Several recent Supreme Court decisions give banks more power to push back against regulators, but could end up biting the industry.
Three Supreme Court decisions — overturning Chevron deference, extending statutes of limitations and eliminating SEC judges — bode well for the banking industry on first glance, providing banks more power to fight rules in court and giving new entrants time to challenge old rules.
"Banks might feel more emboldened to challenge regulatory interpretations they don't like," Ian Katz, managing director at Capital Alpha Partners, wrote in a July 1 note.
However, an uptick of legal challenges to rules could lead to more uncertainty for the industry, and regulators could resort to more regulation by enforcement to avoid legal woes, industry experts said.
"The first derivative of this is, 'Oh, it's good because it will keep the financial regulators in line,'" Isaac Boltansky, managing director and director of policy research at BTIG LLC, said in an interview. "But I think the second derivative of this is: Does it inject an uncertainty into the regulatory landscape, which in turn ... hinders banks' capacity to operate?"
Chevron case
In one of the more impactful decisions set to shake up the banking industry, the highest court overruled the previous doctrine called Chevron deference, which gave deference to regulatory agencies when laws were ambiguous. Following this ruling on Loper Bright Enterprises et al. v. Raimondo, Secretary of Commerce, et al., banks will have more power to challenge regulators' rulemakings in court.
Several pending rules like the Basel III endgame proposal; M&A rules, which the Federal Deposit Insurance Corp. and the OCC have each recently proposed; and the latest Community Reinvestment Act rules, which trade groups sued over, could become the target of legal challenges, advisers said.
The Consumer Financial Protection Bureau could specifically find itself at the center of banks' wrath, as the agency has been aggressive with regulation under Director Rohit Chopra and has already faced challenges for several of its recent rulemakings in court.
The "CFPB, I think, is going to be right in the middle of the target," Joseph Lynyak, partner at Dorsey & Whitney LLP's banking industry group, said in an interview. "The CFPB will be at the top of the list of ... financial service agencies whose rules and interpretations can be consistently challenged."
However, advisers think more litigation will come from the industry's trade groups rather than banks themselves as groups have more resources and banks are often hesitant to take their own regulators to court.
Although there is potential for a large amount of litigation, there is unlikely to be "a huge wave of challenges" but rather lawsuits over "low-hanging fruit where the agencies appear to have exceeded their authority or abused their discretion," Michele Alt, partner and cofounder of Klaros Advisors LLC and former lawyer at the Office of the Comptroller of the Currency, said in an interview.
Statute of limitations
Another recent Supreme Court decision, issued July 1, dictates that the Administrative Procedure Act (APA) six-year statute of limitations start when a business was injured. The case, Corner Post Inc. v. Board of Governors of the Federal Reserve System, was related to the Federal Reserve's debit card interchange fee rule from 2011, thought to be long established.
"That, in turn, means that an agency rule can be challenged by any plaintiff who has relatively recently entered a business or business line impacted by a regulation," Alt wrote in an email. "That is huge. There will always be a new entrant to a business subject to federal regulation that can be recruited to serve as a plaintiff in a lawsuit challenging even decades old rules."
The ruling would allow new banks to challenge old rules.
"There is no hard and fast statute of limitations. So all you need to do is come up with a new injured party, and you can challenge any previous rule," Boltansky of BTIG said.
Decisions' drawbacks
While the decisions give banks more power, they could shift how regulators operate and weigh negatively on the industry. To avoid litigation, regulators may take longer to finalize rules, leaving industry participants in limbo.
"Rulemakings are going to take longer than ever before, and the finished product will carry more uncertainties than it ever did before because there is no such thing as a final rule in our new legal paradigm," Boltansky said.
Taking more time to craft rules would be a shift from the current environment in which "the agencies have been pretty fast and loose in issuing interpretations without establishing a firm foundation for why an agency position or an agency interpretation is valid," Lynyak of Dorsey & Whitney said. "It's going to mean a more careful analysis and producing information ... supporting their views."
If there is an uptick in legal challenges to federal regulators' rulemakings, that could hurt banks more than help them.
"We'll see a lot of uncertainty in banking, and that is not a good thing... because banks thrive on regulatory predictability," Klaros Advisors' Alt said. "Replacing regulatory predictability with regulatory paralysis will not lead to good times in banking — quite the contrary."
Moreover, agencies could avoid rulemaking to avoid court, and instead focus more on regulation by enforcement.
"We fear that the decisions inject a considerable amount of uncertainty into the regulatory ecosystem and could lead to more regulation by enforcement," Boltansky wrote.
Administrative law judges
At the same time, regulators could have less power to punish banks using their own internal proceedings under another Supreme Court decision, George Jarkesy Jr. et al v. SEC, in which the SEC's administrative law judges lost power.
"While the Court's decision is specifically focused on the SEC, its impact could extend to other federal agencies with similar in-house court systems," Ed Mills and Chris Meekins of Raymond James & Associates wrote in a June 28 note.
For example, the CFPB has the ability to use its own internal proceedings or federal court for civil penalties. The Supreme Court decision strips away internal proceedings, leaving just federal court as an option, which is more costly and less ideal than internally handling proceedings, experts said.
"So the agencies will also have to consider what's the risk, what's the benefit of bringing a case," said Adrienne Gurley, financial services partner at Venable LLP.
Moreover, the three federal bank regulators often use administrative law judges for penalties, and bringing these to court is "going to be huge for them," Gurley said. At least one case, Cornelius Campbell Burgess, v. Federal Deposit Insurance Corp., was stayed in the US Court of Appeals for the Fifth Circuit pending the Jarkesy decision, Gurley said.
In court, "the rules are a bit different, federal rules apply, and so even the attorneys for those agencies aren't going to be as familiar with bringing these matters in before the federal courts. So it's not exactly like an apples-to-apples comparison," Gurley said.
Following the decision, bank regulators might not "be able to resolve problems as easily or as quickly that are affecting their banks," Alt said. "So that's pretty serious impact."