NEW YORK (The Deal) -- Under intense pressure from insurance companies, the Senate late Tuesday approved a measure that would give the Federal Reserve authority to set up liquidity and capital rules specifically for "systemically important" insurers, rather than subjecting them to tougher bank-like capital regulations.
The issue is critical to large insurers Prudential Financial (PRU) and American International Group (AIG), which have been designated by federal regulators as "Systemically Important Financial Institutions," or SIFIs, because of concerns over the collateral impact to the economy if they were to collapse.
MetLife (MET), another insurer, also is being evaluated as a potential SIFI and likely will be designated as one shortly, according to people familiar with the situation.
The Federal Reserve is required by a measure in the post-crisis Dodd-Frank Act known as the Collins Amendment to impose bank capital requirements on designated insurance companies unless there is a legislative fix.
The Senate approved the insurance measure by unanimous consent, which means that there was no formal vote by individual Senators on the provision.
The move indicates that the provision is likely to be approved by the House and President Barack Obama fairly soon as long as House Republicans don't seek to add additional items to the measure that Democrats would oppose. Rep. Gary Miller, R-Calif., introduced a similar companion bill in the House.
"There is broad bipartisan agreement that providing traditional life, property and casualty insurance is different from banking," said Sen. Sherrod Brown, D-Ohio, and one of the key sponsors of the measure. "I want strong capital standards, but they have to make sense. Applying bank standards to insurers could make the financial system riskier, not safer. That is why the Federal Reserve must recognize the differences between the industries and ensure that institutions engaging in insurance are not held to the same capital requirements as traditional banks."
Other key sponsors of the measure, known as the Insurance Capital Standards Clarification Act of 2014 include Sens. Susan Collins, R-Maine, and Mike Johanns, R-Neb.
If it does become law fairly quickly, that could lay the groundwork for movement on some other so-called legislative fixes that could also quickly become law.
One possible follow up legislative fix that could be a boon to midsize regional banks is one that would raise the threshold for being designated systemically significant to $100 billion from $50 billion. Regulatory observers noted that if Congress passed this measure an additional 18 banks could be excluded from being designated systemically important. Such a move could come because the Fed's chief bank supervisor, Daniel Tarullo, in May suggested in a speech at a bank conference that it might make sense to raise the threshold.
Prudential was placed in the systemic risk category in September. The Financial Stability Oversight Council, a group of federal regulators charged with identifying risks to the financial system, argued that the big interconnected insurance firm would have a hard time selling assets in a period of financial stress and as a result could eventually "inflict significant damage on the broader economy."
Prudential and other designated nonbanks will likely be required to write so-called living wills and explain to regulators how nonbanks could dismantle themselves in a way that doesn't spread damage to the rest of the market. Large financial institutions, which already have been designated as SIFIs, have been developing living wills.
The government council noted that because of Prudential's "interconnectedness, size, certain characteristics of its liabilities and products, [and] the potential effects of a rapid liquidation of a significant portion of its assets," financial distress at the insurer could "severely" inflict damage on the economy.
Whether a company is overly interconnected is a key consideration for regulators, who often point to AIG as the poster child for a massively interconnected financial firm that did not have sufficient capital buffers or adequate oversight during the years leading up to the 2008 crisis. AIG was formally designated by the council as systemically important in July.