Tags: Tarullo | bank | too big to fail | capital

Senate Banking Revisits Systemic Risk Measures

By    |   Friday, 12 July 2013 01:43 PM

On July 11, the Senate Banking Committee, chaired by Tim Johnson, D-S.D., conducted a short hearing with a panel of witnesses from the Treasury Department, represented by Under Secretary Mary Miller, and the federal banking regulators.

The hearing was significant because of the revealing responses elicited by Sherrod Brown, D-Ohio, David Vitter, R-La., and Elizabeth Warren, D-Mass., who are the senators most concerned by what they consider to be the risk the largest banks pose to the financial system because of their excessive leverage.

The main theme, familiar to readers, is that the regulators are acting to put in the safeguards mandated by the Dodd-Frank Act so that the financial system would be more resilient and less likely to collapse in a disorderly fashion, as it would have done in 2008 if the Treasury and Federal Reserve had not bailed out the too big to fail banks.

Brown and Vitter, along with FDIC Vice Chairman Tom Hoenig, have expressed alarm that the largest banks are still operating with far too much risk and too little capital. They are proposing that required capital levels be set much higher and that more emphasis be placed on straight leverage ratios that cannot be gamed by applying risk weights generated by risk models provided by the banks themselves.

Brown asked the panel to respond to a report by the Financial Times that the banks plan to use "optimization strategies" to move transactions around so that they will not have to raise any more capital in order to comply with the regulations.

Federal Reserve Governor Dan Tarullo, who is in charge of this issue for the agency, responded that the Fed depends on a combination of measures, including "a good risk-weighted approach, a leverage ratio and stress testing." He added that the Fed plans to pay more attention to the liability side and take into account risky funding strategies that could threaten the financial system.

Brown asked Miller about a speech she gave in April questioning whether the largest banks actually enjoy a significant funding advantage due to the perception that they are backed by the federal government. She responded that the data used to document the advantage are stale, and the studies need to be reconsidered, because "we're in a period of changing perceptions."

Vitter asked whether the fact that smaller banks voluntarily maintain much higher capital levels than the largest banks do, in response to market forces rather than government regulations, indicates that capital levels among the largest banks are too low.

Tarullo responded that capital levels need to increase, and he asserted that they have doubled in the last few years. He repeated his earlier reference to vulnerability on the funding side.

Finally, Warren noted that the largest banks are 30 percent larger than they were five years ago, then repeated a question she had asked at a hearing in February about the policy change Securities and Exchange Commission (SEC) Chairman Mary Jo White has adopted that will require admissions of guilt in some settlements of enforcement actions.

Tarullo responded that he had taken the question back to the Fed and the result of the discussion is to point out that the banking agencies, unlike the SEC, emphasize supervision and examination over enforcement, and the banking agencies try to resolve problems by using supervisory tools.

He claimed that given the potential that admissions of guilt could affect litigation, this is the best way to protect the interest of taxpayers. This answer left Warren exasperated, but she did elicit from Tarullo a promise to consider disclosing its enforcement actions on the record as it has done with the results of stress tests.

The synthesis of all this discussion is that five years after the 2008 episode of the ongoing financial crisis, the highly paid executives who run the zombie banks are still dancing and skating and growing larger, secure in the knowledge that they are backed up by friendly regulators and by the federal safety net.

The next battle to watch is the one that might get under way this fall if Tarullo is able to issue his proposal to impose capital requirement on risky funding practices by the largest banks, but even he admitted that this would just be the beginning of the regulatory process.

Thus, from a critical perspective, five years after the 2008 episode and decades after the crisis that caused Congress to pass landmark legislation that friendly regulators failed to implement, the too big to fail banks are larger and riskier than ever before.

The financial system is more vulnerable than ever to a liquidity event that would threaten one or all of these banks if the authorities don't intervene, but the markets assume that they will, because these banks are still too big to fail.

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On July 11, the Senate Banking Committee, chaired by Tim Johnson, D-S.D., conducted a short hearing with a panel of witnesses from the Treasury Department, represented by Under Secretary Mary Miller, and the federal banking regulators.
Tarullo,bank,too big to fail,capital
Friday, 12 July 2013 01:43 PM
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