In new D.C., resisting your regulator is an easier call

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Businesses in heavily regulated industries like financial services are generally reluctant to challenge their regulators when facing supervisory “requests” or possible enforcement actions.

While this does not mean that they acquiesce to every demand or settle every potential enforcement action, it does generally mean that financial institutions and other supervised entities are often more inclined to agree to a consent order than require a regulator to sue for an alleged violation. This has been the case more often than not with enforcement orders from the Consumer Financial Protection Bureau.

However, with the change in administration and the term of CFPB Director Richard Cordray expiring in 2018, that calculus is potentially different, particularly for entities that are subject to CFPB examination and enforcement.

Under normal circumstances, two rational factors are seen as incentives to settle with rather than challenge a regulator.

First, the regulators generally have repeated or continuing authority over the institutions that they regulate. This means that regulators will have repeated opportunities to cause problems for the regulated entities if they do not comply with the regulator's "requests."

For instance, regulated financial institutions rarely pushed back against Operation Choke Point — the Obama administration’s initiative to crack down on financial institutions processing potentially fraudulent payments — even though the effort in retrospect appeared to have little basis in law. Uncooperative banks could have found applications for acquisitions, new lines of business or mergers delayed indefinitely or even denied. Companies that refuse to settle can likewise find themselves subjected to more intrusive examinations.

It was widely reported in the press that Ally Financial agreed to settle a disparate impact complaint from the CFPB, which was based upon a questionable statistical analysis, because a failure to settle would have impaired its relationship with the bank regulators and put its other business interests at risk. At the time, Ally had a pending holding company application before the Federal Reserve Board and would have had to divest various subsidiaries if it had not been approved. Like Ally, most financial institutions — rather than risk being labeled as uncooperative — take the path of least resistance and simply yield to the demands of their supervisors.

Second, institutions will often satisfy a burdensome “request” by a regulator through the confidential examination process simply to avoid having the matter reach the level of a public enforcement action. While this eliminates the potential reputational harm of a public order, the financial institution may be ceding to the regulator’s demand even if the company believes that a “request” is not supported by the law. The damage that can be done to the stock price of an institution from a public scrap with its regulator is often greater than the cost to comply.

These regulatory facts of life give regulators extraordinary power and leverage over regulated entities.

However, during the transition to the Trump administration, the terms of Obama-appointed agency heads are winding down, and they will likely be followed by more industry-friendly successors. With lame-duck or “acting” agency heads at the helm, the incentives to settle decrease.

With regard to the CFPB, in particular, the incentives and opportunities for companies to resist or challenge regulatory and examination requests and enforcement actions will grow as the end of Cordray’s term — in July 2018 — gets closer.

Some of the names mentioned for possible CFPB successors under President Trump — such as George Mason law professor Todd Zywicki and former Rep. Randy Neugebauer, R-Texas — are strong critics of the agency. Either pick would probably advance significant changes in agency policy. Much of the consumer protection mission of the agency would continue, but the bureau would likely change how it defines and measures consumer harm and, in turn, would likely alter supervision and enforcement priorities.

In short, respondents in certain types of pending enforcement actions may face a more sympathetic hearing from the CFPB under new leadership. While contesting the agency’s demands would bring the public stigma of being sued by the regulator, in some cases such resistance is less likely to have a detrimental impact on future relationships with the CFPB and other regulators. Moreover, resisting a settlement and requiring a full hearing could at the least prolong the process beyond Cordray’s departure, opening up the chance to restart negotiations with a leadership more sensitive to the company’s point of view.

For enforcement matters involving other agencies, where a principal’s term ends even earlier than that of Cordray, the case to stand one’s ground could be even stronger.

Of course, financial institutions facing supervision or enforcement actions have other factors to consider as they explore whether to resist or acquiesce to regulatory demands. However, as the day approaches when we will see new leadership of the regulatory agencies, we expect regulated entities to be more willing to push back against unreasonable and costly regulatory demands.

Businesses will be balancing the benefits of settlement against the decreasing financial and regulatory risk of resistance.

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