Channeling Twisted Sister, more bankers are taking regulators to court

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"We're not gonna take it anymore!"

This '80s line from the band Twisted Sister is playing out as the banking industry takes the unprecedented step of not only publicly challenging proposed regulations but increasingly going to court and even winning.

This is nothing short of a bank regulatory revolution.

Being part of the world's most heavily regulated industry does not mean banks must give up their fiduciary responsibility to shareholders or their legal responsibility to meet the convenience and needs of their entire community.

If misguided regulators concoct ill-advised regulations threatening either, bankers should sue in the name of "fair regulation." Like fair lending and fair banking, this simply means both regulators and the regulated play by rules that are fair to the industry and their impacted communities resulting in a good public policy outcome.

Recent fair regulation cases have seen banks and their trade groups challenge the Consumer Financial Protection Bureau on numerous grounds, including a recent victory headed to the Supreme Court. That case, however, was against the industry demonized CFPB, in a friendly Texas court, and involved a controversial regulation under section 1071 of the Dodd-Frank Act of 2010 applying Home Mortgage Disclosure Act-type standards to small-business lending.

Suing the CFPB is one thing, but having a CEO sign a complaint against a primary regulator doing their bank's compliance and safety and soundness exams is much different.

Bankers have long felt helpless against unfair regulators and rogue examiners. Jamie Dimon said it best: "We simply have to take it.  They're judge, jury and hangman, and that is what it is."

One recent case with a Supreme Court bank victory described a rogue examiner with a "personal animosity" expressed in emails against a banker. The FDIC's inspector general documented "poor judgment" by a regional director in another case recently cited as a regulatory abuse of power.

Current ombudsman and appeal processes are generally a lose-lose proposition, because regulators almost always "circle the wagons" defending examiners, even when they are wrong. One academic study of bank regulatory appeals found that banks "rarely win," with only 3% of FDIC, 8% of Federal Reserve and 20% of OCC cases being reversed. Even the few "winners" of those costly battles end up losing the regulatory war because of possible retaliation. 

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Appeals should be heard by a panel of other regulators, since they are all supposed to be following the same rulebook. The only silver lining of a CRA appeal is the year or more publication delay that buys time to be upgraded on the next exam with minimal reputational risk.

Why consider a lose-lose appeal strategy when there is a chance of getting real justice in a courtroom? 

The threatened litigation against proposed capital rules is a strong case, but the industry has a much better chance of winning the planned legal challenge of the final rule of the Community Reinvestment Act Notice of Proposed Rulemaking (NPR).  Community groups did this with the OCC's CRA final rule, so why shouldn't bankers do the same thing, especially since there are four compelling reasons?

First, the nearly 700-page overly complicated NPR is an unnecessary overhaul of current regulations that are generally working fine for banks and their communities. The NPR is contrary to the modernization purpose of CRA reform to account for internet and branchless banks. This could be done with the Deposit Reinvestment Rule requiring a proportional reinvestment in any community sourcing 5% or more of deposits. This simple fix is consistent with CRA's intent and language as well as its middle name.

Second, any final rule will be the result of unprecedented political, regulatory and other complicating issues. The OCC and Fed issued their own reform proposals under different administrations, and the FDIC has wavered in its support of each. The NPR's chief architect is no longer at the Fed, and her replacement is focused on big bank failures, new capital rules and even stablecoins. The 1071 rule in the pending Supreme Court case is mentioned over 50 times in the NPR, justifying the industry's call for delaying the final rule.  Also, it is reportedly being rushed to avoid challenges under the Congressional Review Act in the event of an administration change.

Third, to alleviate the possibility of regulatory retaliation, there is safety in numbers with the support of the main industry trade groups. The American Bankers Association and the Bank Policy Institute submitted well-documented arguments for a possible legal challenge not only because the NPR is inconsistent with the intent and letter of the CRA law but also because it violates both the Administrative Procedures Act and the Constitution.

Fourth, there is considerable evidence of likely damages to banks and their communities, using the NPR's own data. For example, no bank over $50 billion will likely achieve an outstanding rating, thereby reducing their motivation to help distressed communities.  Banks over $10 billion unfairly bear the NPR's greatest burden, as noted in a Fed governor's rare dissent. Also, nearly 800 communities may lose critically needed community development activities with the NPR's unnecessary increase in the asset size threshold of small banks, cleverly designed to win support of their trade groups.

Fair regulations require input from not only regulators but also the industry and their community, especially when shareholder and community interests are at risk. Unfair regulations must be challenged, and a lawsuit against the NPR's final rule is the next logical step in this regulatory revolution.