The collapse of AIG during the financial crisis eight years ago hung over arguments in a federal appeals court on Monday about the government’s designation of insurance giant MetLife as a “systemically important financial institution”—too big to fail, in laymen’s terms.
That designation by the Financial Stability Oversight Council triggered increased government oversight and regulation for MetLife. The company went to court, arguing the council failed to follow federal law and its own guidelines. A U.S. district judge earlier this year agreed, prompting the government to take the case to the U.S. Court of Appeals for the D.C. Circuit.
One of MetLife’s main arguments is that the council should have considered MetLife’s actual vulnerability to financial distress, as opposed to jumping ahead to the consequences. During arguments on Monday, U.S. Department of Justice lawyer Mark Stern said that Congress didn’t intend for the council to predict whether or not a company would fail when it passed the Dodd-Frank financial reform package in the aftermath of the financial crisis.
Stern invoked AIG’s collapse, saying that back in 2005 only the few people who bet against the housing market — he referenced “The Big Short,” a book about those investors that was dramatized in a 2015 movie — could have predicted what would happen.
Guidance that the council published interpreting Dodd-Frank couldn’t be read to include a requirement that it consider the likelihood that a company would face financial distress, Stern said. Judge Sri Srinivasan said the government was taking the more “aggressive position.”
Judge Patricia Millett questioned MetLife’s lawyer, Eugene Scalia of Gibson, Dunn & Crutcher, about what language in Dodd-Frank compelled the council to consider MetLife’s likelihood of distress. Didn’t the law use conditional words and phrases such as “in the event of” and “could,” she asked.
Scalia said there wasn’t explicit language in the statute, but that it was unreasonable for the council not to do so. The council started with the assumption of a total failure by MetLife, he said, without any consideration for how it got there.
Scalia said the council also ignored evidence MetLife presented about how a failure by MetLife would affect other financial institutions. This evidence, Scalia said, showed that any losses by banks would be “minuscule” compared to losses that the Federal Reserve assumed in “stress tests” of banks’ resilience.
Millett pressed Scalia and Stern on the “stress test” issue. She questioned MetLife’s methodology, while also commenting that there wasn’t a lot of “concreteness” from the council about how other financial institutions would be affected if MetLife failed.Dodd-Frank created two categories of companies for the council to analyze: bank holding companies and non-bank institutions such as MetLife. Bank holding companies are subject to increased regulation once they hit $50 billion in total assets. Srinivasan asked Scalia what it meant for the council’s analysis if MetLife hit that same number.
Scalia said the risks of economic ripple effects was different for banks and insurance companies. Banks are more interconnected with other financial institutions and are more prone to runs by customers, he said.
MetLife has also argued that the council was wrong not to consider what it would cost MetLife to be designated as a systemically important institution. Millett asked if the company would have an opportunity to bring up the cost issue after it was designated, when the extent of regulation and oversight was being sorted out. Scalia said that the designation triggered immediate effects, including a higher capital standard.
The council had been “cavalier” about the consequences to MetLife, Scalia said.
Judge A. Raymond Randolph also heard the case.