Dod­dFrank

H.R. 4173 ▶ ▶ Court chal­lenges threaten to eat away at the 2010 Wall Street re­forms ▶ ▶ “The fi­nan­cial in­dus­try is us­ing all the tools avail­able to re­sist the reg­u­la­tion”

Bloomberg Businessweek (North America) - - Markets / Finance -

In 2014 a New Jer­sey mort­gage lender called PHH found it­self in trou­ble with the U.S. Consumer Fi­nan­cial Pro­tec­tion Bureau. An ad­min­is­tra­tive judge at the agency or­dered the com­pany to dis­gorge $6.4 mil­lion in ill- got­ten gains from an in­sur­ance­kick­back scheme. Later, the CFPB’S di­rec­tor, Richard Cor­dray, de­cided that didn’t go far enough. He raised the penalty 17-fold, to $109 mil­lion.

Deny­ing any wrong­do­ing, PHH took its case to the U.S. Court of Ap­peals for the D.C. Cir­cuit. The re­sult could dis­rupt the very struc­ture of the CFPB. No de­ci­sion has yet been made, but in oral ar­gu­ments on April 12, judges hear­ing the case raised ques­tions far more con­se­quen­tial than how much, if any­thing, PHH ought to pay. Although it’s risky to pre­dict a le­gal re­sult based on com­ments from the bench, the judges sounded wary of the pow­ers that have been given to the CFPB di­rec­tor.

The agency was cre­ated in 2010 by the fi­nan­cial re­form law known as Dodd-frank, which gave the CFPB au­thor­ity to po­lice credit cards, debt col­lec­tion, home and pay­day loans, and other ar­eas where con­sumers in­ter­act with the fi­nan­cial sys­tem. Un­der Cor­dray’s lead­er­ship, the CFPB has im­posed bil­lions of dol­lars in penal­ties, resti­tu­tion, and com­pli­ance costs on fi­nan­cial gi­ants, in­clud­ing Bank of Amer­ica, Cap­i­tal One, Cit­i­group, and Jpmor­gan Chase.

The dis­pute over the CFPB is the lat­est at­tempt by busi­ness in­ter­ests to limit the scope of Dodd-frank. Backed by Wall Street and cor­po­rate lob­by­ists, Repub­li­cans in Congress have tried to roll back var­i­ous pro­vi­sions of the law. That ef­fort has so far failed, and now the courts have be­come an al­ter­na­tive venue for the cam­paign. “The fi­nan­cial in­dus­try is us­ing all the tools avail­able to re­sist the reg­u­la­tion man­dated un­der Dodd-frank,” says Brian Mar­shall, pol­icy coun­sel at Amer­i­cans for Fi­nan­cial Re­form, an ad­vo­cacy group.

On March 30, in a sep­a­rate case, a fed­eral trial judge in Wash­ing­ton re­jected a ma­jor rul­ing by the Fi­nan­cial Sta­bil­ity Over­sight Coun­cil, an­other cre­ation of Dodd-frank. The FSOC had des­ig­nated Metlife too big to fail, mak­ing the largest U.S. life in­surance com­pany sub­ject to height­ened reg­u­la­tory and fi­nan­cial re­quire­ments. The court called that de­ci­sion “ar­bi­trary and capri­cious.”

If up­held, the rul­ing fa­vor­ing Metlife could un­der­mine the coun­cil’s au­thor­ity to des­ig­nate non­banks as “sys­tem­i­cally im­por­tant fi­nan­cial in­sti­tu­tions”

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sub­ject to tougher rules be­cause their fail­ure could ig­nite wide­spread panic. “This de­ci­sion leaves one of the largest and most highly in­ter­con­nected fi­nan­cial com­pa­nies in the world sub­ject to even less over­sight than be­fore the fi­nan­cial cri­sis,” Trea­sury Sec­re­tary Ja­cob Lew said in a state­ment. Lew, Fed­eral Re­serve Chair Janet Yellen, and Cor­dray are three of the coun­cil’s 10 vot­ing mem­bers.

Metlife said it was “pleased” with the de­ci­sion. The court em­braced the com­pany’s claim that the over­sight coun­cil hadn’t con­sid­ered the po­ten­tial fi­nan­cial ef­fects of its de­ci­sion on the in­surer. That rea­son­ing could open the door for other com­pa­nies—in­clud­ing Amer­i­can In­ter­na­tional Group and Pru­den­tial Fi­nan­cial— to chal­lenge their des­ig­na­tion as sys­tem­i­cally im­por­tant.

The le­gal bat­tle against Dodd-frank fea­tures some star lawyers. Metlife’s lead at­tor­ney, Eu­gene Scalia, son of late Supreme Court Jus­tice An­tonin Scalia, is a part­ner at the Wash­ing­ton law of­fice of Gib­son, Dunn & Crutcher. In re­cent years, the younger Scalia has brought suc­cess­ful suits erod­ing Dod­dFrank rules that limited spec­u­la­tive trad­ing in de­riv­a­tives, let share­hold­ers more eas­ily oust cor­po­rate di­rec­tors, and forced dis­clo­sure of pay­ments to for­eign govern­ments to fa­cil­i­tate oil and gas projects.

Scalia’s law part­ner, Ted Ol­son, a for­mer so­lic­i­tor gen­eral in the Ge­orge W. Bush ad­min­is­tra­tion, ar­gued PHH’S ap­peal chal­leng­ing the CFPB. That case be­gan with the agency’s de­ter­mi­na­tion that the com­pany had ar­ranged il­le­gal kick­backs when it steered bor­row­ers to mort­gage in­sur­ers who bought rein­sur­ance from one of its own sub­sidiaries. PHH con­tends its con­duct was proper and has been stan­dard in the in­dus­try for decades.

On ap­peal, Ol­son and other lawyers at Gib­son Dunn raised a slew of ob­jec­tions, some quite tech­ni­cal. In ad­di­tion, Ol­son’s team as­serted that the CFPB’S struc­ture vi­o­lates the con­sti­tu­tional prin­ci­ple of sep­a­ra­tion of pow­ers, be­cause its sole di­rec­tor, Cor­dray, can’t be eas­ily ousted by the pres­i­dent and isn’t ac­count­able to Congress. In an un­usual ar­range­ment, the CFPB draws its fund­ing from the Fed­eral Re­serve Sys­tem, not the leg­isla­tive ap­pro­pri­a­tions process. Ol­son em­pha­sized that the pres­i­dent can­not re­move CFPB di­rec­tor Cor­dray un­less he ne­glects his du­ties or se­ri­ously mis­be­haves.

Shortly be­fore the oral ar­gu­ments, the D.C. Cir­cuit panel tipped its hand by specif­i­cally in­struct­ing lawyers for both sides to ad­dress, out of all the is­sues raised by PHH, the con­sti­tu­tional chal­lenge. With per­haps some hy­per­bole, Ol­son told the court: “In sum­mary, this is an un­prece­dented, un­con­sti­tu­tional agency that has more power than Congress and the pres­i­dent put to­gether.” Rather than ob­ject to Ol­son’s bold claim, the two judges present in the court­room, Brett Ka­vanaugh and A. Ray­mond Ran­dolph, seemed to en­cour­age him at ev­ery turn. A third judge, Karen Hen­der­son, will re­view the ar­gu­ments via au­dio record­ing and par­tic­i­pate in the de­ci­sion. All three were ap­pointed by Repub­li­can pres­i­dents.

The CFPB’S at­tor­ney, Lawrence Demille-wag­man, con­tended that the agency’s struc­ture isn’t unique: The So­cial Se­cu­rity Ad­min­is­tra­tion, the Of­fice of Spe­cial Coun­sel, and the Fed­eral Hous­ing Fi­nance Agency are each over­seen by a sin­gle per­son. But Ka­vanaugh seemed to em­brace PHH’S ar­gu­ment. “You are con­cen­trat­ing in a sin­gle per­son a huge amount of power, and the pres­i­dent has no au­thor­ity over that,” he told Demille-wag­man. “It’s very dan­ger­ous in our sys­tem to put such huge power in a sin­gle per­son.”

Demille-wag­man re­sponded that “the pres­i­dent has suf­fi­cient con­trol,” be­cause he does have the power to re­move a di­rec­tor for cause.

“Re­ally? I don’t un­der­stand that,” Ka­vanaugh replied. The judge pointed out that Cor­dray’s five-year term ends in 2018, mean­ing the next pres­i­dent will have to leave him in place for more than a year, even if the two dis­agree on pol­icy.

That fact, com­bined with the CFPB’S in­de­pen­dence from the con­gres­sional ap­pro­pri­a­tions process, “cre­ates a com­plete lack of ac­count­abil­ity, which should be fa­tal to the agency,” says Sam Kazman, gen­eral coun­sel for the ad­vo­cacy group Com­pet­i­tive En­ter­prise In­sti­tute. The in­sti­tute filed a brief sup­port­ing PHH and is it­self chal­leng­ing the CFPB’S le­git­i­macy in a sep­a­rate law­suit.

If the D.C. Cir­cuit panel finds a con­sti­tu­tional flaw but doesn’t want to take the dras­tic step of in­val­i­dat­ing the CFPB al­to­gether, it could sim­ply throw out the for-cause re­moval pro­vi­sion and make the di­rec­tor sub­ject to be­ing fired by the pres­i­dent for any rea­son. The prospect of any re­struc­tur­ing, though, “would be a big step in the wrong di­rec­tion, en­tan­gling the CFPB with pol­i­tics,” says Mar­shall of Amer­i­cans for Fi­nan­cial Re­form, which isn’t in­volved in the case.

The fight over Dodd-frank’s prog­eny isn’t likely to end soon. The govern­ment has al­ready an­nounced it will ap­peal its loss in the Metlife case. And who­ever wins the CFPB case, the loser is sure to ap­peal that one, too. �Paul M. Barrett

“In sum­mary, this is an un­prece­dented, un­con­sti­tu­tional agency that has more power than Congress and the pres­i­dent put to­gether.” —— At­tor­ney Ted Ol­son The bot­tom line Com­pa­nies are step­ping up their fight in the courts against the 2010 fi­nan­cial re­form law. They’ve al­ready notched some vic­to­ries.

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