Superintendent Neiman Addresses the Exchequer Club on State and Federal Cooperation in Resolving the Subprime Crisis
January 16, 2008
Good afternoon. Thank you, Ron, for that kind introduction, as well as for the invitation to speak with you today.
I’ve had the privilege of knowing Ron for many years.
And it is an honor, as well as somewhat humbling, to join the list of those distinguished speakers who have addressed you here at the Exchequer Club over the years. Especially as Chairman Bernanke joined you just last week.
This is my first speech in 2008, and I thought long and hard about the right topic to cover. About the issues I wanted to highlight for the year ahead from the state regulatory perspective, especially those that impact you as financial industry professionals and policy leaders in Washington.
Having begun my career with the OCC and having held executive positions only at national banks, I appreciate the federal viewpoint. Maybe it’s because of my new position- but I must admit- I have a renewed appreciation- even passion- for the dual banking system. And the current subprime crisis provides a unique opportunity to consider the dual banking system and issues like preemption. And most importantly, the proper system for both the state and federal government.
I think we can all agree that there is a place for government in developing an effective response to the subprime crisis. We want industry to have the room to innovate and respond creatively to market conditions. But at the same there should be a balance, with proportional supervision, to protect consumers and help ensure that those business gains are sustainable.
In restoring balance, perhaps it’s time that we embrace a new form of federalism, one which highlights states in their traditional role as overseers of the real estate market in their jurisdictions.
The preemption debate implies another underlying question: is it more appropriate for the mortgage business to be supervised predominantly at the federal level, or also at the state level as it is currently? I’d like to give an unequivocal answer: effective regulation of this industry absolutely necessitates a balanced partnership with an engaged and proactive state government.
It’s true that the mortgage market is national in scope and even has global reach, so certainly the federal government bears a large responsibility. I’m not looking to deemphasize the federal role, but I do want to underscore the fact that there is a continuing and critical role for the states to play as well.
The reach of the mortgage crisis may be global, but the collateral is local. There is nothing more local than the impact of foreclosure on families and neighborhoods. The breadth of the market in no way obviates the need for state-level supervision.
Please be assured that my enthusiasm for state involvement is not the by-product of a state regulator defending “turf.” This debate is about something much more precious. It is about the value of the dual banking system and, quite frankly, about preserving our uniquely American experience of democracy.
But I realize that it’s one thing for me to say categorically that there is an important role for the states, and quite another to lay out the rationale for my position. So to illustrate my point, there are three themes that I would like to highlight:
- The design of the dual banking system;
- The way the system has functioned in practice, in the context of the subprime crisis; and
- A blueprint for the future, to modernize and maximize the value of our regulatory structures.
And let me say at the outset that, when I refer to the dual banking system, I mean much more than charter choice. I’m referring more broadly to the dual regulation of the entire financial services industry, with the appropriate roles for state and federal government.
1. The design of the dual banking system
In considering the design of this dual banking system, however, it may help first to clarify what the intention was not: the system was not designed to frustrate industry.
It may seem counterintuitive, but inclusion of the states is a recipe for less, not more, government intervention. The healthy form of charter competition among government agencies benefits industry by serving as a built-in restraint on excessive regulation and providing multiple forums in which to innovate and develop new products.
However, regulatory competition itself is not the goal. Instead, it is the means toward achieving two primary ends:
- the fostering of marketplace innovation, and;
- safeguarding of the economy.
2. The dual banking system in practice
If these are the high goals of the dual banking system, it’s only fair to ask how it has operated in practice, especially in regard to subprime.
When indications of the crisis first began to emerge, the states were first responders, continuing their historic role as leaders in consumer protection, but these efforts were partially thwarted by federal regulators and assertions of preemption. This fact doesn’t let state regulators off the hook, however, as all market participants have a share of responsibility for the current subprime situation. That includes both state and federal regulators.
Even so, the dual model itself can be part of the solution to stabilizing the market. There are three areas that I would like to briefly consider, in exploring the role that the states and the federal government can play in developing a coordinated response:
- laws and regulations;
- state-state supervisory cooperation; and
- state-federal supervisory cooperation.
The benefits of the dual system are particularly evident in relation to laws and regulations. State laws could serve as models for national standards, which I envision functioning as a floor not a ceiling.
a. Laws and regulations.
New York was among the first to recognize the risk from undisciplined growth in subprime mortgage lending. We responded proactively, passing an anti-predatory lending law that was among the first in the nation. Governor Spitzer is working to continue this legacy of protection and update our banking and other real estate laws.
The anti-predatory lending proposal being developed would, at a minimum, require more in-depth evaluation of a borrower’s ability to repay, prohibit certain loan practices, clarify mortgage brokers’ duties to borrowers, and further strengthen state enforcement tools.
Other reforms we are looking at relate to foreclosure laws and processes. For example, we are proposing a pre-foreclosure notice requirement. If the borrower engages a housing counselor or reaches out to the lender, there would be a window in which the lender is temporarily precluded from continuing the foreclosure process, to allow space for the development of a workout agreement.
Having the right laws is the first foundational step, but those laws need to be more than words on paper. And no state alone has the resources to solve a problem of this scope. That’s why we need to increase the effectiveness of state-state and state-federal cooperation in supervision, to ensure compliance with the law.
b. State-state supervisory cooperation
On the state-state side, we are working to reduce the burden and increase the effectiveness of examinations for institutions that operate across state lines.
We are holding weekly conference calls with other states to discuss the condition of state-supervised mortgage bankers and brokers, and this has led to the identification of new issues as well as more streamlined multi-state exams.
I’d like to highlight another key multi-state initiative designed to secure compliance with the law, and that is the new nationwide mortgage loan originator licensing system (MLO) for mortgage bankers and brokers.
The MLO project will enroll individual mortgage originators, and not just the firms where they are employed. This project is the first of its kind, and is an undertaking on a truly massive scale- in New York alone we anticipate enrolling over 40,000 individuals.
This nationwide multi-state system, organized by CSBS, will help to curb mortgage abuse by making it more difficult for bad actors to evade enforcement and reopen shop simply by migrating across state lines. Components of the plan include authorization by the states, fingerprinting, and an education requirement.
In support of the MLO project, the states are also creating model regulations and model exam templates, which will raise the regulatory standards across the states as well as create a more uniform and predictable set of expectations for the industry.
c. State-federal supervisory cooperation
As vital as cooperation between the states is, lasting solutions also demand an engaged federal partner. There has been progress on this front, but there have also been moments of frustration.
As I noted recently in a letter to Secretary Paulson, I found it curious and disappointing that the Treasury Department’s HOPE NOW Alliance did not include a state government representative. Especially when the federal bank regulators were included in the Alliance and in meetings with the servicing industry to facilitate streamlined modifications. This omission could undermine the group’s effectiveness, because it is missing the perspective from an important regulatory partner, which is the sole supervisor for a significant portion of the mortgage industry.
The Financial Services Roundtable echoed this concern that federal initiatives include a state perspective in their report last November on financial competitiveness. They noted the many benefits that could flow from a state voice on the President’s Working Group on Financial Markets, and I concur that greater state involvement in federal initiatives is part of the recipe for success.
Nevertheless, there are positive signs that a new era in state-federal cooperation may be in the offing, particularly in relation to supervision and examinations. Early in my tenure I reached out to Comptroller Dugan to identify ways in which we could work cooperatively together, to move beyond the heated preemption debate and focus on the subprime problem.
And there are two unique state-federal exam pilot programs under development. The first is a joint exam effort where the OCC would examine a national bank at the same time we are examining a mortgage broker who was originating mortgages for that national bank.
In another pilot, the states and the Federal Reserve, OTS, and FTC will be joining forces in the review of selected mortgage subsidiaries of bank and thrift holding companies. Both of these pilots are critical in connecting the dots and gaining a more comprehensive view of lending activity in a diversified industry.
3. A Blueprint for the Future
So to return to my initial themes, I want to conclude with a look at a blueprint for the future of financial services regulation. As important as this increased supervisory cooperation is, there is also room for a more comprehensive consideration of regulatory reform.
Other markets abroad are maturing. The New York capital markets are facing increasing competition, and the need to modernize in response has been noted in many studies, including the joint Schumer-Bloomberg report and the Financial Services Roundtable report that I previously mentioned. The Treasury Department also has its own modernization study underway, and I was pleased to have the opportunity to offer New York’s perspective on the questions under consideration.
We see this as the perfect time to reevaluate New York’s regulatory models, to ensure they are calibrated to respond to the emerging challenges of an increasingly global marketplace.
With that in mind, Governor Spitzer has created the Commission to Modernize the Regulation of Financial Services. The Commission is charged with identifying ways for New York to retain and enhance its status as a world financial center and bring our regulatory structure into the 21st Century.
This panel brings together a prestigious group of executives of financial institutions, consumer organizations, elected officials, and the heads of state agencies overseeing the industry. As a member of the Commission, I look forward to your input as we work on promoting continued economic innovation. I want to emphasize that this is no mere think tank; although the complexities of the issues require deep analysis, the goal is to produce tangible results in the form of an action plan.
The first meeting of the full Commission is the day after tomorrow, although we have been actively preparing through smaller team meetings with individual Commissioners, industry, and consumer groups. And the Banking Department is already well underway with a top-to-bottom review of New York banking laws and regs, under the leadership of my General Counsel Marj Gross.
I consider the work of the Commission to be wholly consistent with our existing commitment to state supervision of the financial services industry. In fact, as we explore the merits of more principles-based approaches, we may find that a set of guiding principles could act to enhance state-federal coordination, rather than replace our existing structure. A common framework of principles could serve as a set of minimum national expectations, around which the rules appropriate to our local situations could find their place.
While we want to remain competitive with respect to foreign markets that may have more consolidated regulatory regimes, and there are opportunities to streamline our system, the basic concept of the dual banking system is still valid. Our dual approach offers many benefits that we ought to preserve, even as we consider how best to equip state government to respond to contemporary issues.
There is a genius, albeit a subtle genius, in the dual banking system. It reminds us that effective regulation is not just a process- it is a means to the noble goal of effective supervision- the goal of a safe and sound financial system with second-to-none consumer and investor protections. Only by moving beyond our differences and truly moving towards better cooperation and coordination are we assured to achieve this shared goal.
Thank you again for inviting me.