WASHINGTON — Critics of regulatory reform legislation claim provisions designed to let the government unwind systemically important institutions are riddled with exceptions that would allow bureaucrats to perpetuate too-big-to-fail policies.
However, under revised House language expected to be approved by the Financial Services Committee on Wednesday the Federal Deposit Insurance Corp. could only lend to a failing company for the purpose of unwinding it. It could not provide the kind of "open bank assistance" to holding companies that it now can give their subsidiaries.
The Senate Banking Committee is expected to follow suit and adopt similar changes.
Some former regulators said that, if anything, lawmakers may be taking too restrictive an approach.
"The House bill is quite reasonable, though my personal bias is giving a competent agency like the FDIC more authority, not less, more flexibility, not less," said Eugene A. Ludwig, the chief executive officer of Promontory Financial Group and a former comptroller of the currency. "In the wake of one crisis, it's hard to predict what the next crisis will entail."
Under the original bill from House Financial Services Committee Chairman Barney Frank, the FDIC would have been given significant authority to aid faltering companies without closing them, including the ability to provide loans or guarantees in individual cases, and to act as a so-called "qualified receiver" for struggling companies deemed to pose a risk to the financial system. In the latter role, the agency would have been like a quasi-conservator, taking steps "necessary to put the covered financial company in a sound and solvent condition."
Republicans and other critics cried foul, arguing that those powers would let the FDIC repeat the bailouts given to Citigroup Inc. and Bank of America Corp. during the depth of the crisis late last year and in early 2009. Both companies were given loan guarantees and billions in capital from the government in order to help prevent their failures.
But amendments that Frank's committee approved on Nov. 18 and Nov. 19 severely curtailed the FDIC's power to help keep a company alive. The committee stripped out any reference to a "qualified receiver" and said that the FDIC could only provide debt guarantees industrywide — not just for an individual company. Though the agency can still lend to a failing firm, it can do so only in order to wind it down. The FDIC is given no leeway to help keep a struggling company afloat indefinitely.
This has quieted some critics who had argued that the resolution powers would lead to ever more government assistance.
The bill "is a step away from the bailouts as compared to present statutes," said Rep. Brad Sherman, D-Calif., a vocal critic of the government's aid to large financial institutions.
Though Senate Banking Committee Chairman Chris Dodd's bill lacks the limits on assistance that are in the House bill, he is expected to change his legislation to echo the House version. For example, a Nov. 10 draft of the Senate bill would have let the FDIC take equity interests in companies, but this provision was later removed. "I want to clear up what I call some mischaracterizations," Dodd said on Nov. 19. "There is absolutely nothing in the bill we've drafted that would allow the government to prop up a failed institution."
Obama administration officials said both bills would ensure that the government could only provide assistance to an individual institution to ensure an orderly failure. "Neither the House bill nor the Senate bill would allow bailouts of failing firms," Michael Barr, Treasury assistant secretary for financial institutions, wrote in an e-mail response to a question. "Neither bill would enable the government to lend money to a failing firm outside of a government receivership designed to wind down that firm. In the resolution, the FDIC can only provide stabilization to the market through a bridge bank of a firm that has been put into receivership."
The changes have done little, however, to satisfy critics who remain convinced that resolution authority would lead to more bailouts. Peter Wallison, a fellow at the American Enterprise Institute, said the legislation has loopholes that would let regulators pay off creditors. "There are all kinds of ways you can provide assistance" to an institution "and pay off all the creditors," Wallison said in an interview. "To the extent you are paying off the creditors, it doesn't matter if you close" the company. "You are creating the same moral hazard."
But some observers said that the current bankruptcy process is even more favorable to creditors than a new government resolution process would be.
Critics' chief argument is that a House amendment would let the FDIC create another debt-guarantee program — similar to the Temporary Liquidity Guarantee Program it set up late last year.
Under the original bill, the FDIC could have made a loan to or guaranteed the debt of any solvent institution, and the legislation did not specify whether the aid could be supplied to individual companies instead of industrywide.
But Frank added an amendment to the bill that dropped any reference to lending to companies and said any debt guarantee must be "widely available."
But even that could be controversial.
"Anytime you start guaranteeing liabilities, it does seem to be a bit of a bailout," said Brian Gardner, an analyst at KBW Inc.'s Keefe, Bruyette and Woods Inc. "I was surprised that in this environment something like that passed. I think Republicans are going to have a field day on the House floor arguing against this."
Phillip Swagel, a visiting professor at Georgetown University, agreed.
"Once you give the executive branch authority to spend public resources without a vote of the Congress, it's just impossible for any administration to resist that temptation," said Swagel, a former Treasury assistant secretary for economic policy in the last administration.
But others said it would be difficult for the FDIC to create a large program just to save a particular institution, and they noted that starting it would require the concurrence of other federal regulators, the Treasury secretary and the president.
"It's hard for the FDIC to do this. … It's not just: 'Trust us,' " said John Douglas, a former FDIC general counsel who is now a partner in Davis Polk & Wardwell. "The government for the last 20 years has been very reluctant to use this systemic exception and allow the FDIC to do things like the TLGP" liquidity guarantees.
Steve Adamske, a spokesman for Frank, said the new authority would not be there for dying companies but rather as a liquidity spigot when market turmoil undermines the credit available even to healthy firms.
"This is for institutions in time of stress that cannot get credit and cannot use money for lending because there is a credit schism," he said.
