The legislation by Rep. Scott Garrett, R-N.J., would establish a regulatory framework for covered bonds, including a regime to handle the failure of a bond issuer. The bill is expected to pass and has already attracted the support of key Democrats, including House Financial Services Committee Chairman Barney Frank and Rep. Paul Kanjorski, the panel's chairman of the capital markets subcommittee.
But the details of the legislation have raised problems with the Federal Deposit Insurance Corp., which fears a new secured-asset class could hurt federal reserves and wants a greater say in covered bonds' regulation.
"The FDIC has issues," Garrett said in an interview Monday. "They want to be in charge of the whole program. … We are not sure that would be the best avenue to take."
Covered bonds have been popular in Europe, but have failed to take off in the U.S. Regulators have touted them as a possible alternative to securitization.
Unlike securitization, in which a bank sells off its loans to be packaged into securities, covered bonds are issued by the bank to fund assets that remain on the balance sheet, and they require collateral to be refreshed with new loans if the original assets stop performing.
The FDIC said it supports expanding the covered bond market, but is concerned that details of the bill could potentially make failures more expensive. They are also arguing that a council of regulators should oversee such bonds, instead of the giving it to the Office of the Comptroller of the Currency.
"The FDIC's primary jobs are to protect insured depositors, conserve the deposit insurance fund, and resolve failed banks," said Michael Krimminger, deputy to the chairman for policy. "While other banking regulators play a vital role, protection of depositors is not their principal responsibility."
In the event of an issuer failure under the bill, the OCC could appoint an administrator to continue servicing the bond pool, which the FDIC fears could establish an implied government guarantee.
Ironically, the FDIC has long pushed for an expanded covered bond market. It issued a policy statement in July 2008 that said investors could claim their assets as early as 10 days into a receivership, reversing a previous policy that forced creditors to wait 90 days after a bank failure to seize their collateral.
The statement was intended to make investors more comfortable with covered bonds, but they never took off, in part because of the financial crisis, which worsened dramatically in August of 2008. Only two deals have been completed in the U.S., and both were before the policy change.
Garrett called the FDIC's worries overblown. He said that the FDIC is concerned that a covered bond deal will be overcollateralized, and then the agency "would not necessarily be able to claim all the assets of a failed bank that they normally would have."
But he said that could be addressed in other ways.
"That's a problem with the regulator of the bank that they allowed overcollateralization of the bond pool," he said. "I wouldn't be moving this legislation as aggressively as I have been for the last two years if I thought this would be a true threat to the DIF."
