAPHIC] [TIFF OMITTED] T9691.153

[GRAPHIC] [TIFF OMITTED] T9691.154

[GRAPHIC] [TIFF OMITTED] T9691.155

[GRAPHIC] [TIFF OMITTED] T9691.156

[GRAPHIC] [TIFF OMITTED] T9691.157

[GRAPHIC] [TIFF OMITTED] T9691.158

[GRAPHIC] [TIFF OMITTED] T9691.159

[GRAPHIC] [TIFF OMITTED] T9691.160

[GRAPHIC] [TIFF OMITTED] T9691.161

[GRAPHIC] [TIFF OMITTED] T9691.162

[GRAPHIC] [TIFF OMITTED] T9691.163

[GRAPHIC] [TIFF OMITTED] T9691.164

[GRAPHIC] [TIFF OMITTED] T9691.165

[GRAPHIC] [TIFF OMITTED] T9691.166

[GRAPHIC] [TIFF OMITTED] T9691.167

[GRAPHIC] [TIFF OMITTED] T9691.168

[GRAPHIC] [TIFF OMITTED] T9691.169

[GRAPHIC] [TIFF OMITTED] T9691.170

[GRAPHIC] [TIFF OMITTED] T9691.171

[GRAPHIC] [TIFF OMITTED] T9691.172

[GRAPHIC] [TIFF OMITTED] T9691.173

[GRAPHIC] [TIFF OMITTED] T9691.174

[GRAPHIC] [TIFF OMITTED] T9691.175

[GRAPHIC] [TIFF OMITTED] T9691.176

[GRAPHIC] [TIFF OMITTED] T9691.177

[GRAPHIC] [TIFF OMITTED] T9691.178

[GRAPHIC] [TIFF OMITTED] T9691.179

[GRAPHIC] [TIFF OMITTED] T9691.180

[GRAPHIC] [TIFF OMITTED] T9691.181

[GRAPHIC] [TIFF OMITTED] T9691.182

[GRAPHIC] [TIFF OMITTED] T9691.183

[GRAPHIC] [TIFF OMITTED] T9691.184

[GRAPHIC] [TIFF OMITTED] T9691.185

[GRAPHIC] [TIFF OMITTED] T9691.186

[GRAPHIC] [TIFF OMITTED] T9691.187

[GRAPHIC] [TIFF OMITTED] T9691.188

[GRAPHIC] [TIFF OMITTED] T9691.189

[GRAPHIC] [TIFF OMITTED] T9691.190

[GRAPHIC] [TIFF OMITTED] T9691.191

[GRAPHIC] [TIFF OMITTED] T9691.192

[GRAPHIC] [TIFF OMITTED] T9691.193

[GRAPHIC] [TIFF OMITTED] T9691.194

[GRAPHIC] [TIFF OMITTED] T9691.195

[GRAPHIC] [TIFF OMITTED] T9691.196

[GRAPHIC] [TIFF OMITTED] T9691.197

[GRAPHIC] [TIFF OMITTED] T9691.198

[GRAPHIC] [TIFF OMITTED] T9691.199

[GRAPHIC] [TIFF OMITTED] T9691.200

[GRAPHIC] [TIFF OMITTED] T9691.201

[GRAPHIC] [TIFF OMITTED] T9691.202

[GRAPHIC] [TIFF OMITTED] T9691.203

[GRAPHIC] [TIFF OMITTED] T9691.204

[GRAPHIC] [TIFF OMITTED] T9691.205

[GRAPHIC] [TIFF OMITTED] T9691.206

[GRAPHIC] [TIFF OMITTED] T9691.207

[GRAPHIC] [TIFF OMITTED] T9691.208

[GRAPHIC] [TIFF OMITTED] T9691.209

[GRAPHIC] [TIFF OMITTED] T9691.210

[GRAPHIC] [TIFF OMITTED] T9691.211

[GRAPHIC] [TIFF OMITTED] T9691.212

[GRAPHIC] [TIFF OMITTED] T9691.213

[GRAPHIC] [TIFF OMITTED] T9691.214

[GRAPHIC] [TIFF OMITTED] T9691.215

[GRAPHIC] [TIFF OMITTED] T9691.216

[GRAPHIC] [TIFF OMITTED] T9691.217

[GRAPHIC] [TIFF OMITTED] T9691.218

[GRAPHIC] [TIFF OMITTED] T9691.219

[GRAPHIC] [TIFF OMITTED] T9691.220

[GRAPHIC] [TIFF OMITTED] T9691.221

[GRAPHIC] [TIFF OMITTED] T9691.222

[GRAPHIC] [TIFF OMITTED] T9691.223

[GRAPHIC] [TIFF OMITTED] T9691.224

[GRAPHIC] [TIFF OMITTED] T9691.225

[GRAPHIC] [TIFF OMITTED] T9691.226

[GRAPHIC] [TIFF OMITTED] T9691.227

[GRAPHIC] [TIFF OMITTED] T9691.228

[GRAPHIC] [TIFF OMITTED] T9691.229

[GRAPHIC] [TIFF OMITTED] T9691.230

[GRAPHIC] [TIFF OMITTED] T9691.231

[GRAPHIC] [TIFF OMITTED] T9691.232

[GRAPHIC] [TIFF OMITTED] T9691.233

[GRAPHIC] [TIFF OMITTED] T9691.234

[GRAPHIC] [TIFF OMITTED] T9691.235

[GRAPHIC] [TIFF OMITTED] T9691.236

[GRAPHIC] [TIFF OMITTED] T9691.237

[GRAPHIC] [TIFF OMITTED] T9691.238

[GRAPHIC] [TIFF OMITTED] T9691.239

[GRAPHIC] [TIFF OMITTED] T9691.240

[GRAPHIC] [TIFF OMITTED] T9691.241

[GRAPHIC] [TIFF OMITTED] T9691.242

[GRAPHIC] [TIFF OMITTED] T9691.243

[GRAPHIC] [TIFF OMITTED] T9691.244

[GRAPHIC] [TIFF OMITTED] T9691.245

[GRAPHIC] [TIFF OMITTED] T9691.246

[GRAPHIC] [TIFF OMITTED] T9691.247

[GRAPHIC] [TIFF OMITTED] T9691.248

[GRAPHIC] [TIFF OMITTED] T9691.249

[GRAPHIC] [TIFF OMITTED] T9691.250

[GRAPHIC] [TIFF OMITTED] T9691.251

[GRAPHIC] [TIFF OMITTED] T9691.252

[GRAPHIC] [TIFF OMITTED] T9691.253

[GRAPHIC] [TIFF OMITTED] T9691.254

[GRAPHIC] [TIFF OMITTED] T9691.255

[GRAPHIC] [TIFF OMITTED] T9691.256

[GRAPHIC] [TIFF OMITTED] T9691.257

[GRAPHIC] [TIFF OMITTED] T9691.258

[GRAPHIC] [TIFF OMITTED] T9691.259

[GRAPHIC] [TIFF OMITTED] T9691.260

[GRAPHIC] [TIFF OMITTED] T9691.261

[GRAPHIC] [TIFF OMITTED] T9691.262

[GRAPHIC] [TIFF OMITTED] T9691.263

[GRAPHIC] [TIFF OMITTED] T9691.264

[GRAPHIC] [TIFF OMITTED] T9691.265

[GRAPHIC] [TIFF OMITTED] T9691.266

[GRAPHIC] [TIFF OMITTED] T9691.267

[GRAPHIC] [TIFF OMITTED] T9691.268

[GRAPHIC] [TIFF OMITTED] T9691.269

[GRAPHIC] [TIFF OMITTED] T9691.270

[GRAPHIC] [TIFF OMITTED] T9691.271

[GRAPHIC] [TIFF OMITTED] T9691.272

[GRAPHIC] [TIFF OMITTED] T9691.273

[GRAPHIC] [TIFF OMITTED] T9691.274

[GRAPHIC] [TIFF OMITTED] T9691.275

[GRAPHIC] [TIFF OMITTED] T9691.276

[GRAPHIC] [TIFF OMITTED] T9691.277

[GRAPHIC] [TIFF OMITTED] T9691.278

[GRAPHIC] [TIFF OMITTED] T9691.279

[GRAPHIC] [TIFF OMITTED] T9691.280

[GRAPHIC] [TIFF OMITTED] T9691.281

[GRAPHIC] [TIFF OMITTED] T9691.282

[GRAPHIC] [TIFF OMITTED] T9691.283

[GRAPHIC] [TIFF OMITTED] T9691.284

[GRAPHIC] [TIFF OMITTED] T9691.285

[GRAPHIC] [TIFF OMITTED] T9691.286

[GRAPHIC] [TIFF OMITTED] T9691.287

[GRAPHIC] [TIFF OMITTED] T9691.288

[GRAPHIC] [TIFF OMITTED] T9691.289

[GRAPHIC] [TIFF OMITTED] T9691.290

[GRAPHIC] [TIFF OMITTED] T9691.291

[GRAPHIC] [TIFF OMITTED] T9691.292

[GRAPHIC] [TIFF OMITTED] T9691.293

[GRAPHIC] [TIFF OMITTED] T9691.294

[GRAPHIC] [TIFF OMITTED] T9691.295

[GRAPHIC] [TIFF OMITTED] T9691.296

[GRAPHIC] [TIFF OMITTED] T9691.297

[GRAPHIC] [TIFF OMITTED] T9691.298

[GRAPHIC] [TIFF OMITTED] T9691.299

[GRAPHIC] [TIFF OMITTED] T9691.300

[GRAPHIC] [TIFF OMITTED] T9691.301

[GRAPHIC] [TIFF OMITTED] T9691.302

[GRAPHIC] [TIFF OMITTED] T9691.303

[GRAPHIC] [TIFF OMITTED] T9691.304

[GRAPHIC] [TIFF OMITTED] T9691.305

[GRAPHIC] [TIFF OMITTED] T9691.306

[GRAPHIC] [TIFF OMITTED] T9691.307

[GRAPHIC] [TIFF OMITTED] T9691.308

[GRAPHIC] [TIFF OMITTED] T9691.309

[GRAPHIC] [TIFF OMITTED] T9691.310

[GRAPHIC] [TIFF OMITTED] T9691.311

[GRAPHIC] [TIFF OMITTED] T9691.312

[GRAPHIC] [TIFF OMITTED] T9691.313

[GRAPHIC] [TIFF OMITTED] T9691.314

[GRAPHIC] [TIFF OMITTED] T9691.315

[GRAPHIC] [TIFF OMITTED] T9691.316

[GRAPHIC] [TIFF OMITTED] T9691.317

[GRAPHIC] [TIFF OMITTED] T9691.318

[GRAPHIC] [TIFF OMITTED] T9691.319

[GRAPHIC] [TIFF OMITTED] T9691.320

[GRAPHIC] [TIFF OMITTED] T9691.321

[GRAPHIC] [TIFF OMITTED] T9691.322

[GRAPHIC] [TIFF OMITTED] T9691.323

[GRAPHIC] [TIFF OMITTED] T9691.324

[GRAPHIC] [TIFF OMITTED] T9691.325

[GRAPHIC] [TIFF OMITTED] T9691.326

[GRAPHIC] [TIFF OMITTED] T9691.327

[GRAPHIC] [TIFF OMITTED] T9691.328

[GRAPHIC] [TIFF OMITTED] T9691.329

[GRAPHIC] [TIFF OMITTED] T9691.330

[GRAPHIC] [TIFF OMITTED] T9691.331

[GRAPHIC] [TIFF OMITTED] T9691.332

[GRAPHIC] [TIFF OMITTED] T9691.333

[GRAPHIC] [TIFF OMITTED] T9691.334

[GRAPHIC] [TIFF OMITTED] T9691.335

[GRAPHIC] [TIFF OMITTED] T9691.336

[GRAPHIC] [TIFF OMITTED] T9691.337

[GRAPHIC] [TIFF OMITTED] T9691.338

[GRAPHIC] [TIFF OMITTED] T9691.339

[GRAPHIC] [TIFF OMITTED] T9691.340

[GRAPHIC] [TIFF OMITTED] T9691.341

[GRAPHIC] [TIFF OMITTED] T9691.342

[GRAPHIC] [TIFF OMITTED] T9691.343

[GRAPHIC] [TIFF OMITTED] T9691.344

[GRAPHIC] [TIFF OMITTED] T9691.345

[GRAPHIC] [TIFF OMITTED] T9691.346