Wall Street reform bill mandates delayed disclosure

From the Summer 2010 issue of The News Media & The Law, page 12.

Two years after the near-collapse of the global economy, Congress passed a financial overhaul bill that lawmakers hope will prevent a repeat performance by expanding existing regulatory powers and establishing a new regulatory agency.

But given the size of the law, specifics about one of the very things that could have prevented the recession — more disclosure to the public about the banking industry — is buried in the 2,300-page legislation and has received little attention.

The Dodd-Frank Wall Street Reform and Consumer Protection Act, which President Barack Obama signed into law on July 21, has provisions that lend delay transparency about the Federal Reserve’s lending programs.

After first carving out an exemption to the federal Freedom of Information Act that allows the Fed to deny requests for specifics about its emergency-lending programs for up to two years, it then requires the Fed’s Board of Governors to disclose more information about those programs than ever before.

“We felt that [one to two years] was a good enough time lag. It was a judgment call,” said Steve Adamske, communications director for the House Financial Services Committee.

“It was a good enough time for markets to absorb that information and allow some level of public access to information.”

A separate component of the act has also prompted ongoing debate over the extent to which the Securities and Exchange Commission could invoke its language to shield proprietary information it gathers during the course of an ongoing investigation.

Haze of Secrecy Clouds Bailouts

The Fed began injecting billions of dollars into suddenly cash-strapped private banking institutions after Wall Street investment bank Bear Stearns became the first domino to fall in the financial crisis in March 2008. Top creditors and clients began demanding their money from the investment bank when it appeared that it was in trouble. Within 72 hours, $15 billion dollars had evaporated from the 85-year-old firm’s cash reserves, according to Wall Street Journal reports, and the venerable institution was left in ruins.

In an effort to contain the crisis before the toxic mortgage-backed securities that sunk Bear Stearns spread to other banks, the Fed and the Treasury Department, which operated a separate $700 billion bank-bailout effort called the Troubled Asset Relief Program, devised emergency-lending programs to keep firms afloat and prevent a run on the banks.

The provisions in the Dodd-Frank Act seek to strike a balance between preventing another panic in the markets and allowing the public to see how government dollars are used to keep the private financial system from imploding again.

“After our TARP experience, we found that the banks went around with a scarlet ‘T’ around them,” Adamske said.

Fed Chairman Ben Bernanke told the House Financial Services Committee in February that the board would support releasing “the identities of firms” that seek temporary cash infusions from the central bank — but only after a “sufficiently long lag” that a bank’s depositors and investors will not interpret the transaction as a sign of trouble and unnecessarily withdraw their funds. This could undermine confidence in a financial institution and discourage it from turning to the Fed, even if doing so might be necessary to protecting the financial system as a whole, Bernanke said.

Though the Fed designed mechanisms to prevent bank runs after the Great Depression, insolvent banks still provoke fear among depositors that can threaten an institution’s stability. That fear was abundantly clear to former television journalist Andrew Leckey.

“If I was standing in front of a bank with a microphone and a crew, people would begin to gather around … they fear the worst because it’s their money,” said Leckey, now president of the Donald W. Reynolds National Center for Business Journalism at Arizona State University.

“That’s somewhat a reasonable argument,” agreed financial journalist Jesse Eisinger, who reported on the shaky state of the Wall Street banks for Condé Nast Portfolio before joining ProPublica. “But the reality is this sort of information gets out anyway. If it gets out among bank executives, it eventually gets out in the press.”

As dramatic as it was, the fall of Bear Stearns was only the opening act. Just days later, the Fed lent JPMorgan Chase $29 billion to help the bank absorb Bear’s corrosive assets that were backed by subprime mortgages. Shortly after, the Fed opened its discount window to investment banks for the first time since the Great Depression and offered an array of new emergency-lending programs. Though the Treasury Department nixed a bailout that September for Wall Street’s oldest investment firm, Lehman Brothers, which filed for Chapter 11 bankruptcy protection, it would later turn around and rescue insurance giant American International Group, Inc., which it deemed “too big to fail.” The details of most bailout efforts were hammered out under a haze of secrecy.

“These were unprecedented, experimental programs from the Fed, launched with very little forethought in an emergency,” Eisinger said. “The natural instinct was to be as private as they could.”

Congressional Requests for Transparency

A few weeks after the Bear Stearns deal, Senate Finance Committee members Max Baucus, D-Mont., and Chuck Grassley, R-Iowa, demanded details about the deal and a careful chronology of events leading up to it, but the Fed resisted divulging the lending programs’ beneficiaries and collateral for more than a year. When it finally relented in June 2009, the Fed still refused to identify individual banks that benefited from the discount window and other lending facilities.

“The major problem of the financial crisis was a lack of information,” Leckey said. “There was a certain degree of conniving and stupidity, but lack of information was a major part of that. Investors had no idea what the situation was.”

The Fed lending programs, which are used by financial institutions and not consumers, are more than a means of regulating banks. The programs, particularly the “discount window” for overnight and short-term loans, are an important means of carrying out the Fed’s monetary policy, which affects everything from the costs of obtaining a mortgage to the value of the dollar on international exchanges. Details of individual participants and their transactions were kept secret for fear that depositors and investors would erroneously interpret a bank’s use of the programs as a sign of weakness.

The Dodd-Frank Wall Street Reform and Consumer Protection Act creates an exemption to the Freedom of Information Act for Fed lending programs. Details of the Fed’s emergency credit lines to individual borrowers are now temporarily off-limits to the public, pursuant to a provision in the FOIA that allows Congress to create new exemptions. The new law does, however, require the Federal Reserve Board of Governors to eventually disclose “in a timely manner” information identifying the names of borrowers and participants, the amount transferred, the interest rate or discount paid by each and the types and amounts of collateral pledged.

Whether this information will be of use to journalists depends on what they consider timely. Depending on the category of the lending program, it’s as little as one year after the Board terminates the credit line and as long as two years after the transaction. The law also allows the chairman of the Federal Reserve Board of Governors — currently Bernanke — to publicly release the information earlier if he determines it to be in the public interest and it “would not harm the effectiveness of the relevant credit facility or the purpose or conduct of covered transactions.”

The exemption may nevertheless be temporary. Section 1103 also requires the Board of Governors’ inspector general to study the new FOIA exemption’s impact on public access to information about the lending programs. The inspector general will make recommendations based on the study, which the statute requires to be submitted — and published on the Board’s website — in early 2013.

Requiring detailed disclosure, though delayed, is a positive step compared to the Fed’s earlier policy of withholding information on individual transactions even in light of court challenges, Leckey said. “We have to see how it’s carried out,” he said.

Bailout Transparency in the Courts

The courts have so far been skeptical of the Fed’s attempts to apply an exemption to FOIA that protects privileged financial information to its lending programs.

In May 2008, Bloomberg filed a FOIA request to obtain the names of all the institutions that borrowed money from the Fed and information about the collateral they put up to get it. The Board resisted, prompting the news organization in November to sue to obtain the records. The banking industry joined the Board in fighting detailed disclosure in Bloomberg v. Board of Governors and a related lawsuit brought by Fox News.

A federal court in Manhattan reached two divergent rulings in those cases, with one judge deciding that FOIA applied to the Fed records in question and another ruling that nearly identical records were exempt. Bloomberg appealed to a panel of the U.S. Court of Appeals in New York City (2nd Cir.), which in March sided with the news organization and sent the Fox case back to the lower court in light of its ruling.

The appeals court rejected the Board’s argument that the records could be withheld due to a FOIA exemption that protects trade secrets. To qualify for a trade-secret exemption, information must satisfy a three-part test that requires it to be confidential, commercial or financial in nature and obtained from an organization or person. The Fed is seeking a review of the decision by the full appeals court.

The nondisclosure provisions of the new law should not impact the outcome in the Bloomberg or Fox cases, as the Dodd-Frank Act contains specific language that its provisions are not meant to have any effect on FOIA litigation pending at the time of its enactment.