Tags: Tarullo | Adams | bank | fail

Fed's Tarullo Talks About Zombie Banks — Part I

By    |   Wednesday, 05 November 2014 07:51 AM

Federal Reserve Governor Daniel Tarullo appeared before the Institute of International Finance (IIF), a banking trade association whose board includes CEOs of Goldman Sachs, Morgan Stanley and Citigroup, recently at the Ronald Reagan Building in Washington to discuss the status of "too big to fail" banks as he sought to deny that any U.S. bank holds this coveted status.

His remarks received a lot of attention, as did a spate of speeches by prominent bank regulators calling for changes in the culture of the largest banks, prompting some observers to wonder, if the regulators want bankers to change their culture, why haven't they done a better job of regulating?

Tarullo's remarks are especially significant among Fed governors, because as the division of labor operates at the Fed, he is the governor with the greatest responsibility for bank supervision, such as it is at the Fed. One should hasten to say that under the wacky system of bank regulation that prevails in the U.S., the Fed is the regulator of holding companies, while the underlying banks are regulated by an archaic entity called the Office of the Comptroller of the Currency, which is part of the Treasury. In another anachronism of bank regulation, ironically the banks the Fed regulates directly are state-chartered banks that are generally quite small, and no one thinks they are too big to fail.

Tim Adams, CEO of the IIF, introduced the former Georgetown professor as "one of the most potent intellectual forces globally" in the field of financial supervision. Adams asked whether the upcoming G-20 meeting in Brisbane, Australia, will mark the end of the regulatory agenda that was launched in 2009, and despite the fact that "technical issues" still need to be worked out, victory could be declared on the issue of too big to fail. (Perhaps the former Bush administration official meant to say "Mission Accomplished.") He asked Tarullo that if the regulatory agenda is not concluded, what's left to be done?

Tarullo stopped short of declaring too big to fail ended, but he asserted that important issues, such as capital, liquidity and orderly resolution of the largest institutions in the event of failure, have been agreed upon so that if large banks failed, "they could be recapitalized without capital assistance."

He added that an agenda remains to put in place resolution mechanisms to deal with "cross-border complications" based on work done by the International Swaps and Derivatives Association on "qualified financial contracts." Furthermore, the organizational structures and funding of the banks must be "susceptible to resolution."

Continuing with his answer, Tarullo mentioned the continuing work in coming years of the Financial Stability Board on "shadow banking," lest bank regulations seek to migrate outside the regulated sector. He credited the too big to fail firms with identifying as a source of concern the potential migration of risk to central clearing parties created under the Dodd-Frank Act to increase transparency in the trading of derivatives, trading vehicles whose values depend on the prices of other prices or indexes.

Another buzzword of financial regulators is so-called "macroprudential regulation," which looks at the health of the financial system beyond individual institutions. Adams asked how these tools would be employed in the future.

Tarullo responded that some of the activity that had occurred during the last crisis episode had not come back, and as to those that do return, regulators need to measure the extent of the risk and compare it to what existed before, depending on the structure and funding of the new institutions that take over these activities. Depending on these findings, regulatory action may be required.

(Archived video can be found here.)

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Federal Reserve Governor Daniel Tarullo appeared before the Institute of International Finance (IIF) to discuss the status of "too big to fail" banks as he sought to deny that any U.S. bank holds this coveted status.
Tarullo, Adams, bank, fail
Wednesday, 05 November 2014 07:51 AM
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