How Are Financial Institutions Governed?

By Caroline Banton · August 23, 2022 · 9 minute read

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How Are Financial Institutions Governed?

Opinions about America’s financial institutions may vary, but regardless of your viewpoint, it’s important to understand how these organizations are governed. At both federal and state levels, laws are set and enforced to protect consumers against unfair and unscrupulous treatment in the banking and finance sectors. In addition, guidelines are in place to combat fraud and monopolistic behavior, helping to ensure the smooth running of the free-market economy.

Granted, catastrophic historic events — such as the 2008 global financial crisis — occur despite the oversight of robust financial regulatory agencies. Because of this, laws and regulations are constantly being examined and updated to finesse the banking and finance legal framework.

Read on to understand more about finance watchdogs, their roles, and how regulations work to protect the public and the economy from fraud and illicit practices. It’s wise as well as reassuring to know more about the guardrails that are in place.

What Is Financial Regulation?

Financial regulation is a set of laws, rules, and policies set by governing institutions. These are designed to keep your money safer. Specifically, they aim to maintain confidence and stability in the financial system by eliminating fraud and monopolistic behavior.

In the United States, governing bodies try to balance the need for oversight with a free-market economy, which can be a challenging endeavor.

Why Financial Regulations Are Important

Without regulations, consumers have no protections. They might be subject to fraud, sold bad mortgages, and charged high interest rates and fees on credit cards. Large companies could create monopolies or duopolies, which allow them to control prices.

Laws and policies prevent companies from gaining too much market control and stifling competition, which threatens the free market economy. Regulations also prevent financial institutions from taking risks that put consumer funds in jeopardy.

Here’s a brief history lesson that shows how lack of regulation can negatively impact daily life: The 2008 financial crisis was precipitated by deregulation and the repeal of the Glass-Steagall Act of 1933. This allowed financial institutions to engage in risky hedge fund trading. To fund their investments, the banks created interest-only loans for subprime borrowers, which contributed to more home purchases (including to buyers who would not have otherwise qualified) and quickly rising prices. This created a housing bubble, and millions of people were left bankrupt and couldn’t sell their homes when home prices then plummeted.

But too much regulation can also be a threat to an economy. In a free-market economy, prices are largely determined by supply and demand. Competition among suppliers tends to keep prices at bay as they each try to grab market share.

If regulations become too onerous and costly, companies may use up capital to comply with federal rules. That means they aren’t using those funds to create innovative products. In some cases, specific industries or groups manage to influence regulators and persuade them to introduce or eliminate laws that benefit them and not their competitors.

Types of Financial Regulations

Different agencies focus on the safety and soundness of products and services, transparency and disclosure, standards, competition, and rates and prices for different entities. Here’s a closer look at some of the most important regulations to be aware of:

•   Stock Exchange Regulations Laws and rules for stock exchanges ensure that the pricing, execution, and settlement of trades is fair and efficient.

•   Listed Company Regulations Listed companies (public companies) are required to prepare quarterly financial statements and submit them to the Securities and Exchange Commission (SEC) and to their shareholders. Investors use this information to inform their trades.

•   Asset Management Regulation Financial advisors and asset managers must follow strict rules set by financial services regulatory bodies so that clients are treated fairly and not defrauded. Any company that provides investment advice is considered an investment advisor, and the SEC oversees investment advisors with more $110 million in assets under management (AUM).

•   Financial Services Regulation Banking and financial institutions must follow specific guidelines to ensure a functioning banking system. These rules are enforced by The Federal Reserve Board (the Fed) and the Federal Deposit Insurance Corporation (FDIC).

Recommended: What Is a Fiduciary Financial Advisor?

Types of Financial Institutions

There are a wide variety of financial institutions in America, some of which you may be familiar with. Here’s the rundown:

•   Central banks, like the U.S. Federal Reserve, watch over the country’s monetary policy.

•   Retail banks are probably what most people are familiar with. These are banks where the general public can have checking and savings accounts, loans, and other financial services.

•   Commercial banks are similar to retail banks (above) but they serve the business community. Large banks may act as both commercial and retail banks.

•   Credit unions are similar to banks but they are nonprofits, and members are part owners of them. They offer the same kind of services as banks but may tailor themselves to specific communities.

•   Community development financial institutions (CDFIs) are financial institutions that work to build financial knowledge, services, and wealth in communities that are less advantaged.

•   Savings and loan associations are organizations that use savings to create housing loans.

•   Brokerages manage securities trading (say, stocks and exchange-traded funds, or ETFs), which are regulated though not insured.

•   Insurance companies help both businesses and individuals protect themselves from property loss and may provide services such as loans.

•   Investment companies function by issuing securities to both businesses and individuals who seek to raise capital.

•   Mortgage companies offer home loans and may also manage commercial real estate.

What Is a Financial Regulator?

A financial regulator is an organized governmental or formal body that has the jurisdiction to oversee other entities, such as stock markets, banks, and asset managers. Their mandate is to ensure fairness, protect the public and institutions from fraud, and to facilitate a well-functioning financial sector.

Examples of financial regulators are the Fed, the Securities and Exchange Commission (the SEC), and the Financial Industry Regulatory Authority (FINRA).

How Are Financial Institutions Regulated?

Banks and financial institutions are regulated by the Fed, the Office of the Comptroller of the Currency (OCC) and the FDIC, while asset management companies and stock exchanges answer to the SEC and FINRA. (Also worth noting: Individual stock brokers, investment bankers, and other professionals likely need FINRA securities licenses.) State agencies may enforce regulations on financial institutions, notably insurance providers.

Each of these organizations requires documentation from financial institutions and companies that show compliance with laws. For example, listed companies have to submit quarterly financial statements to the SEC. If they fail to do so, they may be charged with “Failing to Comply” and may lose the ability to trade their shares on the stock market and be forced to pay penalties.

Recommended: FINRA vs. SEC: How are they Different?

The Most Common Financial Regulatory Bodies

The following is a list of the more recognized regulatory agencies and a brief description of what each one does.

The Federal Reserve Board (FRB)

The Fed is the central bank of the United States. As such, it ensures the U.S. economy functions effectively. The Fed is in charge of monetary policy and has the power to increase or decrease interest rates or to instruct banks on the quantity of reserves they must maintain. The Fed also monitors financial systems and their impacts, facilitates efficient settlement of U.S dollar transactions, and upholds laws that protect consumers.

The Federal Deposit Insurance Corporation (FDIC)

The FDIC was created by Congress to support the U.S. financial system. The FDIC insures deposits and monitors financial institutions and their compliance with consumer protection laws. The FDIC also manages bank failures.

The Consumer Financial Protection Bureau (CFPB)

The is a relatively new agency that implements and enforces Federal consumer financial law. CFPB regulations protect consumers by making sure financial products and services are “fair, transparent, and competitive.”

The National Credit Union Association (NCUA)

The NCUA was created by Congress in 1970 . The association insures consumer accounts with credit unions with up to $250,000 of federal share insurance. Enforcement tools of the association include letters of understanding and agreement, administrative orders, and consent orders.

The Securities Exchange Commission (SEC)

The SEC strives to maintain the public’s trust in the capital markets by insisting on fair practices. Various acts have been passed over time including the Securities Act of 1933, the Sarbanes-Oxley Act of 2002, and the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.

The Commodity Futures Trading Commission (CFTC)

The CFTC was created in 1974 to oversee commodity trading in the agricultural sector. Commodity trading has been subject to government regulation since the 1920s. The CFTC supervises and monitors commodity traders and market activity. The commission investigates and prosecutes wrongdoers and educates customers about their rights and how to avoid fraud.

Recommended: What Are the Difference Between FDIC and NCUA Insurance?

How Financial Regulators Help Banking in the Way We Know Today

The banking and financial systems operate well under current regulation, but what about digital banking? Digital banking is a recent innovation, and existing banking laws and regulations generally apply to digital start-ups and fintechs. However, there are some regulatory frameworks specifically for digital banking.

An example of protection for digital banking consumers is Electronic Know Your Customer (e-KYC), which is used for digital onboarding and checks that a customer is who they say they are to avoid fraud and money laundering. E-signature is a way for customers to validate transactions remotely.

Another instance is the Electronic Fund Transfer Act (Regulation E) which aims to make applicable electronic transactions compliant with regulations as well as have “readily understandable” consumer disclosures.

Recommended: Online Banking vs Traditional Banking: What’s Your Best Option?

The Takeaway

Financial services regulatory bodies like the Fed, the FDIC, and the SEC oversee the banking and finance sectors in the United States. State agencies also play a role. Though many consumers are not aware of the details, these regulatory bodies have jurisdiction over stock markets, commercial and retail banks, investment banks, and asset managers. Their mandate is to ensure fairness for consumers, ensure entities comply with fraud protection rules, and to protect the financial sector and free-market economy.

Which is all good, of course. But if you are looking for a great bank for your personal accounts, see what SoFi Checking and Savings offers. When you open a bank account with direct deposit, you’ll earn a competitive APY, pay no account fees, and have access to the Allpoint network of 55,000+ fee-free ATMs.

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Who regulates financial institutions in the United States?

In the United States, financial institutions are regulated by the Fed, the Office of the Comptroller of the Currency (OCC), the Federal Deposit Insurance Corporation (FDIC), the SEC, FINRA, the CFPB, the NCUA, and the CFTC. State agencies also enforce regulations on financial institutions, especially insurance providers.

What are regulators in finance?

Finance and banking regulators are state- and government-appointed bodies that protect the safety and fair treatment of consumers. They also ensure smooth operations of the finance and banking sectors, the backbone of the economy.

Who regulates investment banks?

U.S investment banks are regulated by the SEC. For regulatory purposes, investment banks were declared separate for commercial banks following the passing of the Glass Steagall Act of 1933.

Photo credit: iStock/assalve

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