June 4, 2010

Dear Chairman Dodd, Ranking Member Shelby, Chairman Frank and Ranking Member Bachus:

As Congress begins work to reconcile differences between H.R. 4173, the Wall Street Reform and Consumer Protection Act of 2009, and S. 3217, the Restoring America’s Financial Stability Act of 2010, the Nation’s governors urge you to adopt the following recommendations into the final conference report:

1.   Preserve State Authority.  H.R. 4173 (§§4401-4410)/ S. 3217 (§§1041-1048)

Governors strongly believe that federal preemption of state laws should be the exception rather than the rule, especially in areas of primary state responsibility such as consumer financial protection.  Both the House and Senate language would permit states to offer greater protections to consumers than under current federal law. The House language, however, is more accommodating to state authority and more stringent on federal regulators. Specifically, the House language would require that federal regulators identify a substantive federal standard that would govern the conduct, activity, or authority of a nationally-chartered bank or thrift that was previously subject to a preempted state law, blocking the ability of a federal regulator to replace state regulation with, essentially, no regulation.

Governors urge conferees to uphold the authority of states, to the greatest extent possible, to enforce consumer protection laws and regulations against all financial institutions regardless of charter. Federal preemption of state authority and the overarching emphasis on “too-big-to-fail,” risks imperiling local consumers, investors, and community lenders as “too-little-to-matter.”

2.   Establish Uniform Credit Ratings Scale.  H.R. 4173 (§6002)/S. 3217 (§938).

Governorsrecommend adopting the House language subject to additional clarifications that express in direct and clear language that the ratings agencies must rate all securities, corporate and municipal, on the same scale based on the likelihood of default and repayment.

National rating agencies currently use different methodologies when rating corporate and municipal issues. This provision would offer investors better decision-making tools and improve the attractiveness of municipal securities because current ratings methodologies do not account well for the historically low municipal default and high repayment rates when compared against corporate issues. 

3.   Underscore Fiduciary Duty.  H.R. 4173 (§7103)/ S. 3217 (§913).

Governors believe it is appropriate to hold all persons who provide personalized investment advice to retail clients to the highest fiduciary duty under the law, regardless of the licensing status of the provider because consumer interests must come first.  Under current law, broker-dealers who sell securities do not have the same legal responsibilities to act in the best interests of their clients as investment advisers although they routinely present themselves to retail investors based on the advice they offer.  Governors recommend adoption of the House language because it advances consumer protection and uniformity in the application of the fiduciary duty standard.

We distinguish, however, fiduciary duty in the context of derivatives.  The Senate bill contains overbroad language that would apply a fiduciary duty on swap dealers when they advise, market, or enter into swap transactions with state and local bond issuers.  Essentially, a swap is a complex derivative instrument that hedges risk for the parties to a primary transaction from which the swap derives its value.  Unlike the advisory role of a broker-dealer to a retail investor, in a swap transaction the swap dealer is the counterparty to the public issuer.  To impose a fiduciary duty on swap dealers in this particular case is analogous to requiring a buyer’s agent in a real estate transaction to represent the best interest of the seller.  It is unworkable.  

4.   Financial Stability Oversight Council.  H.R. 4173 (§1001)/ S.3217 (§111)

Governors recommend adopting the House language regarding the Financial Stability Oversight Council.  Including state regulators for insurance, banking, and securities as non-voting members would deepen the FSOC’s expertise, renew federal-state collaboration, and reinforce a multi-level defense against current and future challenges to systemic risk. 

States have a longstanding record of protecting consumers and investors through licensing, registration, examination, enforcement, and education activities.  States also are the vanguard of prudential regulation and consumer protection efforts, often developing innovative approaches and alerting the nation to emerging financial services threats.  The House language affirms the fundamental reality that our nation’s financial services system is interconnected. 

5.   Corporate Governance.  H.R. 4173 (§7222)/ S. 3217 (§971/§972/§973).

NGA recommends excluding from the final conference report corporate governance provisions concerning election of directors, proxy access, and shareholder voting on staggered terms for directors.

Governors believe that state law should continue to govern the chartering, formation, and internal governance of corporations and other business entities.  Federal law and regulations should not preempt state laws and regulations in areas of corporate governance.  These areas did not contribute to the financial crisis, and preemption threatens to limit economic benefits and development opportunities derived by the states from company formation laws and regulations. 

We look forward to collaborating with Congress on a balanced national strategy for regulatory reform that strengthens the U.S. economy, upholds market safety and stability, protects consumers and investors, and preserves state authority as financial services regulators.

Sincerely,

cc.  House and Senate conferees