Sen. Tim Scott proposes bill to eliminate reputational risk

Senate Banking Committee Chairman Tim Scott introduced a bill that would stop banking regulators from using reputational risk as a measure of safety and soundness.

On Thursday, the South Carolina Republican released an outline of the bill, which aims to eliminate the ability of prudential bank regulators to write new rules or guidance that involves any use of reputational risk as a component of supervision. The bill is narrowly tailored to remove subjective factors, Scott said, and would not affect quantitative supervisory measures such as concentration risk or liquidity risk.

“We must rein in these rogue regulators,” Scott said in the outline.  

The bill, called the Financial Integrity and Regulation Management, or FIRM, Act, would prohibit the Federal Deposit Insurance Corp., the Federal Reserve, the National Credit Union Administration and the Office of the Comptroller of the Currency from using incorporated reputational risk as a component of supervisory ratings. 

The term “reputational risk” is commonly used by federal banking agencies to refer to the potential that negative publicity or public opinion about a bank’s business practices could lead to a decline in confidence or customers and result in costly litigation or a drop in a bank’s revenue. 

Reputational risk is not required by statute and exceeds supervisory authority, Scott said. He said he aims to stop the “political weaponization” of federal prudential regulators. 

Scott claims that hostile bank regulators under Democratic administrations have “weaponized their power to target disfavored political groups and individuals.” Bank regulators have been “hiding behind opaque veils of confidentiality and insincere proclamations of independence,” he said.

Republican lawmakers have glommed onto the practice of “debanking” — when a bank unilaterally closes a consumer or business account — and have claimed that an Obama-era crackdown on payday lenders known as Operation Choke Point led regulators to strong-arm banks into cutting ties with stigmatized companies such as gunmakers. 

A driver of the current narrative about reputational risk has been cryptocurrency firms that claim they were denied access to banking services under the Biden administration and that have donated heavily to Republican campaigns to get better treatment.

“Federal banking agencies use reputational risk to prevent federally regulated depository institutions from providing financial services to industries that the agencies disfavor,” Scott said in the outline. 

Still, it is unclear if such a law had been in effect in 2016 that the scandal at Wells Fargo would have been flagged as a reputational risk. The San Francisco-based bank fired 5,300 employees for opening millions of unauthorized bank accounts, and Wells spent years trying to claw its way back from the scandal.

Banks support the bill, with trade groups claiming that the concept of reputational risk has led to the politicization of bank exams.

Rob Nichols, president and CEO of the American Bankers Association, said the FIRM Act would restore access to banking services and give banks “the freedom to make their own decisions about who they can and cannot bank.”

The bill also would limit “regulators’ ability to use subjective concerns about ‘reputational risk’ to pressure financial institutions not to bank certain customers,” Nichols told American Banker. 

The Bank Policy Institute has lobbied to remove reputational risk as one measure in the supervisory exam process. Regulators, the trade group claims, are not really concerned about a bank’s reputation because they do not vigorously review banks’ marketing or advertising activities. Instead, regulators have tried to forbid activities that banks claim are legal and raise no material risk to safety and soundness. 

Separately, House Republicans have asked that banking agencies remove reputational risk from the “management” category of the CAMELS rating system.