“A multitude of federal agencies, self-regulatory organizations, and state authorities share oversight of the financial system under a framework riddled with regulatory gaps, loopholes, and inefficiencies.” The Volcker Alliance, Reshaping the Financial Regulatory System, p. 1, 2015.
Over the past century, an alphabet soup of agencies and rules overseeing and guiding domestic and cross-border finance has emerged. The wave of regulation following the 2007-09 crisis added to the complexity of this framework. With that in mind, we have developed this glossary to help students and teachers navigate through the maze. In addition to brief descriptions of each regulatory body or notion, links to other resources provide additional background and insight. We expect to update the glossary occasionally, broadening its coverage and pruning obsolete entries.
Items shown in italics appear as stand-alone entries in the glossary.
Activities regulation. Regulation of activities—such as deposit taking, securities financing and margin requirements for derivatives—can partly substitute for the regulation of specific institutions (see entity regulation). Activities regulation focuses on the economic function rather than the legal form of the intermediary, encouraging an even playing field across different types of intermediaries. In the context of prudential regulation, activities regulation should be expected to limit the risks that a financial intermediary incurs.
AML. Anti-money laundering rules and practices aim at deterring and detecting use of the financial system for criminal purposes (see BSA, FATF, FinCEN and KYC).
Basel I, II, and III Accords. Promulgated by the BCBS, these are comprehensive measures intended to strengthen regulation, supervision and risk management for globally active banks. Agreed in 1988, the original Basel Accord (Basel I) established a standard in which the ratio of required bank capital to risk-weighted assets (RWA) was a minimum of 8%. The inadequacy of the fixed Basel I risk weights, combined with active “gaming” of the weights, led to Basel II (2004) that altered the standard weights, while introducing an alternative option in which banks could use their internal risk models to compute their RWA. Major jurisdictions were in the process of implementing Basel II when the financial crisis of 2007-09 hit. Subsequent widespread capital shortfalls led to Basel III (2010, finalized in 2017) that tightened the definition of capital, increased the scope of exposures included in the computation, established a minimum leverage ratio, and raised risk-weighted capital requirements substantially for the largest, most complex banks (see G-SIBs, CET1, Tier 1 Capital, Capital Conservation Buffer, and Counter-cyclical Buffer). Basel III also introduced liquidity requirements (see LCR and NSFR).
BCBS. The Basel Committee on Banking Supervision comprises representatives from 28 jurisdictions who meet to formulate standards for the prudential supervision of internationally active banks in order to promote financial stability. Participants agree to implement BCBS standards, and monitor each other’s compliance. Group of Ten central bankers established the forerunner of the BCBS—the Committee on Banking Regulations and Supervisory Practices—in 1974, following the market disruptions precipitated by the failure of West Germany’s Bankhaus Herstatt. The committee increases its membership periodically, most recently in 2014.
BHC. A bank holding company that owns or controls one or more banks.
BSA. The 1970 Bank Secrecy Act, also known as the Currency and Foreign Transactions Reporting Act, “establishes program, recordkeeping and reporting requirements” to limit use of the financial system for criminal purposes (see AML, FATF, FinCEN, and KYC).
CAMELS. A confidential supervisory rating system used to classify the condition of U.S. banks based on six criteria: Capital Adequacy, Assets, Management Capability, Earnings, Liquidity and Sensitivity to risk. Overall ratings go from 1 (strongest) to 5 (weakest). Banks with poor ratings (3 or higher) are required to enter into agreements to correct deficiencies.
Capital. The accounting capital, or net worth, of a financial institution has three consistent definitions: (1) the residual after subtracting the firm’s liabilities from its assets; (2) what is owed to the firm’s shareholders after liquidating all the assets at their book value; and (3) the buffer that separates the firm from insolvency—the point at which its liabilities exceed the value of assets (see primer).
Capital requirements. Generally stated as a ratio of capital to assets or exposure, minimum capital requirements are a key prudential regulatory tool. Capital is a form of self-insurance that establishes a buffer against insolvency and gives managers of institutions an incentive to control risk. (See also Capital Conservation Buffer, Capital Surcharge, CET1, Exposure, TCE, Tier 1 Capital, Tier 2 Capital.)
Capital Conservation Buffer. On top of the CET 1 Ratio requirement (4.5% of RWA), Basel III calls for an additional equity buffer of 2.5% of RWA, bringing the Total Common Equity (TCE) requirement to 7% of RWA. When a bank’s capital falls into the range of the buffer, supervisors restrict discretionary payouts of capital (including dividends and stock buybacks).
Capital Surcharge. Basel III imposes a higher capital requirement on G-SIBs based on a score calculated from a set of indicators that include size, interconnectedness, substitutability, complexity and cross-jurisdictional activity. The surcharge ranges from 1.0% to 3.5% of RWA, and are in addition to the 7% TCE ratio requirement.
CCAR. Started in 2011, the Federal Reserve’s Comprehensive Capital Analysis and Review is an annual supervisory stress test imposed on large U.S. banks individually to determine their capital adequacy in adverse economic and financial conditions. The goal is to ensure that banks are sufficiently resilient even when borrowing and new equity financing become unavailable. The CCAR includes both a quantitative component (partly derived from the D-FAST stress test) and a qualitative component. In practice, the CCAR framework has become the de facto capital-planning regime for the largest U.S. banks.
CCP. A Central Clearing Party is the buyer to every seller and the seller to every buyer in a financial market. A shift from over-the-counter transactions to central clearing—as has occurred in global derivatives over the past decade—helps reduce risk in the financial system by allowing for netting of most gross transactions and by exposing risk concentrations so that the CCP can charge a commensurate risk premium to each of its counterparties. However, due to their scale and interconnections, CCPs themselves pose a risk to the financial system, leading to their close supervision. In the United States, the FSOC has designated 8 domestic CCPs as FMUs, making them subject to the joint supervision of the relevant financial markets regulator (CFTC or SEC) and of the Federal Reserve. (For more, see here and here.)
CCyB. See Counter-cyclical Capital Buffer.
CET1 Capital. The highest quality of bank capital under Basel III. The BCBS defines Common Equity Tier 1 capital as the component of Tier 1 Capital that includes a bank’s shareholder equity and its retained earnings (see here for the U.S. implementation). During the financial crisis, counterparties focused on a bank’s common equity as a key indicator of its solvency, relying less on broader definitions of capital (such as Tier 1 Capital).
CET1 Ratio. A bank’s CET1 ratio is the ratio of its CET1 Capital to its risk-weighted assets (RWA). As of 2019, Basel III calls for internationally active banks to have a minimum CET1 ratio of 4.5% (see here).
CFTC. Established in 1974, the Commodities Futures Trading Commission is the smaller of the two principal U.S. federal financial markets regulators (its larger sibling is the SEC). The CFTC oversees U.S. futures and swaps markets, including some exchanges that are designated as Financial Market Utilities (FMUs). The CFTC promotes “open, transparent, competitive, and financially sound markets.”
CFPB. Established in the aftermath of the financial crisis by the Dodd-Frank Act of 2010, the Consumer Financial Protection Bureau is a federal agency that aims to “protect consumers from unfair, deceptive, or abusive practices and take action against companies that break the law.” It promotes financial literacy and enforces consumer financial laws (such as the Truth in Lending, Fair Credit Reporting, and Home Mortgage Disclosure Acts), while monitoring for risks to consumers.
CoCo bonds. Contingent convertible bonds are a hybrid form of debt that converts to equity when the stated contingency occurs. If the contingency is a decline in the value of firm’s net worth below a specified threshold, the conversion to equity of a CoCo bond automatically boosts its capital in a period of stress. Like subordinated debt, such CoCo bonds can be included in TLAC.
Collateral. Collateral is an asset that a borrower pledges to obtain a loan. In the case of a default, when the borrower fails to make loan payments on time and in full, the lender receives the collateral.
CPMI. The Committee on Payments and Market Infrastructure is an international standard setter that “promotes the safety and efficiency of payment, clearing, settlement and related arrangements.” The CPMI succeeds the Committee on Payments and Settlement Systems (CPSS) and is composed of senior officials from 28 jurisdictions.
Counter-cyclical Capital Buffer (CCyB). On top of requirements for Total Common Equity and for the Capital Conservation Buffer, Basel III capital adequacy rules encourage regulators to employ a Counter-cyclical Capital Buffer (composed of CET1 Capital and measured as a ratio to RWA), altering the required ratio with economic and financial conditions in order to build resilience in good times. For example, to diminish the pro-cyclicality of credit supply, regulators can raise the requirement in a credit boom and lower it in a bust. Most countries have kept this buffer at zero, but as of November 2018, Norway set it at 2%, Sweden at 2.5% and the United Kingdom at 1%.
CRA. The Community Reinvestment Act of 1977 encourages banks to supply credit in the communities they serve. Supervisors review bank compliance with CRA rules.
D-FAST. The Dodd-Frank Act Stress Test is a forward-looking supervisory test imposed on various financial institutions by the Federal Reserve, the FDIC and the OCC. Together with a BHC’s capital plans, the results of the D-FAST quantitative stress tests form part the quantitative assessment under the Federal Reserve’s CCAR stress-testing framework.
D-SIB. Basel III describes a class of Domestic Systemically Important Banks whose failure would pose risks to a domestic financial system, much as FSB-designated G-SIBs do to the global financial system. Under the Basel framework, domestic bank regulators are responsible for formulating a methodology to identify and designate D-SIBs. While the Federal Reserve does not explicitly designate U.S. banks as D-SIBs, it does so implicitly when it makes select non-G-SIB U.S. banks subject to its CCAR stress tests and to other strict forms of scrutiny.
Dodd-Frank Act. The Dodd-Frank Wall Street Reform and Consumer Protection Act, which became law in July 2010, constitutes the most comprehensive reform of U.S. financial regulation since the Great Depression. Responding to the financial crisis of 2007-09, the Act’s aim is to improve the resilience of the financial system by increasing capital requirements for systemically important financial intermediaries (see SIFI), supplementing these requirements with stress tests, establishing a resolution mechanism for the largest and most complex intermediaries (see living will and OLA), and limiting regulatory arbitrage by allowing nonbanks to be designated as SIFIs. The Act also raised regulatory costs, in part by restricting the scope of banks’ financial activities (see Volcker Rule).
DTA. Deferred tax assets are an accounting device that allows a firm to use past losses to reduce taxes on future profits. In bankruptcy, a DTA retains little or no value, making it unable to serve as a loss absorber. Consequently, the Basel III definition of capital excludes them from the calculation of a bank’s regulatory capital.
EBA. Established in 2011 as the successor to the Committee on European Banking Supervisors, the European Banking Authority promotes convergence of supervisory practices in the European Union by helping to harmonize prudential rules through the European Single Rulebook.
ECB. Through the SSM, the European Central Bank directly regulates and supervises the largest 118 European banks and ensures consistency among the practices of national supervisors overseeing smaller institutions. The ECB can grant or withdraw banking licenses and alter capital requirements in response to changing financial risks. The ECB President also chairs the ESRB.
EIOPA. The European Insurance and Occupational Pensions Authority aims to ensure that regulation and supervision of insurers and pension providers is consistent across EU Member States. While national agencies remain the supervisors, the EIOPA monitors “trends, potential risks and vulnerabilities stemming from the micro-prudential level.”
Entity regulation. Entity regulation focuses on an intermediary’s legal form―whether it is a chartered bank, a registered securities dealer, or a licensed insurance company. In contrast to activities regulation, which is effective when applied to transactions that occur across a wide range of intermediaries, entity regulation applies only to a (legally) specified financial institution (and the range of activities that it is permitted to undertake).
ERISA. The Employee Retirement Income Security Act (ERISA) of 1974 sets standards to protect persons enrolled in private pension and health plans.
E-SLR. The Enhanced Supplementary Leverage Ratio. In 2014, U.S. authorities imposed the E-SLR on top-tier BHCs holding more than $700 billion of assets. The E-SLR currently adds 2% to the base leverage ratio requirement of 3%. However, in 2018, the Federal Reserve and the OCC proposed to scale back the E-SLR requirement.
ESMA. Operating since 2011, the European Securities and Markets Authority replaced the Committee of European Securities Regulators. ESMA promotes regulatory and supervisory convergence among the EU’s national financial market regulators (see MiFID II). It also supervises credit rating agencies and trade repositories, and conducts stress tests for EU CCPs.
ESRB. The European Systemic Risk Board seeks to prevent and mitigate threats to the EU financial system. Chaired by the ECB President, and including the Governors of the national central banks, various national and EU-wide banking and markets regulators, as well as representatives from the European Commission, the ESRB monitors systemic risks and makes recommendations and issues warnings.
Exposure. Traditional capital market requirements calculate the ratio of capital to a weighted (or unweighted) measure of assets on an institution’s balance sheet. Measuring the denominator in this way ignores a number of key, off-balance sheet risks facing large banks. Basel III introduces a comprehensive measure of exposure to capture banks’ overall risk, including their derivatives, loan commitments, and securities financing transactions.
FATF. The Financial Action Task Force is an inter-governmental body established in 1989 to set standards and promote effective implementation of legal, regulatory and operational measures in an effort to combat money laundering, terrorist financing and other related threats to the integrity of the international financial system (see AML, BSA, FinCEN, and KYC).
FCA. The Financial Conduct Authority is the U.K. national regulator that aims to protect consumers and promote competition in financial services, while ensuring the proper function of financial markets.
FDIC. Following devastating runs on U.S. banks during the Great Depression of 1929 to 1933, the Banking Act of 1933 created the Federal Deposit Insurance Corporation. Today, the FDIC insures (subject to a fee) about 60% of the domestic deposits (or about 42% of the total deposits) of more than 5,000 U.S. banks with a total of more than $17 trillion of assets (based on Table III-C of the June 2018 Quarterly Banking Profile). Over its history, the FDIC has resolved thousands of small and medium-sized failing banks with little spillover to the broader economy. The Dodd-Frank Act granted the FDIC authority to resolve insolvent SIFIs (see OLA and OLF).
Federal Reserve. See FRB.
FFIEC. The U.S. Federal Financial Institutions Examination Council is an interagency body that develops uniform approaches for examining financial intermediaries. It includes the following agencies: CFPB, FDIC, FRB, NCUA, and OCC.
FHC. Defined by the Gramm-Leach-Bliley Act of 1999, a Financial Holding Company owns or controls firms that engage in a range of financial activities such as banking, securities transactions, and insurance.
FHFA. Established by the Housing and Economic Recovery Act of 2008, the Federal Housing Finance Agency (FHFA) replaced the Office of Federal Housing Enterprise Oversight (OFHEO) and the Federal Housing Finance Board (FHFB). The FHFA regulates and supervises key housing-related GSEs: Fannie Mae, Freddie Mac and the 11 FHLBs.
FHLB. Established in 1932, the U.S. Federal Home Loan Bank system includes 11 FHLBs. Owned cooperatively by their member financial institutions, each FHLB provides credit to its members for housing finance as well as for short-term funding. FHLBs are subject to oversight by the FHFA.
Fiduciary. A fiduciary has the legal power and obligation to act for another person. Fiduciary duty requires a high standard of care, putting the interests of the client first. Examples of fiduciaries are executors, investment advisors and trustees.
Financial Stability Board. See FSB.
Financial Stability Oversight Council. See FSOC.
FinCEN. The Financial Crimes Enforcement Network is an arm of the U.S. Treasury that aims to prevent illegal use of the financial system (for money laundering, the financing of terrorism, drug trafficking, and the like; see AML, BSA, FATF, and KYC).
FINRA. Approved by the SEC as a self-regulatory organization (SRO) in 2007, the Financial Industry Regulatory Authority succeeded the National Association of Securities Dealers (NASD) and the regulatory operations of the New York Stock Exchange. Through its oversight of broker-dealers and their employees, FINRA seeks to promote transparency, deter securities fraud and impose discipline on rule-breakers. It also serves as a dispute-resolution forum.
FIO. The Dodd-Frank Act created the Federal Insurance Office. Each of the 50 states regulates, supervises and guarantees the insurers operating within its jurisdiction. Consequently, the FIO is limited to monitoring insurance developments and representing the United States on international insurance issues; it has no direct role in regulation.
FMU. The Dodd-Frank authorized the FSOC to designate critical payments, clearing and settlement firms as Financial Market Utilities, making them subject to joint supervision of the relevant federal markets regulator (CFTC, SEC or both) and the Federal Reserve. The FSOC has designated eight FMUs.
FPC. Part of the Bank of England, the U.K.’s Financial Policy Committee aims to secure financial stability and resilience through macro-prudential regulation. In addition to monitoring risks to the system, it can direct other U.K. regulators (FCA and PRA) to adjust various prudential tools (such as the Counter-cyclical Capital Buffer (CCyB) and minimum LTV ratios).
FRB. Established in 1913, the Federal Reserve Board (formally known as the Board of Governors of the Federal Reserve System) is a federal banking regulator (along with the FDIC and the OCC). It regulates, supervises, and examines holding companies of banks, savings and loans, and other financial intermediaries (including those for the largest U.S. banks). It also oversees state-chartered banks that are members of the Federal Reserve System, and FSOC-designated nonbank SIFIs and FMUs. Among its key tools, the FRB implements stress tests on SIFI banks (see CCAR and D-FAST).
FSB. In April 2009, the G-20 heads of state established the Financial Stability Board as the successor to the Financial Stability Forum (created by the G-7 in 1999). The purpose of the FSB is to coordinate “the development of regulatory, supervisory and other financial sector policies” across countries, encouraging a “race to the top” in the implementation of financial regulatory standards. The FSB is composed of finance ministries, central banks and supervisory agencies from 24 jurisdictions, the European Union and the major international financial institutions.
FS-ISAC. The Financial Services Information Sharing and Analysis Center is an industry forum that aims to thwart security threats such as cyber-attacks. Together with the eight U.S. G-SIBs, FS-ISAC established the Financial System Analysis and Resilience Center (FSARC).
FSOC. Dodd-Frank established the Financial Stability Oversight Council—a panel of the heads of the U.S. federal regulatory agencies—to “identify risks to the financial stability of the United States”; to “promote market discipline” by eliminating expectations of government bailouts; and “to respond to emerging threats” to financial stability. The law limits the FSOC’s authority to designation of: (1) specific nonbanks as SIFIs; and (2) critical payments, clearance and settlement firms as FMUs. As of November 2018, there are zero designated U.S. nonbank SIFIs and eight designated FMUs.
Funding liquidity. The ability of an intermediary to finance its assets by issuing debt (often short-term and collateralized). A loss of funding liquidity creates rollover risk that can trigger fire sales or threaten the viability of an intermediary.
GAAP. Generally accepted accounting principles are firm financial reporting standards promulgated by the FASB. They are the common standard in use in the United States.
Glass-Steagall Act. Also called the Banking Act of 1933, the Glass-Steagall Act sought to make the financial system safer by segmenting the activities of commercial and investment banks. It prevented securities firms from taking deposits and commercial banks from underwriting or dealing in non-governmental securities. The Gramm-Leach-Bliley Act (GLBA) of 1999 repealed these aspects of the Glass-Steagall Act.
Goodwill. In accounting, goodwill is an intangible asset associated with the acquisition of a firm. It may reflect the value of the firm’s brand, customer relationships, software, data, market analysis, employee training, organizational design, and the like. While goodwill generally has value for a going concern, it can lose significant value in resolution. Consequently, the Basel III definition of capital excludes it from the calculation of a bank’s capital.
Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act (GLBA), also known as the Financial Modernization Act of 1999, repealed those aspects of the 1933 Glass-Steagall Act that required segregation of various financial activities, such as commercial and investment banking. GLBA also includes provisions for the protection of consumer data.
G-SIB. The FSB designates as global systemically important banks (G-SIBs) those institutions whose failure can threaten the global financial system. Designation relies on an array of indicators developed by the BCBS that it also uses to determine a bank’s capital surcharge. As of November 2018, there are 30 G-SIBs, including 8 based in the United States. Bank regulators typically impose the highest level of scrutiny on G-SIBs.
GSE. Particularly important for residential housing and farm finance, Government-Sponsored Enterprises are credit agencies that include Fannie Mae, Freddie Mac, and the FHLBs. Having failed in the financial crisis, Fannie Mae and Freddie Mac currently are in federal conservatorship.
Haircut. A haircut reduces the portion of an asset that is usable as collateral. For example, a haircut of 25 percent means that an asset with a face value of $100 can be used as collateral for credit of $75. Haircuts typically are larger for riskier assets and vary countercyclically as well.
IADI. Formed in 2002, the International Association of Deposit Insurers “is a forum for deposit insurers from around the world to gather to share knowledge and expertise.” Composed of members from 83 jurisdictions, IADI formulates and disseminates principles for sound deposit insurance.
IAIS. Established in 1994, the International Association of Insurance Supervisors is an organization of regulators and supervisors from roughly 200 jurisdictions that formulates and disseminates standards for insurance industry regulation. Their mission is to “promote effective and globally consistent supervision of the insurance industry in order to develop and maintain fair, safe and stable insurance markets for the benefit and protection of policyholders and to contribute to global financial stability.”
IASB. The International Accounting Standards Board is an independent body that develops International Financial Reporting Standards (IFRS).
IFRS. International Financial Reporting Standards—promulgated by the IASB—are used widely outside the United States as the basis for firms’ financial statements.
IOSCO. The International Organization of Securities Commissions “develops, implements and promotes adherence to internationally recognized standards for securities regulation.”
KYC. Like AML rules, know-your-customer rules aim at deterring and detecting the use of the financial system for criminal purposes. FinCEN’s Customer Due Diligence Requirements (2018) call on financial firms to verify customer identities and develop customer risk profiles (see also BSA and FATF).
LCR. The Liquidity Coverage Ratio requires that banks hold sufficient liquid assets to back runnable liabilities. A part of Basel III, the LCR states banks must “have an adequate stock of … high-quality liquid assets (HQLA) that can be converted easily and immediately in private markets into cash to meet their liquidity needs for a 30 calendar day liquidity stress scenario.”
Leverage. The use of debt, as opposed to equity, to finance an asset. Increased leverage boosts both the expected return and the risk from holding an asset. In prudential regulation, the numerator of the leverage ratio typically is equity, so greater reliance on debt finance lowers the ratio.
Leverage ratio. As a backstop to capital requirements based on RWA, Basel III introduced for the first time a minimum requirement (set at 3%) for the leverage ratio (in which the risk weights are all set at one). The goal is to limit the potential for banks to exploit errors in risk-based measures that could lead to either an increase exposure to assets whose risk weights are inappropriately low or concealing of risk off balance sheet. The numerator of the leverage ratio is Tier 1 capital, while the denominator measures exposure—the sum of on-balance-sheet assets, derivatives exposure, securities financing exposure, and off-balance sheet items. Since jurisdictions vary in the accounting methods used to compute exposure, the calibration of the leverage ratio differs around the world.
Liquidity. See market liquidity and funding liquidity.
Living Will. Section 165(d) of the Dodd-Frank Act requires SIFIs to submit resolution plans—known as living wills—to the FDIC and FRB. The purpose of these plans is to provide a detailed guide for the FDIC in resolving a failed SIFI while limiting the financial and economic spillover. The plans also allow regulators to guide SIFIs to improve their resolvability should they fail. The most complex SIFIs submit their plans by July 1 each year.
LTV ratio. Loan-to-value ratio. A regulator may set a maximum LTV ratio—a form of activities regulation—to ensure that the value of collateral (such as a house) will be adequate to cover the loan principal under most circumstances.
Macroprudential regulation. Prudential regulation aimed at promoting resilience of the financial system as a whole.
Margin requirements. Margin requirements are a form of activities regulation that limits unsecured borrowing for the acquisition of a financial instrument. For example, Federal Reserve Board Regulation T requires a minimum 50-percent downpayment to purchase an equity share. In the case of a futures contract, the buyer and seller must make initial downpayments to the futures clearing agent of a specified fraction of the instrument’s value. Thereafter, they must maintain each day this initial collateral as the futures price changes.
Market liquidity. The ability of an intermediary to convert an asset rapidly into cash with little or no impact on its price. Market liquidity varies sharply both across different types of financial instruments and over time.
Microprudential regulation. Prudential regulation intended to ensure the safety and soundness of individual financial institutions, reducing their likelihood of failure.
MiFID II. The second Markets in Financial Instruments Directive came into force across the European Union in 2018. MiFID II increases reporting requirements with the goal of promoting greater transparency and more efficient financial markets.
MSRB. Created in 1975, the Municipal Securities Rulemaking Board aims to promote a fair, transparent and efficient market for U.S. state and local government securities by establishing rules for dealers and by disseminating market information.
NAIC. The National Association of Insurance Commissioners promotes cooperation and best practice among the state agencies that regulate, supervise and guarantee the activities of insurers. The federal role in the U.S. insurance industry is limited largely to information gathering (see FIO).
NCUA. Established in 1970, the National Credit Union Administration is the federal agency that regulates, supervises and provides deposit insurance for federally insured credit unions. It parallels the operations of the FDIC for federally insured banks.
NFA. Recognized by the CFTC in 1981, the National Futures Association is the financial derivatives industry self-regulatory organization (SRO).
NMS. The SEC promulgated Regulation NMS (National Market System) in 2005 to modernize U.S. equity markets. Reg NMS includes provisions for order protection and intermarket access aimed at ensuring best-price execution of customer equity orders.
No-action letter. A regulated firm may request that a regulator (such as the SEC) issue a no-action letter assuring that the agency will not take action against the firm if it engages in a particular activity or introduces a specified product. A no-action letter can help to clarify regulatory policy in uncertain circumstances, such as the introduction of new financial products or services.
NRSRO. The SEC designates select credit rating agencies as Nationally Recognized Statistical Rating Organizations. The ratings provided by NRSRO firms are widely used in risk management and in regulatory oversight.
NSFR. A part of Basel III, the Net Stable Funding Ratio requires that banks finance long-maturity assets with long-term liabilities, limiting the degree of maturity mismatch on their balance sheets. It complements the LCR, which imposes liquidity requirements on a bank’s assets.
OCC. Established in 1863 as a bureau of the U.S. Treasury, the Office of the Comptroller of the Currency “charters, regulates and supervisors all national banks and federal savings associations.” Together with state and federal bank regulators, its key mission is to promote the safety and soundness of the banking system.
OFR. Established by the Dodd-Frank Act, the federal Office of Financial Research provides research support for the FSOC. In this role, and with its authority to develop new data sources, the OFR aims to monitor risks to domestic financial stability.
OLA. Title II of the Dodd-Frank Act grants the FDIC Orderly Liquidation Authority to promote the speedy and safe resolution of SIFIs. As part of OLA, the FDIC may tap federal government resources—the OLF—to provide temporary (debtor-in-possession) funding to a distressed SIFI to facilitate recapitalization and restructuring while limiting a run on the short-term liabilities of the SIFI and its counterparties.
OLF. When the FDIC uses its Orderly Liquidation Authority (OLA) authority to place a distressed SIFI into receivership, it may use the Orderly Liquidation Fund to provide temporary financing of the resolution. To recoup government funds, the Dodd-Frank Act calls on the FDIC to impose an ex post fee on other SIFIs.
OTS. The only federal regulatory agency shut down by the Dodd-Frank Act, the Office of Thrift Supervision was responsible for the regulation and supervision of savings and loan (thrift) banks. OTS regulated a number of large financial institutions that faced extreme distress during the crisis, some of which failed or received large government bailouts (e.g. AIG, Countrywide, IndyMac, and Washington Mutual).
PCAOB. Created by the Sarbanes-Oxley Act of 2002 following the Enron and WorldCom failures and the collapse of Big Five accounting firm Arthur Andersen, the Public Company Accounting Oversight Board establishes standards and practices for auditing public companies. The SEC oversees the PCAOB.
PBGC. Created by the Employment Retirement Income Security Act of 1974, the U.S. Pension Benefit Guaranty Corporation insures corporate defined benefit pension plans and takes over plans that fail. Compared to its anticipated obligations, the PBGC projects a net present value shortfall of revenues of nearly $50 billion as of 2027. (See our discussion of retirement savings here.)
PRA. Part of the Bank of England, the U.K.’s Prudential Regulatory Authority develops and enforces safety-and-soundness regulation for depositories, insurers and large investment firms.
Prudential regulation. Prudential regulation takes two forms: microprudential regulation, which aims at the safety and soundness of individual firms; and macroprudential regulation, which seeks to ensure the resilience of the financial system as a whole. Some tools—such as capital requirements—are common to both forms of regulation, while others (such as liquidity requirements—see LCR and NSFR—and resolution mechanisms) may not be.
PSD2. Implemented in national laws in 2018, the second EU Payments Services Directive aims to make payments within the EU “easy, efficient and secure.” It enhances consumer rights, giving individuals greater control over the data that banks have to identify them.
Resolution Mechanism. Standard, court-administered, bankruptcy procedures can be too slow to handle financial firm insolvency, leading to an unnecessarily rapid and lasting plunge in value. Moreover, the failure of a large, complex and interconnected intermediary can trigger a panic that undermines the broader financial system. To speed the process of resolving failed intermediaries, and to limit spillover effects, countries often establish specialized administrative procedures, including the provision of at least temporary government funding. In the United States, the Dodd-Frank Act placed resolution authority for SIFIs with the FDIC (see OLA and OLF).
Regulator shopping. In a framework with multiple regulators where jurisdiction depends on a firm’s legal form rather than its economic function, financial firms may alter their legal form to select their preferred regulator (presumably the one that imposes the fewest burdens). For example, prior to the financial crisis, the Office of Thrift Supervision (OTS), set up to oversee savings institutions engaged primarily in mortgage lending, supervised the global operations of the largest U.S. insurer (AIG), which had purchased a thrift.
Regulatory arbitrage. Financial firms seeking to maximize profit will adjust their activities and legal form to minimize the cost of regulation. Such regulatory arbitrage can lead to a shift of risky activities from strong to weak regulators (see regulator shopping) or beyond the regulatory perimeter.
Regulatory sandbox. To promote innovation in financial sectors undergoing rapid change, regulators may allow small-scale testing of a new product or activity on a temporary basis under simplified rules. Reducing regulatory uncertainty in this way may foster investment and experimentation.
Riegle-Neal Act. The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 removed obstacles to the establishment of bank branches across state borders, effectively repealing the McFadden Act of 1927 that had restricted such cross-state branching.
RWA. Risk-weighted Assets form the denominator of minimum risk-weighted capital ratios established by the Basel agreements regarding capital standards for internationally active banks. Under Basel III, the risk weights may be either standard weights or customized weights based on a bank’s own internal risk models.
Sarbanes-Oxley Act. Following the Enron and WorldCom accounting scandals, Congress enacted the Sarbanes-Oxley Act (SOX) in 2002 to improve the quality of financial disclosures and combat fraud. SOX established the PCAOB to oversee the auditing profession.
SEC. Established by the Securities and Exchange Act of 1934, the Securities and Exchange Commission is the older and larger of the two principal U.S. federal markets regulators (see CFTC). Its mission is “to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation.” The SEC has the power to “register, regulate, and oversee brokerage firms, transfer agents and clearing agencies as well as the nation’s self-regulatory organizations.”
SIFI. The Dodd-Frank Act defined the legal category of Systemically Important Financial Intermediary (SIFI), and made SIFIs subject to stricter prudential supervision (including capital requirements and stress tests) by the Federal Reserve. Dodd-Frank included banks with assets greater than $50 billion in this category. A 2018 law raised the asset threshold to $250 billion, while granting the Federal Reserve discretion to impose strict scrutiny on BHCs in the $100-billion to $250-billion range. Dodd-Frank also granted FSOC the authority to designate nonbank SIFIs.
Single point of entry. To resolve an insolvent SIFI under the Dodd-Frank Act, the FDIC has announced a “single-point-of-entry” strategy guided by the SIFI’s living will. By taking control of a complex financial entity through its holding company, the FDIC hopes that it can rapidly restructure and recapitalize the operating subsidiaries of the SIFI by writing down debt (including TLAC) and, if necessary, providing temporary government funding through the FDIC’s OLA authority.
SLR. The Supplementary Leverage Ratio is the original U.S. implementation of the Basel III 3% leverage ratio.
SOX. See Sarbanes-Oxley Act.
SRM. The Single Resolution Mechanism of the European Union is the agency for resolving banks subject to the SSM. The purpose of the SRM is to ensure an orderly resolution of failing banks with minimal costs for taxpayers and to the real economy. The SRM’s funding is solely from assessments on the banking sector itself with no government backstop.
SRO. A number of self-regulatory organizations operate in the U.S. financial sector. The largest and most prominent is FINRA.
SSM. Established in 2014, the Single Supervisory Mechanism (composed of the ECB and the national supervisory authorities of participating countries) is the common supervisor for European banks. The SSM aims to impose effective safety-and-soundness rules consistently across these institutions. All euro-area countries are part of the SSM, while countries in the European Union may join. Currently, the SSM directly supervises the largest 118 euro-area banks.
Stress test. A key element of the toolbox for macroprudential regulation, stress tests typically measure an institution’s capital adequacy in adverse economic and financial conditions. Stress tests also may be used to assess an institution’s exposure to other risks, including liquidity risk and cyberrisk.
Subordinated debt. Subordinated debt is unsecured debt that is paid only after more senior obligations have been met. Long-term subordinated debt may be included in TLAC, but (in contrast to CoCo bonds) a decision by a resolution authority is needed to write down subordinated debt in the event of the firm’s failure.
Systemic risk. Risks that pose a threat to key functions of the financial system, such as the payments, clearance and settlement mechanisms or the supply of credit to healthy borrowers.
TCE. Under Basel III, Total Common Equity—which is supposed to be at least 7% of RWA—includes the CET1 plus the Capital Conservation Buffer.
Tier 1 Capital. As defined under Basel III, Tier 1 Capital equals common equity (CET1) plus “Additional Tier 1 capital” such as non-cumulative perpetual preferred stock and convertible debt.
Tier 2 Capital. As defined under Basel III, Tier 2 Capital equals Tier 1 Capital plus subordinated debt (see here).
TLAC. Total Loss-absorbing Capacity is composed of liabilities that include equity and designated long-term debt. In 2017, the Financial Stability Board issued a standard requiring G-SIBs to issue long-term debt that a resolution authority can write down in the event that the institution’s equity capital becomes insufficient to absorb losses. TLAC instruments must exceed 18% of a G-SIB’s RWA and 6.75% of its overall (unweighted) exposure.
Volcker Rule. Codified in Section 619 of the Dodd-Frank Act, the Volcker Rule restricts activities of insured depositories. The Rule forbids banks to acquire certain assets (like corporate bonds) for their own account, or to engage in proprietary trading beyond a minimal level. To distinguish market making from proprietary trading in these restricted assets, the Volcker Rule establishes a complex set of exemptions and requires compliance on a trade-by-trade basis.
Acknowledgments: We thank our friends and Stern colleagues, Dick Berner and Larry White, for their comments and suggestions as we compiled this glossary.