Alternatives to References to Credit Ratings With Respect to Permissible Activities for Foreign Branches of Insured State Nonmember Banks and Pledge of Assets by Insured Domestic Branches of Foreign Banks
Final rule.
CFR Part: "12 CFR Part 347"
RIN Number: "RIN 3064-AE36"
Citation: "83 FR 9135"
Page Number: "9135"
"Rules and Regulations"
SUMMARY: The
DATES: This rule is effective
FOR FURTHER INFORMATION CONTACT:
SUPPLEMENTARY INFORMATION:
I. Policy Objectives
The intent of the final rule is to conform Part 347 with section 939A's directive to reduce reliance on external credit ratings. By removing references to credit ratings in Part 347 and adopting an alternative standard of creditworthiness, the final rule encourages regular, in-depth analysis of the credit risks associated with specific types of securities held by foreign branches of state nonmember banks under subpart A of Part 347 (subpart A), or pledged for the benefit of the
The financial crisis in 2008 highlighted the importance of considering the liquidity of a security when assessing its overall risk. To address this concern, the revisions to the asset pledge requirement in subpart B include the application of a liquidity standard to the securities pledged to the
II. Background
In the decades prior to the financial crisis in 2008, third party credit risk assessments by nationally recognized statistical ratings organizations (NRSROs) helped to provide transparency and efficiency to the securities markets. Their assessments of creditworthiness allowed originators and investors to more accurately and readily meet their risk tolerances and investment strategies. Many financial regulations used these external credit risk ratings to set limits on the activities of regulated entities in order to foster safe and sound investment practices. However, during the run-up to the crisis many regulated institutions overly relied on the credit risk assessments of NRSROs, often neglecting to conduct a thorough, independent credit risk analysis. At the same time, flaws in the NRSROs' rating methodologies and conflicts arising from their business model (including certain commercial relationships with the originators of securities and strong competition by NRSROs for market share), undermined the accuracy of the credit ratings for a number of asset classes. Consequently, many investors, including banking organizations, experienced significant losses on securities with ratings that implied credit losses would be very unlikely and minimal. This prompted
FOOTNOTE 1 Public Law No. 111-203, section 939A, 124 Stat. 1376, 1887 (
Section 939A requires each federal agency to review its regulations that require the use of an assessment of creditworthiness of a security or money market instrument and any references to or requirements in such regulations regarding credit ratings. Each agency must modify its regulations identified in the review by removing references to, or requirements of reliance on, credit ratings and substituting appropriate standards of creditworthiness.
Subpart A of Part 347--Foreign Banking and Investment by Insured State Nonmember Banks
Subpart A of Part 347, 12 CFR 347.101 to 347.122, addresses the international banking and investment activities of state nonmember banks, including the establishment and operations of foreign branches and subsidiaries. /2/ In general, these regulations implement the
FOOTNOTE 2 A state nonmember bank may establish a non-
FOOTNOTE 3 12 U.S.C. 1828(d)(2). END FOOTNOTE
FOOTNOTE 4 12 U.S.C. 1828( l). END FOOTNOTE
In addition to their general banking powers, banks with foreign branches are permitted to conduct a broad range of investment activities, including investment services and underwriting of debt and equity securities. /5/ Under 12 CFR 347.115(b), a foreign branch of a bank may invest in, underwrite, distribute and deal, or trade foreign government obligations that have an investment grade rating, up to an aggregate limit of ten percent of the bank's Tier 1 capital, as calculated under the Basel III capital rules in 12 CFR part 324, subpart C. /6/ Section 347.102(o) currently defines investment grade to mean a security that is rated in one of the four highest categories by two or more NRSROs or one NRSRO if the security is rated by only one NRSRO. /7/
FOOTNOTE 5 The limitations on international investments and the definition of permissible activities found in the
FOOTNOTE 6 12 CFR 324.20 through 324.22. END FOOTNOTE
FOOTNOTE 7 An NRSRO is an entity registered with the
Subpart B of Part 347--Foreign Banks
The regulations contained in subpart B of Part 347 primarily implement provisions of the FDI Act and the International Banking Act (IBA) /8/ concerning insured and noninsured
FOOTNOTE 8 Public Law 95-369, 92 Stat. 607 (
FOOTNOTE 9 U.S. branches of foreign banks may be licensed by the
FOOTNOTE 10 The
FOOTNOTE 11 Although
FOOTNOTE 12 Before FBSEA, a small number of foreign bank branches had obtained
FOOTNOTE 13 12 U.S.C. 1821(f). END FOOTNOTE
III. Notice of Proposed Rulemaking
On
FOOTNOTE 14 81 FR 41877 (
The FDIC sought comments on all aspects of the
IV. The Final Rule
Part 347--International Banking Subpart A--Foreign Banking and Investment by Insured State Nonmember Banks
Section 347.102 Definitions
The final rule amends the definition of investment grade in 12 CFR 347.102(o) by deleting the references to credit ratings and NRSROs. This final rule defines investment grade as a security whose issuer has adequate capacity to meet all financial commitments under the security for the projected life of the exposure. Such an entity has adequate capacity to meet financial commitments if the risk of its default is low, and the full and timely repayment of principal and interest is expected.
The FDIC sought comment on whether this proposed standard of creditworthiness addressed the
The FDIC believes that the revised standard provides a flexible, straightforward measure of creditworthiness that is consistent with existing policy. The revised definition achieves the dual goal of reducing reliance on credit ratings and encouraging regular, in-depth analysis of the credit risks associated with specific types of securities held by foreign branches of state nonmember banks under subpart A, or pledged for the benefit of the
FOOTNOTE 15 See 78 FR 62018 (
FOOTNOTE 16 See Permissible Investments for Federal and State Savings Associations:
FOOTNOTE 17 See Alternatives to the Use of External Credit Ratings in the Regulations of the OCC, 77 FR 35253 (
FOOTNOTE 18 The OCC's regulations previously allowed for the use of certificates of deposit ("CDs") or bankers' acceptances as part of the deposit if the issuer of the instrument was rated "investment grade" by an internationally recognized rating organization. Under the revised regulation, the issuer of the certificate of deposit or banker's acceptance must have "an adequate capacity to meet financial commitments under the security for the projected life of the asset or exposure." See Alternatives to the Use of External Credit Ratings in the Regulations of the OCC, 77 FR 35253 (
Section 347.115 Permissible Activities for a Foreign Branch of an
Section 347.115 defines the particular activities that a foreign branch of an insured state nonmember bank may conduct. These activities are subject to safety and soundness limitations and are limited by the extent to which the activities are consistent with banking practices in the foreign country where the bank maintains a branch. The final rule, consistent with the
FOOTNOTE 19 The definition of "investment grade" for obligations of governments other than the host government was adopted in 2005 when the
FOOTNOTE 20 Under the Regulation K, a foreign branch of a member bank may underwrite, distribute, buy, sell, and hold certain government debt obligations only if such obligations are rated investment grade. See 12 CFR 211.4(a)(2)(i)(C)-(D). The
The regulatory definition of investment grade adopted in the final rule will remove references to credit ratings consistent with section 939A but will not affect the general consistency between the
Part 347--International Banking Subpart B--Foreign Banks
Section 347.209 Pledge of Assets
12 CFR 347.209 establishes the asset pledge requirement for insured
FOOTNOTE 21 12 CFR 347.209(b). Generally, an insured branch must maintain a level of assets that exceeds 106 percent of its liabilities. 12 CFR 347.210. END FOOTNOTE
FOOTNOTE 22 The pledged assets must be placed at a depository approved by the
The current
FOOTNOTE 23 P-1 and P-2 are Moody's top two rating bands for short-term obligations. END FOOTNOTE
FOOTNOTE 24 See 12 CFR 347.209(d)(1), (2), (5), and (6). END FOOTNOTE
The final rule removes the references to credit ratings issued by NRSROs in 12 CFR 347.209(d) and substitutes an investment grade standard to ensure the assets have appropriate credit quality. As proposed in the
Credit and Liquidity Standards
Under this final rule, instruments falling within the relevant asset categories are eligible for pledging if they are investment grade. Consistent with this final rule's amendment to subpart A of Part 347, the final rule adds the same definition of investment grade to the definitions section of subpart B, 12 CFR 347.202, to define investment grade as a security issued by an entity that has adequate capacity to meet financial commitments under the security for the projected life of the exposure. To meet this standard, the insured branch of the foreign bank needs to determine that the risk of default by the obligor is low, and that full and timely repayment of principal and interest is expected. As noted earlier, this investment grade standard is consistent with other regulations amended pursuant to section 939A.
As proposed in the
* Exhibit low credit and market risk;
* are traded in an active secondary two-way market that has committed market makers and independent bona fide offers to buy and sell so that a price reasonably related to the last sales price or current bona fide competitive bid and offer quotations can be determined within one day and settled at that price within a reasonable time period conforming with trade custom; and
* are a type of asset that investors historically have purchased in periods of financial market distress during which market liquidity has been impaired. /25/
FOOTNOTE 25 The definition of a highly liquid asset is consistent with the definition established in 12 CFR part 252, subpart O Enhanced Prudential Standards for Foreign Banking Organizations (The
The final rule requires a foreign bank to demonstrate that the instrument meets the highly liquid standard.
The FDIC sought comment on whether the proposed investment grade and liquidity standards for pledged assets under subpart B of Part 347 are reasonable provisions and whether the removal of references to external credit ratings should be implemented as proposed or whether there are alternatives that would achieve a creditworthiness standard that is sufficiently risk sensitive. One commenter expressed concern that the proposed investment grade and liquidity requirements will significantly increase the operational burden on the branch. This commenter expressed concern that the new standards contained in the definitions of investment grade and highly liquid are general and will require subjective determinations. The commenter also expressed the opinion that the highly liquid standard is not required under Section 939A. The commenter further noted that the introduction of this new standard is not necessary to protect the DIF against losses. This commenter contended that the types of pledgeable assets, coupled with the investment grade requirement, would provide adequate assurance that pledged assets are sufficiently low risk and liquid.
The proposed amendments in Subpart A address the permissible international banking and investment activities of state nonmember banks. Subpart A differs in scope and purpose from subpart B, which establishes asset maintenance and pledge requirements for insured
Although requiring foreign banks to verify that pledged assets satisfy the proposed standards may require some initial adjustment of existing processes, the
Existing 12 CFR 347.209(d) includes creditworthiness standards that exceed investment grade. That is, with some pledgeable asset types only the top two letter ratings (e.g.,
The FDIC believes that adopting the investment grade and highly liquid criteria, in conjunction with the fair value discount, helps ensure that pledged assets continue to support orderly asset liquidation at maximum value in the event such assets need to be liquidated to pay the insured deposits of the
Fair Value Discount
As proposed in the
FOOTNOTE 26 In 12 CFR 324.37(c)(3), the
FOOTNOTE 27 See 12 CFR 324.32 for general risk weights. END FOOTNOTE
FOOTNOTE 28 Assets with zero percent risk weight include cash;
The FDIC solicited comment on whether pledged assets should be discounted as proposed, or whether the full fair value of assets pledged under the existing risk-based assessment schedule already provide sufficient protection to the DIF. In addition, the
The FDIC believes the fair value haircut provides an appropriate methodology for discounting fair values which is consistent with the haircuts applied to financial collateral pledged to certain transactions under the Basel III capital rules as adopted by the
FOOTNOTE 29
Based on these and other considerations, the
Assets That May Be Pledged
As proposed in the
FOOTNOTE 30 12 CFR part 252 subpart O. END FOOTNOTE
FOOTNOTE 31 12 CFR 324.32(a) and (c). END FOOTNOTE
Pursuant to subpart B, all assets pledged, including cash, are required to be subject to the terms of a pledge agreement executed by the pledging foreign bank and the depository. /32/ Subpart B requires that the pledge agreement's terms include a requirement that pledged assets be placed with a depository for safekeeping. /33/ Subpart B also requires that the pledged assets be designated as assets subject to the pledge agreement. /34/ In addition, the assets must be held separately from the assets of the foreign bank or depository, and must at all times be segregated on the records of the depository and clearly identified as assets subject to the pledge agreement. /35/ Subpart B requires that a foreign bank obtain the
FOOTNOTE 32 12 CFR 347.209(e)(5)(i).
FOOTNOTE 33 12 CFR 347.209(c). END FOOTNOTE
FOOTNOTE 34 12 CFR 347.209(e)(5)(ii). END FOOTNOTE
FOOTNOTE 35 Id. END FOOTNOTE
FOOTNOTE 36 12 CFR 347.209(c) END FOOTNOTE
The FDIC solicited comment on whether the types of assets that may be pledged should be expanded to include cash as proposed. One commenter expressed support for the addition of cash as a new eligible asset type. The commenter also sought clarification as to whether an insured branch would be permitted to receive interest on any such pledged cash. While subpart B generally authorizes insured branches to retain interest earned on pledged assets, /37/ the operation of subpart B's segregation and safekeeping requirements as applied to pledged cash would preclude the payment of interest on such cash. Most importantly, in order for pledged cash to be deemed held for safekeeping and segregated in accordance with subpart B's requirements, such cash must be held separate from the general funds of the bank and may not be commingled with any cash or other property of the depository. Accordingly, such cash may not be loaned, invested, used in operations, or used for any other purpose by the depository. Because, generally, interest is paid for the use of cash, if the depository complies with the safekeeping and segregation requirement, it cannot use the cash and, thus, there would be no basis for the payment of interest. In the event that the
FOOTNOTE 37 12 CFR 347.209(e)(10). A foreign bank may retain interest earned on pledged assets unless the
The FDIC views the amendments to the pledgeable asset criteria as consistent with other rulemakings, and as resulting in minimal impact on the insured
Based on these, and other, considerations, the final rule adopts the pledgeable asset categories as proposed in the
The revised pledgeable asset categories are as follows:
(1) Cash;
(2)
(3) Obligations of
(4) Negotiable CDs that are payable in
(5) Obligations of the
(6) Commercial paper;
(7) Notes issued by bank and savings and loan holding companies, banks, or savings associations organized under the laws of
(8) Banker's acceptances that are payable in
(9) General obligations of any state of
(10) Any other asset determined by the
FOOTNOTE 38 The
Cash, treasury bills or other direct obligations of or fully guaranteed by
FOOTNOTE 39 A direct debt obligation issued by a
Foreign banks pledging assets that do not categorically satisfy the investment grade and highly liquid standards will need to demonstrate that the assets being pledged meet the investment grade and highly liquid standards. Foreign banks can find the appropriate haircut by identifying the risk weight associated with the asset in the capital rules.
Other Technical Revisions
As proposed in the
FOOTNOTE 40 12 U.S.C. 3101(1). The proposed definition is also consistent with the definition of agency in the
FOOTNOTE 41 12 CFR 347.202(b). END FOOTNOTE
One commenter expressed concern with the proposal to amend 12 CFR 347.209(d)(7) to clarify that a pledging
As proposed in the
V. Expected Effects
a. Subpart A
The applicability of the revision to subpart A of Part 347 in the final rule is limited to state nonmember banks that operate branches in foreign countries. As of
b. Subpart B
The revisions to subpart B of Part 347 in the final rule will apply only to the insured
VI. Alternatives Considered
Section 939A requires that agencies adopt standards of creditworthiness that, to the extent feasible, are uniform. The adoption of an alternative definition of investment grade would be inconsistent with section 939A's directive to adopt uniform standards.
In addition to adopting the definition of investment grade, the final rule, consistent with the proposed rule, amends subpart B of Part 347 to impose liquidity and discounting requirements for assets pledged by insured branches of foreign banks operating in
VII. Effective Date
The Administrative Procedure Act (APA) generally requires that a final rule be published in the
FOOTNOTE 42 5 U.S.C. 553(d). END FOOTNOTE
FOOTNOTE 43 12 U.S.C. 4802. END FOOTNOTE
VIII. Regulatory Analyses
Paperwork Reduction Act
In accordance with the requirements of the Paperwork Reduction Act of 1995 (PRA) /44/ the
FOOTNOTE 44 44 U.S.C. 3501 et seq. END FOOTNOTE
The collection of information associated with subpart B is entitled Foreign Banks (OMB No. 3064-0114). This information collection consists of, among other things, internal recordkeeping by insured branches of foreign banks, and reporting requirements related to an insured branch's pledge of assets to the
Title Times/year Respondents Hours per Total per year response burden hours Moving a 1 1 8 8 branch Consent to 1 1 8 8 operate Conduct 1 1 8 8 activities Recordkeeping 1 10 120 1,200 Pledge of assets: documents 4 10 0.25 10 reports 4 10 2 80 Total Burden 1,314
The FDIC has a continuing interest in the public's opinions of our existing information collections. At any time, comments are invited on:
* Whether the collections of information are necessary for the proper performance of the Agencies' functions, including whether the information has practical utility;
* The accuracy of the estimates of the burden of the information collections, including the validity of the methodology and assumptions used;
* Ways to enhance the quality, utility, and clarity of the information to be collected;
* Ways to minimize the burden of the information collections on respondents, including through the use of automated collection techniques or other forms of information technology; and
* Estimates of capital or startup costs and costs of operation, maintenance, and purchase of services to provide information.
All comments will become a matter of public record. A copy of the comments may also be submitted to the OMB desk officer for the
Regulatory Flexibility Act Analysis
The Regulatory Flexibility Act (RFA) generally requires that, in connection with a notice of final rulemaking, an agency prepare a Final Regulatory Flexibility Act analysis describing the impact of the rule on small entities (defined in regulations promulgated by the
The final rule makes revisions to the existing rules in subpart A of Part 347 consistent with section 939A of the Dodd-Frank Act. /45/ The rules in subpart A of Part 347 address issues related to the international activities and investments of insured state nonmember banks. In general, they implement the
FOOTNOTE 45 Subpart J of part 303 contains the procedural rules that implement Part 347. No revisions are proposed to these rules. END FOOTNOTE
The final rule also amends subpart B of Part 347 as applied to insured
Small Business Regulatory Enforcement Fairness Act
The OMB has determined that the final rule is not a major rule within the meaning of the relevant sections of the Small Business Regulatory Enforcement Fairness Act of 1996 (SBREFA). /46/ As required by SBREFA, the
FOOTNOTE 46 5 U.S.C.
The Omnibus Consolidated and Emergency Supplemental Appropriations Act, 1999: Assessment of Federal Regulations and Policies on Families
The FDIC has determined that this final rule will not affect family well-being within the meaning of section 654 of the Omnibus Consolidated and Emergency Supplemental Appropriations Act, 1999. /47/
FOOTNOTE 47 Public Law 105-277, 112 Stat. 2681 (1998). END FOOTNOTE
Plain Language
Section 722 of the Gramm-Leach-Bliley Act requires the
List of Subjects in 12 CFR Part 347
Bank deposit insurance, Banks, Banking, Foreign banking, Investments, Insured foreign branches, Reporting and recordkeeping requirements,
Authority and Issuance
For the reasons stated in the preamble, the
PART 347--INTERNATIONAL BANKING
1. The authority citation for part 347 is revised to read as follows:
Authority: 12 U.S.C. 1813, 1815, 1817, 1819, 1820, 1828, 3103, 3104, 3105, 3108, 3109; Pub L. No. 111-203, section 939A, 124 Stat. 1376, 1887 (
2. In
* * * * *
(o) Investment grade means a security issued by an entity that has adequate capacity to meet financial commitments for the projected life of the exposure. Such an entity has adequate capacity to meet financial commitments if the risk of its default is low and the full and timely repayment of principal and interest is expected.
* * * * *
3. In
* * * * *
(b) Agency means any office or any place of business of a foreign bank located in any
* * * * *
(l) Highly liquid means, with respect to a security, that the security has low credit and market risk; is traded in an active secondary two-way market that has committed market makers and independent bona fide offers to buy and sell so that a price reasonably related to the last sales price or current bona fide competitive bid and offer quotations can be determined within one day and settled at that price within a reasonable time period conforming with trade custom; is a type of asset that investors historically have purchased in periods of financial market distress during which market liquidity has been impaired.
* * * * *
(r) Investment grade means a security issued by an entity that has adequate capacity to meet financial commitments for the projected life of the exposure. Such an entity has adequate capacity to meet financial commitments if the risk of its default is low and the full and timely repayment of principal and interest is expected.
* * * * *
4. In
* * * * *
(d) Assets that may be pledged. (1) This paragraph sets forth the kinds of assets that may be pledged to satisfy the requirements of this section. A foreign bank shall be deemed to have pledged any such assets for the benefit of the
(2) A foreign bank may pledge the kinds of assets set forth in this paragraph (d)(2), provided that: Such assets are denominated in
(i) Cash;
(ii)
(iii) Obligations of
(iv) Negotiable certificates of deposit that are payable in
(v) Obligations of the
(vi) Commercial paper;
(vii) Notes issued by bank and savings and loan holding companies, banks, or savings associations organized under the laws of
(viii) Banker's acceptances that are payable in
(ix) General obligations of any state of
(x) Any other asset determined by the
* * * * *
Haircut % assigned based on maturity and risk weight Risk weight (%) by issuer as specified in part 324.32 Remaining maturity 0% 20% 50% 100% = to 1 Year 0 1.0 2.0 4.0 >1 Year but = 5 Years 0 4.0 6.0 8.0 >5 years 0 8.0 12.0 16.0
Dated at
By order of the Board of Directors.
Executive Secretary.
[FR Doc. 2018-04255 Filed 3-2-18;
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