The Great Recession and the Dodd-Frank Act led to increased regulatory controls on banks. Banks have performed with strength during the early days of the COVID-19 crisis, a testament to the success of the protections imposed by the Dodd-Frank Act and the regulatory framework that emerged from the recession, as well as the overall focus of regulators on bank regulation and supervision.
To a certain extent, some of those regulatory limitations, combined with the rise of fintech companies and the growing acceptance by consumers of digital banking, have paved the way for alternative offerings from unregulated nonbank financial institutions, and continued disintermediation in banking. The COVID-19 crisis has only accelerated this trend.
Those who might have resisted digital banking options in the past are now stuck at home, with concerns over touching physical currency, coin shortages, and a focus on the relative safety of digital banking options. Some consumers have also seen challenges to accessing banking services brought on by social distancing.
What can we expect from the Biden administration? Interestingly, its core focus areas may lead to dialectic paths and dueling agendas.
On the one hand, the Biden administration has indicated a focus on the consumer's fast and uninhibited access to banking, but based on recent nominations to key posts in the Consumer Financial Protection Bureau and the U.S. Securities and Exchange Commission, the safety of those banking transactions and soundness of the institutions with whom consumers conduct those banking activities will be core concerns.
Prudential regulators focus on safety and soundness of the banking system, with requirements such as Federal Deposit Insurance Corp. insurance, and guardrails around capital and liquidity, that make regulated financial institutions a safe place to put money.
Based on published agency goals and agendas, we can expect a high-priority focus on financial institutions in the areas of cybersecurity and all areas of risk management, particularly emerging areas such as climate risk. In this sense, a consumer-centric focus would steer the consumer toward the regulated financial institution. The issue is the cost and access for some consumers.
Clearly, there will be an increased focus on equity and inclusion. How might this impact the unbanked and underbanked population? Based on the FDIC's most recent annual survey "How America Banks: Household Use of Banking and Financial Services," 5.4% of the adult U.S. population has no checking or savings account.[1]
The good news is that this is the lowest rate since the survey began in 2009. The bad news is that the unbanked rates were higher among lower-income households, less-educated households, and disabled and minority households such as Black, Hispanic, American Indian and Alaska Native households.
Further, based on the increase in the unbanked rate during the Great Recession, the FDIC's report surmised that the unbanked rate is likely to have increased since the date of the survey from which this data was taken as a result of the COVID-19 crisis and negative changes in socioeconomic circumstances, notably job or income loss.
In the past the unbanked and under-banked have relied on shadow banking options such as pawn shops, payday lenders, check cashers, money transmitters and prepaid debit cards, scared away from traditional banking by insufficient funds to open accounts, account and overdraft fees, and delayed access to funds when compared to check cashing services.[2]
Core banking functions include taking deposits, cashing checks and making loans — but what does this mean in the digital age when the ultimate goal is fast movement of currency to effectuate transactions in commerce, and what of the nonbank financial institution class of fintech companies and the array of unregulated options they afford consumers: ease of access, faster payment options, digital currencies and digital identity information sharing?
Innovation is inevitable. Take for example Walmart Inc.'s recent announcement of a venture with Ribbit Capital — now of Robinhood Markets Inc. and GameStop Corp. fame — to increase banking options for its customers, many of whom use the shadow banking options described above.
Walmart's press release announcing the venture demonstrated that its new venture will augment the banking type services Walmart already provides, such as its MoneyCard prepaid debit card.
How ironic that Walmart is now viewed as the safer neighborhood convener of access to finance, as compared to Amazon.com Inc., Google Inc. and other digital behemoths.
A central question to be answered by the Biden administration for fintech companies is whether, who, and to what extent to regulate them, and where to draw the line on the continuum of those requiring regulation.
The Office of the Comptroller of the Currency has indicated strong reasons that it should regulate them, and it does have the experience and a framework in place. For example, on Jan. 13, the OCC conditionally approved Anchorage Digital Bank NA's national trust charter, making it the first federally regulated digital asset bank.
On the other hand, the CFPB will clearly gain more of its muscle back in the Biden administration. While it may be better suited as an enforcement arm, early indications show its desire to take on nonbank financial institutions. With its proposed chair, Rohit Chopra, focus areas will likely include fair lending, payday lending and student loans, but how much can it pivot and how quickly?
Numerous groups — not just OCC and CFPB, but also the Federal Reserve and Financial Stability Board, keeping in mind Fed Vice Chair Randal Quarles is also serving a term as chair of the FSB — are interested in increased licensing and risk management requirements for nonbank financial institutions.
There is a broad continuum of nonbank financial institution services, from those that focus on core banking activities to those more tangential to banking.
Former OCC Acting Chair Brian Brooks observed in a recent op-ed on the future of driverless banks that just as in the past we have regulated the driver rather than the car — and some of those regulations are now thrown off by driverless cars — we have regulated the bank and not the banking activity.[3]
The focus of the Biden administration should be on setting appropriate guardrails for the banking activity as it relates to consumers, while not further tipping the scales against currently regulated financial institutions during this period of rapid change by imposing further regulation on banks but not nonbank financial institutions.
In this brave new world of digital banking, the focus should be on protecting consumers' basic banking services, regardless of who is providing those services, while allowing for continued innovation in the financial sector.
In the meantime, regulated financial institutions should continue to lean in to the safety and soundness they provide consumers and welcome open dialogue in efforts to focus on the activity rather than the actor, and to address the core needs of reducing barriers to entry for unbanked and underbanked consumers and increasing consumer access to payment systems.
Nonbank financial institutions should stay closely engaged with the evolution of how their activities might be regulated and by whom, anticipate some of those guardrails in their current structuring and relationships, and keep the Biden administration's consumer-centric focus in mind in product development.
[1] https://www.fdic.gov/analysis/household-survey/index.html.
[2] https://www.fdic.gov/analysis/household-survey/index.html.
[3] https://www.ft.com/content/c1caca5b-01f7-41be-85a4-3ecb883f2417.
Published in Law360 on February 12, 2021. Reprinted here with permission.
