Two big ideas to prevent another banking crisis
Last year, Marc Lasry, the owner of the Milwaukee Bucks basketball team, revealed that his star player, Giannis Antetokounmpo, had at one point placed his money in 50 banks, with no account holding over $250,000. For what? Because Antetokounmpo wanted every penny to be insured by the Federal Deposit Insurance Corporation. And $250,000 is the maximum insured deposit.
What Mr Antetokounmpo apparently didn’t realize – but was driven home with the collapse of Silicon Valley Bank last week – is that the days of the deposit insurance cap are over. True, the law says there is a limit, and the government must invoke a “systemic risk exception” to safeguard uninsured deposits. But when a bank is on the verge of failure, the specter of systemic risk still exists.
“Since the S.&L. crisis of the 1980s, everyone is rescued,” said Karen Petrou, co-founder of Federal Financial Analytics, referring to depositors.
Robert Hockett, a financial regulation expert at Cornell University, believes it’s time to make the blanket guarantee explicit. And he’s not alone: In the coming days, Rep. Ro Khanna, a California Democrat, is expected to introduce a bill that proposes to increase or remove the FDIC coverage cap.
Mr. Hockett and others argue that insuring all deposits could improve the banking system. They say it would not introduce moral hazard because putting deposits at risk is not what keeps banks in check. Instead, what is supposed to prevent bankers from acting too recklessly is the knowledge that if their bank fails, shareholders and bondholders will be wiped out, executives will be subject to investigation and in many cases the government will attempt to recover compensation.
Deposit insurance has long been financed by the banks themselves. Since 2005, their contributions have been ‘risk-assessed’, meaning the more risk a bank takes, the higher the premiums it pays. Big banks pay more than small banks. Mr Hockett’s scheme would obviously require larger contributions – and stricter regulations – but he envisions a similar tiered system. He also envisions a return to measures such as stress testing, which Congress eliminated for midsize banks under the Trump administration.
Explicitly insuring all deposits, Hockett says, could prevent a run on a troubled bank because customers would know in advance that their money is safe. It could also help preserve small and medium-sized banks. Although SVB clearly mismanaged its risk, the bank was targeting a sector it understood well: venture capitalists and start-ups. His loan portfolio was not the problem. Other smaller banks also specialize in particular sectors and are willing to provide loans that the big behemoths might not be. This should be encouraged, says Hockett.
Not everyone thinks deposits should be risk-free. Sheila Bair, who was president of the FDIC during the financial crisis, practically groaned when I brought up the idea of insuring all deposits.
“It was big tech companies like Roku whining and crying about their uninsured deposits,” she said. “If a $200 billion bank can bring down the banking system, then we don’t have a stable, resilient system.”
Ms Bair went on to say that she thinks the banking system is “mostly resilient” and that the real problem was that regulators failed to communicate enough to the public that the crisis was limited to a small group of banks.
Still, Hockett’s idea has lawmakers on board. We’ll see if it flies. —Joe Nocera
IN CASE YOU MISSED IT
President Biden is asking Congress for new tools to target failed bank executives. One aspect of the plan would expand the FDIC’s ability to seek the return of compensation from failed bank executives, a power currently limited to the largest banks.
UBS is said to be in talks to acquire Credit Suisse. The Swiss National Bank and Swiss regulator FINMA hosted the talks, according to the Financial Times. Credit Suisse said on Thursday it would borrow up to $54 billion from the Swiss National Bank after its shares fell 24% to a new low.
Goldman Sachs is aiming for a big win. The Wall Street giant tried to help Silicon Valley Bank organize a last-minute capital raise to save it. But he also played another role: Goldman bought $21.4 billion of debt from the failed bank (which the failed lender accounted for at a cost of $1.8 billion), and is expected to earn more than $100 million by selling the bonds.
A Silicon Valley Bank client’s perspective on the collapse is going viral. A number of tweet by Alexander Torrenegra, founder and CEO of a recruitment site and investor on the Colombian version of “Shark Tank”, revealed what it was like to be cut as the bank imploded.
Do we need a new type of bank?
The conversation in Washington about how to regulate banks in the wake of the Silicon Valley Bank collapse is well underway, with disagreements over how to bail out failing lenders and prevent another crisis.
But for Lowell Bryan, former head of banking practice at McKinsey & Company, the answer lies in a debate that took place three decades ago. His proposal: Create a new type of low-risk bank.
The US banking sector should be divided by risk levelsMr. Bryan argued in the 1990s. Deposits with “primary banks” would be government insured, but these lenders would only be allowed to participate in low-risk businesses.
Wholesale banks would draw funding from private investors but would not be protected by the government. If they made fatal missteps, the government would step in to prevent widespread panic, but businesses would go bankrupt and investors would be punished. (Mr Bryan argued that large financial firms could own both types of banks – as long as the depository lender was sufficiently protected from its wholesale counterpart.)
The appeal of this system, Bryan told DealBook in an interview, is that it fundamentally limits risk in the banking industry in a way that complex liquidity requirements and capital metrics don’t. .
“The central issue is that if you’re giving a federal guarantee, you have to put real limits on the ability to raise deposits,” he said.
Consider what happened to banks that recently failed. Silicon Valley Bank has increased its deposit base to $175 billion, while investing that money in a bond portfolio vulnerable to rising interest rates. It has also granted $74 billion in loans to a mainly risky sector, tech start-ups.
Meanwhile, Silicon Valley Bank lobbied for regulatory exemptions that allowed it to pursue potentially lucrative, but dangerous, financial bets.
Mr. Bryan’s idea has already been tested. At McKinsey in the 1980s and 1990s, he was a prominent proponent of the central banking concept, writing books and testifying before Congress on the issue. He assembled an unusual coalition, including Rep. Chuck Schumer, Democrat of New York and now Senate Majority Leader; NationsBank, a predecessor of Bank of America; JP Morgan, before merging with Chase Manhattan; and Goldman Sachs.
Opposite them was a group that included Jay Powell, a Treasury Department official in the George H.W. Bush administration who is now the chairman of the Federal Reserve, and Sandy Weill, the architect of what became Citigroup . They argued that US lenders benefited from relaxed regulations that allowed them to diversify their businesses, and they won. The rewriting of US banking rules allowed for the creation of both huge universal banks and small lenders who could still take risks.
Depositor protection ensures confidence in the global banking system, said Mr. Bryan. But banks cannot be allowed to operate with essentially unlimited protection against the consequences of risk. He argues that what he is asking for is clear and narrow, capable at this point of winning bipartisan support.
“There is no need to rewrite everything,” he said.
“If I deemed outlawed everything I worked on when I was in Congress, I guess I’d be a monk.”
— Barney Frank, former liberal congressman and architect of the landmark Dodd-Frank law to reform financial regulation, defending his decision to sit on the board of directors of Signature Bank. Regulators shut down the New York-based lender last weekend after many depositors withdrew their money following the collapse of Silicon Valley Bank.
On our radar: “The era of easy money”
There’s a brief explanation for what caused Silicon Valley Bank’s collapse: When Moody’s informed the bank’s chief executive this month that its bonds were at risk of being downgraded to junk, a failed attempt to raise funds caused panic and a run on deposits. But “Age of Easy Money,” a PBS documentary released this week, details a much longer response that begins with the 2008 financial crisis. “Frontline” correspondent James Jacoby details how the Fed’s bailout interventions after the crisis, and later during the pandemic, fueled the longest bull market in history – and the underlying conditions for SVB’s failure.
Sarah Kesler contributed report.
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