At its recent October meeting, the Financial Stability Oversight Council announced that it has rescinded its previous determination that material financial distress at Prudential Financial, Inc., could pose a threat to U.S. financial stability.
Prudential, the largest life insurance organization in the U.S., is the last non-bank to shed the post-Financial Crisis designation as a systemically important financial institution, a list that once included GE Capital, American International Group, and MetLife.
The designation of the insurance giant as a SIFI was in accordance with a process mandated by the Dodd-Frank Act. On Sept. 19, 2013, the FSOC made a final determination that “material financial distress at Prudential could pose a threat to U.S. financial stability” and that the firm shall be subject to supervision by the Board of Governors of the Federal Reserve System and enhanced prudential standards. The Council also determined that Prudential was “predominantly engaged in financial activities.”
Among the key assumptions were that material financial distress at the firm could pose challenges to market participants, counterparties, and regulators. These challenges were deemed “especially important” considering a high correlation with equity markets, “which suggests that distress at Prudential could occur at the same time as weakness in financial markets.”
“The decision [to remove the designation] follows extensive engagement with the company and a detailed analysis showing that there is not a significant risk that the company could pose a threat to financial stability,” Treasury Secretary Steven Mnuchin said in a statement. “The Council has continued to act decisively to remove any designation that is not warranted.”
The Dodd-Frank Act, in creating FSOC and the review process, requires the Council to reevaluate non-bank financial company determinations at least annually.
The FSOC, comprised of the heads of financial regulatory agencies, approved the rescission of Prudential’s designation unanimously. Securities and Exchange Commission Chairman Jay Clayton was recused from this matter and delegated his voting authority to SEC Commissioner Elad Roisman.
Prudential, not surprisingly, applauded the decision to withdraw its designation as a non-bank systemically important financial institution.
“We are pleased with this decision, which affirms our longstanding belief that Prudential never met the standard for designation,” a statement says.
“Prudential’s approach—working through the FSOC’s rigorous review process—resulted in the Council’s appropriate conclusion that Prudential does not pose systemic risk,” it added. “We will continue to work with regulators to improve and strengthen the FSOC’s processes and other measures to help address potential risks to financial stability. We also will continue our engagement with the New Jersey Department of Banking and Insurance—in its expanded regulatory role as our group-wide supervisor—to ensure better, informed public policy outcomes that benefit our clients, customers, and other stakeholders.”
Melvin Watt, director of the Federal Housing Finance Agency and an FSOC member, supported the decision, but nevertheless expressed concerns with the designation and review process.
The FSOC may determine that a non-bank financial company is subject to enhanced prudential standards and regulatory supervision if it determines that one of two sets of criteria are met: material financial distress at the non-bank financial company could pose a threat to the financial stability of the U.S.; or the nature, scope, size, scale, concentration, interconnectedness, or mix of activities of the non-bank financial company could pose a threat to the financial stability of the nation.
“I continue to be concerned that no independent evaluation has been made by FSOC under the second standard … Congress obviously intended for the second standard to be regarded as on equal legal footing with the first standard and understood that it would be possible for a company to be ‘too big to fail’ even if it passed the test set out in the first standard and was not experiencing financial distress.”
“Because I believe Prudential would also qualify for de-designation under the second standard if it were evaluated under that standard, I will vote today to de-designate Prudential,” he added. “However, I believe it is important for me to reiterate that FSOC has an obligation to look independently at both standards in the process of deciding whether to designate or to de-designation a company in order to fairly comply with the provisions of Section 113 of the Dodd-Frank Act.”