By Emily Stephenson
(Reuters) - Three U.S. states have joined a lawsuit against federal regulators, challenging the constitutionality of the 2010 Dodd-Frank law that overhauled U.S. financial oversight and created the Consumer Financial Protection Bureau.
The attorneys general of Michigan, Oklahoma and South Carolina are challenging a portion of Dodd-Frank that empowers the Treasury secretary to order the liquidation of failing financial institutions, according to a complaint filed in U.S. District Court for the District of Columbia on Thursday.
The states joined a suit filed in June by conservative think tank Competitive Enterprise Institute, a Texas bank and a senior citizens group.
Dodd-Frank, passed by Congress in response to the 2007-2009 U.S. financial crisis, gives regulators broad authority to oversee financial institutions.
It has since drawn criticism from Republicans and industry groups who say the new regulations go too far and could strangle businesses and restrict credit. Republican presidential candidate Mitt Romney has pledged to repeal Dodd-Frank, but few see that promise turning into a reality.
The states and other groups are now questioning the constitutionality of parts of the controversial law.
"The new regulations do not stabilize our economy, they create greater uncertainty," Alan Wilson, South Carolina's attorney general, said in a statement. "Dodd Frank replaces the rule of law with the rule of politics."
The lawsuit challenges a provision that lets the Treasury secretary call for the liquidation of a financial entity that would threaten U.S. financial stability if it failed. The goal was to prevent future bailouts of financial firms.
The states argue in the complaint that the process would have little government oversight and restrict the company's and its creditors' ability to be heard.
Timothy McTaggart, a partner at law firm Pepper Hamilton who focuses on financial regulatory issues, said questions have been raised about the liquidation rules, such as whether the process allows enough time for firms to participate.
"It certainly raises some interesting issues. Of course, there's a huge presumption that when Congress passes a law, it's constitutional," McTaggart said.
Treasury Department spokeswoman Suzanne Elio said the lawsuit merely revives arguments that have already been made against new Wall Street oversight and that the department would fight attempts to impede financial regulation.
The initial complaint filed by the Competitive Enterprise Institute and others claimed the CFPB and the Financial Stability Oversight Council, which addresses risks to the overall U.S. financial system, are unconstitutional because they are not subject to sufficient checks by other branches of government.
Congressional Republicans often criticize the consumer agency for operating with what they see as too little oversight.
The CFPB is funded by the Federal Reserve rather than by appropriations from Congress, and critics want it to be led by a bipartisan commission instead of a single director.
"Many of us have been frustrated by the lack of accountability in the CFPB's leadership structure and the lack of transparency in the CFPB's funding structure," Representative Spencer Bachus, chairman of the House of Representatives Financial Services Committee, said during a hearing on Thursday focused on the consumer bureau.
The lawsuit also challenges President Barack Obama's appointment of Richard Cordray as CFPB director in January, another point of frustration to Republicans.
Dodd-Frank requires the director be confirmed by the Senate, but Obama used a recess appointment to install Cordray at the agency.
The complaint filed Thursday was amended to include the states' challenge against the new liquidation authority. The states did not sign on to the challenges against the consumer protection bureau and the oversight council.
The attorneys general from the three states are all Republicans.
(Reporting By Emily Stephenson and Rachelle Younglai; Editing by Andrea Ricci)