After months of Congressional hearings, principally in the House of Representatives, financial services regulatory reform is likely to be taken up, at least by the House, this year. The current expectation is that the House will consider a comprehensive financial services regulatory reform bill in November. It is unlikely that the Senate will take up a financial regulatory reform bill until it completes its work on health care reform. In an important signal that key components of the Administration's financial regulatory reform plan may still be open to substantial revision, House Financial Services Committee Chairman Barney Frank (D-MA) recently eliminated a controversial Administration proposal that would have required companies to offer "plain vanilla" financial products and services. With the Financial Services Committee expected to mark up financial regulatory reform legislation beginning in mid-October and the Senate Banking, Housing, and Urban Affairs Committee anticipated to mark up its version of financial regulatory reform later in the year, here are some of the key issues we are following closely:

CFPA and Federal preemption

The absence of Federal preemption language in the Administration's Consumer Financial Protection Agency ("CFPA") proposal and Chairman Frank's bill (H.R. 3326) is a source of great concern to much of the financial services industry and many Members of Congress. As currently drafted, the CFPA bill would permit the States to enact legislation that is deemed to be more protective of consumers than the standards set by the CFPA. Supporters of the "no preemption" approach say that any CFPA regulation should set a floor, not a ceiling, on consumer protection. The financial services industry has argued that this would erode Federal preemption and subject businesses to potentially 50 different State standards, resulting in an uneven patchwork of laws that will increase costs and thereby limit credit. If a compromise cannot be reached, many moderate Democrats, with the support of most Republican members, are likely to back an amendment expected to be offered by Rep. Melissa Bean (D-IL) that would provide Federal preemption for federally chartered national banks and thrifts. Banking Committee Chairman Chris Dodd (D-CT) has yet to reveal his position on whether the CFPA should preempt the States and, if so, how much preemption is appropriate.

OTC Derivatives

The involvement of the SEC and CFTC in regulating the over-the-counter ("OTC") derivatives markets requires the Committees with jurisdiction over the SEC (House Financial Services and Senate Banking) to cooperate with the Committees with jurisdiction over the CFTC (House and Senate Agriculture). While the respective Chairmen have all pledged to work together in a constructive manner, they will need to reconcile potentially substantial policy differences as they determine the proper role for each agency and eliminate regulatory gaps. The Committees will also need to resolve such fundamental issues in how derivatives are currently treated as whether to ban non-standardized OTC derivatives, and they will have to determine exactly what constitutes a "non-standardized OTC derivative." They will also consider whether to require central clearing and exchange trading and, if so, the scope of the OTC derivatives that would be subject to these requirements. While they missed their targeted release date of September 30, the SEC and CFTC announced that they will unveil their joint regulatory harmonization proposal for derivatives on October 15.

Credit rating agencies

Many Members of Congress believe that financial regulatory reform legislation must fundamentally change the credit rating agency system and that the Administration's proposal does not go far enough in addressing the problems with credit rating agencies. Several key Members from both parties have argued that financial regulatory reform must address the conflicts of interest inherent in the current system where issuers select and pay the agencies that rate their products. Democratic and Republican Members are divided, however, on what should be the nature and extent of credit rating agencies' liability for their ratings. The discussion draft recently released by House Capital Markets Subcommittee Chairman Paul Kanjorski (D-PA) would impose collective liability on credit rating agencies for any securities law violations as well as lower the pleading standard to permit lawsuits against a credit rating agency for "knowingly or recklessly" issuing improper ratings. While several Republicans have expressed strong opposition to this plan because of their belief that it would discourage new entrants to the credit rating agency market and result in an explosion of litigation, a number of Democrats believe that the Kanjorski draft does not go far enough in holding credit rating agencies accountable for their ratings. These Democrats contend that Congress should establish a statutory duty of care for credit rating agencies that holds rating agencies to a higher standard than gross negligence for their ratings.

Optional Federal Charter and insurance reform

The Administration's financial regulatory reform bill is silent with respect to an Optional Federal Charter ("OFC") for insurance, and an OFC proposal is not on the Financial Services Committee's agenda for this year. Chairman Frank recently announced that the Financial Services Committee will consider an OFC in 2010, and not as part of the financial regulatory reform legislative proposals that he hopes will become law this year. Notwithstanding its silence on an OFC, the Administration's financial regulatory reform proposal does call for the creation of the Office of National Insurance ("ONI") in Treasury Department to collect, monitor, and coordinate information about all lines of insurance except for health insurance. A discussion draft of legislation released by Capital Markets Subcommittee Chairman Kanjorski would re-name the ONI the Federal Insurance Office ("FIO"). The FIO is expected to be created as part of the financial regulatory reform bill. It remains to be seen whether the FIO will be the high water mark for a federal role in insurance or whether, as its critics charge and its supporters hope, it will be the next step toward the adoption of an OFC.

The role of the Federal Reserve

Key Members of Congress on both sides of the aisle have repeatedly condemned what they consider to be the Fed's consumer protection failures. Members have also criticized the Fed for what they believe to be its opaque decision-making process, especially with respect to its role in bailing out - or not bailing out - troubled firms. Other Members say that the Fed already has enough critically important work on its plate without adding to its responsibilities. In addition to the Administration's plan to transfer the Fed's authority and funding for consumer protection to the CFPA and impose additional checks on its emergency lending operations, Chairman Frank and Chairman Dodd have strong support from their respective Committees to pursue further reforms. Possible reforms recently discussed include vesting the responsibility to safeguard against systemic risk in a multi-agency council instead of solely with the Fed as the Administration first proposed. There are also proposals to increase the transparency of the Fed's operations. The challenge for many Members will be to devise a means to do so without compromising the Fed's independence when it comes to monetary policy.

Chairman Dodd's plan to consolidate all four federal banking regulators

Banking Committee Chairman Chris Dodd's (D-CT) recent call to create a single federal prudential regulator by consolidating the Federal Reserve, Federal Deposit Insurance Corporation, Office of the Comptroller of the Currency, and Office of Thrift Supervision into one agency has proven to be one of the most controversial aspects of the financial regulatory reform debate. Chairman Dodd's plan would go beyond the Administration's proposal to consolidate OCC and OTS into a National Bank Supervisor. The potential creation of this so-called "super regulator" has met with great skepticism from the financial services industry as well as Chairman Frank. Recently, House Agriculture Committee Chairman Collin Peterson (D-MN) expressed his belief and concern that Chairman Dodd's proposed consolidation might make it impossible for financial regulatory reform to be enacted this year. To date, Senator Dodd's proposal has achieved little traction, and most observers currently consider it unlikely to be adopted.

Capital requirements and international coordination

The Administration's proposal would raise capital requirements on firms based on the systemic risk they pose. These higher standards are closely linked with the Administration's pursuit of an international agreement on financial regulatory reform. Following the September 24-25 G-20 summit in Pittsburgh, the world's most significant economic powers agreed, for the first time, to submit their financial regulatory policies and proposals to a review process coordinated by the International Monetary Fund. The financial services industry has raised objections that significantly increasing capital requirements would impair lending, stifle innovation, and thereby severely hurt both individual and corporate borrowers.