House Continues To Push For Reduced Securities Regulation
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House Appropriations Bill
The House continues its busy activity of passing legislation designed to reduce securities and market regulations. In early July, the House passed H.R. 2995, an appropriations bill for the federal budget for the fiscal year beginning October 1st. No further action has been taken. The 259-page bill, which is described as “making appropriations for financing services and general government for the fiscal year ending September 30, 2017, and for other purposes” (“House Appropriation Bill”), contains numerous provisions reducing or eliminating funding for key aspects of SEC enforcement and regulatory provisions.
Earlier this year, I wrote this BLOG about three House bills that will likely never be passed into law. The 3 bills include: (i) H.R. 1675 – the Capital Markets Improvement Act of 2016, which has 5 smaller acts imbedded therein; (ii) H.R. 3784, establishing the Advocate for Small Business Capital Formation and Small Business Capital Formation Advisory Committee within the SEC; and (iii) H.R. 2187, proposing an amendment to the definition of accredited investor. None of the bills have been passed by the Senate as of yet.
The new House Appropriations Bill also contains the text of H.R. 3784, establishing the Advocate for Small Business Capital Formation and Small Business Capital Formation Advisory Committee within the SEC. The Bill prohibits the SEC from expending any funds under the Dodd-Frank act or to finalize, issue or implement any rule related to the disclosure of political contributions, contributions to tax-exempt organizations, or dues paid to trade associations.
The Bill also requires the Director of the Office of Management and Budget to submit a report to the Committees on Appropriations for both the House and Senate detailing the costs of implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”).
The Financial Choice Act
The House Financial Services Committee has also drafted The Financial Choice Act, which has not yet been passed by the House. This Act is as extreme as the current presidential election and likely will never go further than its publication by the House Financial Services Committee. The Executive Summary for the Financial Choice Act lists the following seven key principles of the Act:
- Economic growth must be revitalized through competitive, transparent, and innovative capital markets;
- Every American, regardless of their circumstances, must have the opportunity to achieve financial independence;
- Consumers must be vigorously protected from fraud and deception as well as the loss of economic liberty;
- Taxpayer bailouts of financial institutions must end and no company can remain too big to fail;
- Systemic risk must be managed in a market with profit and loss;
- Simplicity must replace complexity, because complexity can be gamed by the well-connected and abused by the Washington powerful; and
- Both Wall Street and Washington must be held accountable.
The Act focuses on dismantling Dodd-Frank. On the bank-specific side, the Act would eliminate bank prohibitions on capital distributions and limitations on mergers, consolidations, or acquisitions of assets or control to the extent these limitations relate to capital or liquidity standards or concentrations of deposits or assets.
Related to bailouts, the Act would in summary:
- Repeal the authority of the Financial Stability Oversight Council to designate firms as systematically important financial institutions (i.e., too big to fail).
- Repeal Title II of Dodd-Frank and replace it with new bankruptcy code provisions specifically designed to accommodate large, complex financial institutions. Title II of Dodd-Frank is the orderly liquidation authority, granting authority to the federal government to obtain receivership control over large financial institutions; and
- Repeal Title VIII of Dodd-Frank, which gives the Financial Stability Oversight Council access to the Federal Reserve discount window for systematically important financial institutions (i.e., gives the federal government the money to bail out financial institutions) as well as the authority to conduct examinations and enforcement related to risk management;
Related to accountability from financial regulators, the Act would:
- Make all financial regulatory agencies subject to the REINS Act related to appropriations and place all such agencies on an appropriations process subject to bipartisan control;
- Require all financial regulators to conduct a detailed cost-benefit analysis for all proposed regulations (provisions analogous to this are already required, but this would be more extreme);
- Reauthorize the SEC for a period of 5 years with funding, structural and enforcement reforms (i.e., dismantle the current SEC and replace it with a watered-down version);
- “Institute significant due-process reforms for every American who feels that they have been the victim of a government shakedown.”
- Repeal the Chevron Deference doctrine. Under this doctrine, a court must defer to an agency’s interpretation of statues and rules.
- Demand greater accountability and transparency from the Federal Reserve; and
- Abolish the Office of Financial Research.
Under the heading “[U]leash opportunities for small businesses, innovators, and job creators by facilitating capital formation”, the Act would:
- Repeal multiple sections of Dodd-Frank, including the Volker Rule (which restricts U.S. banks from making speculative investments, including proprietary trading, venture capital and merchant bank activities);
- Repeal the SEC’s authority to either prospectively or retroactively eliminate or restrict securities arbitration;
- Repeal non-material specialized disclosure; and
- Incorporate more than two dozen committee- or House-passed capital formation bills, including H.R. 1090 – Retail Investor Protection Act (prohibiting certain restrictions on investment advisors), H.R. 4168 – Small Business Capital Formation Enhancement Act (requiring prompt SEC action on finding of the annual SEC government business forum), H.R. 4498 – Helping Angels Lead Our Startups Act (directing the SEC to amend Regulation D expanding the allowable use of solicitation and advertising), and H.R. 5019 – Fair Access to Investment Research Act (expanding exclusion of research reports from the definition of an offer for or to sell securities under the Securities Act).
The House regulatory activity gives insight into the behind-the-scenes political pressure facing the SEC in recent years. We have seen the most dramatic changes in capital formation regulations and technological developments in the past 30 years, if not longer. Significant capital-formation changes include: (i) the creation of Rule 506(c), which came into effect on September 23, 2013, and allows for general solicitation and advertising in private offerings where the purchasers are limited to accredited investors; (ii) the overhaul of Regulation A, creating two tiers of offerings which came into effect on June 19, 2015, and allows for both pre-filing and post-filing marketing of an offering, called “testing the waters”; (iii) the addition of Section 5(d) of the Securities Act, which came into effect in April 2012, permitting emerging-growth companies to test the waters by engaging in pre- and post-filing communications with qualified institutional buyers or institutions that are accredited investors; and (iv) Title III crowdfunding, which came into effect May 19, 2016, and allows for the use of Internet-based marketing and sales of securities offerings.
At the same time, we have faced economic stagnation since the recession, a 7-year period of near-zero U.S. interest rates and negative interest rates in some foreign nations, nominal inflation and a near elimination of traditional bank financing for start-ups and emerging companies. If bank credit was available for small and emerging-growth companies, it would be inexpensive financing, but it is not and I do believe that Dodd-Frank and over-regulation are directly responsible for this particular problem.
Small companies and start-ups are the backbone of the American economy, and without investment in these companies, our economy will continue to be stagnant or worse: we could have another recession. These companies are relying almost exclusively on the sale of securities to investors (both private and public, debt and equity) for financing, all of which is under the supervision of the SEC.
The SEC is then balancing its ability to support the U.S. economy by facilitating capital formation for small and emerging companies while at the same time protecting investors from fraud and dealing with the pressure of extreme divergent political views. Something has to give, and I suspect that we will continue to see dramatic changes in the regulatory environment for the foreseeable future while this economic revolution plays out.
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