Informe - Defining Road Rules for GE Capital

When the Federal Reserve and an influential politician want to give special treatment to large companies like General Electric, the situation warrants special attention.
The Treasury's financial-system overhaul plan, announced in June, aims to remove regulatory loopholes that have allowed large financial firms to operate under weak supervision.

The Fed, General Electric CEO Jeffrey Immelt, left, and Rep. Barney Frank are on one side of a rift with the Treasury over regulating firms like GE Capital.

Loopholes contributed to the systemic meltdown. American International Group's finance arm, Lehman Brothers, Bear Stearns and Countrywide Financial all operated under light-touch regulators. However, if they'd been classified as bank-holding companies, like most large financial firms, they would have had stricter oversight. That may have prevented them from becoming so risky.

Sensibly, then, the Treasury's overhaul aims to close the loopholes and have large financial firms become bank-holding companies. This would likely apply to GE's large finance subsidiary, GE Capital, which isn't a BHC and is under a different regulatory regime.
And this is where a rift opens up between the Treasury, on one side, and GE, the Fed and Rep. Barney Frank (D., Mass.) on the other.

A BHC is defined as any company that owns a bank. In theory, to bring GE Capital under the BHC umbrella, GE, as owner of GE Capital, would have to become a BHC. The Treasury doesn't want bank regulators overseeing nonfinancial businesses. As a result, its proposal gives companies five years to split off their finance arms as independent BHCs.

It is the splitting off that the Fed and Mr. Frank oppose -- for a range of nonbank firms, not just GE. However, GE Capital has moved to the center of this debate because, with $626 billion in assets, it is far larger than other companies' finance arms.
The Fed and Mr. Frank say that a large financial firm can be properly regulated even if it isn't a BHC. For instance, Fed Gov. Daniel Tarullo recently said that all "systemically important" financial firms should be "robustly supervised" like a BHC.
Exactly how these firms would be supervised -- or even defined -- isn't clear, however. And in the give-and-take of Washington, large companies could use any vacuum to carve out new exemptions.
Arguably then, the Treasury's BHC solution makes the most sense. First, it creates a level playing field; Goldman Sachs, Morgan Stanley and American Express all had to convert into bank-holding companies last year. And since the BHC regulatory infrastructure already exists, it would also be simpler and quicker to implement.
Clearly, GE investors have to pay attention to the Washington maneuvering. If the Treasury prevails, GE may have to inject a lot of new capital into GE Capital to convince its new shareholders that it can stand alone.
True, if the Fed gets its way and does end up applying tough, BHC-like regulations, capital and reserves would likely have to go higher at GE Capital.
But a third outcome is still possible: GE emerges with a cozy new loophole.