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Bank reform sets stage for state, federal regulator spat

With the volumes of rule making required to fully implement the Dodd-Frank Wall Street Reform, observers widely viewed the measure as a regulatory turf war waiting to happen.

The waiting is over.

The historic reform law, which went into effect July 21, will be the subject of many more months of rule making by federal regulators. But already under challenge are new rules issued by the U.S. Office of the Comptroller of the Currency on pre-emption of state financial consumer laws by federal rules and regulations.

The Conference of State Bank Supervisors, which represents bank regulators in the 50 states, says the OCC rules ignore limits in Dodd-Frank on the circumstances by which federal regulations can trump state consumer protections.

The U.S. Department of Treasury, of which the OCC is an independent part, agrees with the state regulators’ organization.

Dodd-Frank set a specific standard for federal regulations to override state regulations but the OCC has broadened the standard far beyond Dodd-Frank’s intent, the Treasury Department and the national bank regulators’ organization contend.

“The OCC’s proposed rule clearly violates Dodd-Frank’s preemption requirements and undermines the principles of federalism,” said Neil Milner, president and CEO of the CSBS, in written comments to the agency. “The OCC should rescind its preemption regulations and proceed as directed by Congress.”

By way of history, Mississippi Banking Commissioner John Allison said the U.S. Supreme Court’s 1996 ruling in Barnett Bank v. Nelson, Florida Insurance Commissioner limited pre-emption of state consumer financial law to instances in which the law “prevents or significantly interferes with the exercise by the national bank of its powers.”

In the decade-and-a-half since the ruling, federal regulators “keep going on and on and on” in broadening the standard, Allison said.

Dodd-Frank’s goal was to return the standard set by the 1996 Barnett ruling, he noted. “Dodd-Frank set the bar where it should be.”

Today, Allison said, “the dominant thinking is we have a right to oversee the consumer laws in our state.”

Milner, the Conference of State Bank Supervisors chief, wrote in his objections that the recent financial crisis provided “a wealth of evidence that broad preemption is simply not good public policy.”

Understanding local markets and business practices requires a strong presence in the community, he said. “For the banking regulatory system to be successful, both the federal and state regulators must have a role and respect our federalist system of supervision.

“State regulators have a unique expertise in local banking practices and local markets, which makes them uniquely situated to recognize and act upon consumer financial protection issues,” Milner wrote.

George W. Madison, Treasury Department general counsel, wrote in his objections that Congress strenuously debated the pre-emption standard before adopting it as part of Dodd-Frank. Yet the OCC avoids acknowledging the specific standard, he wrote, calling the OCC action “inconsistent with the plan language of the statute and its legislative history.”

The OCC said in its rule notice that any pre-emption would require, under terms of Dodd-Frank, a substantial amount of on-the-record evidence to support an OCC order or regulation that “declares inapplicable a state consumer financial law under the Barnett standard.”

In explaining its rule, the OCC said it took into account the Supreme Court’s reasoning behind the Barnett ruling’s specific limit of pre-emption. While the court limited pre-emption to when a state consumer law “prevents or significantly interferes with the exercise by the national bank of its powers,” the court used an over-riding standard of “conflict preemption.”

So the reasoning of the Barnett ruling “includes, but is not bounded by, the ‘prevent or significantly interfere’ formulation,” the OCC says.

“The phrase cannot be a new, stand-alone standard, divorced from the reasoning of the decision without ignoring the language that precedes it, which directs that the legal standard be” conflict pre-emption.

The OCC added: “If Congress had intended a different preemption analysis than the conflict preemption analysis in Barnett, it would have been rejecting not just Barnett, but also… well over a century of judicial precedent upon which the decision was founded.”

Meanwhile, now that the OCC rule is final, the Conference of State Bank Supervisors likely will make a legal challenge, spokeswoman Catherine Woody said. “It’ll have to be settled in the courts.”


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