CFPB Director Supports FDIC Policy Proposal on Bank Merger Review

Posted on April 8, 2024 by Steven Lofchie

Commentary by Steven Lofchie

CFPB Director Rohit Chopra argued that the FDIC’s proposed policy on bank merger review aims to restore “a comprehensive assessment of the impact on local residents and small businesses.”

In remarks before the National Community Reinvestment Coalition, Mr. Chopra stated that the Bank Merger Act of 1960 required banking regulators to consider three primary factors in the evaluation of bank mergers: the competitive effects of the merger, the financial and managerial resources and future prospects of the company and the convenience and needs of the community to be served. He said that the Supreme Court later emphasized that mergers should be evaluated based on their overall effect on the public interest.

Mr. Chopra argued that, over the years, the rigorous review process intended by the Act diminished, as regulatory agencies began relying heavily on the Community Reinvestment Act (“CRA”) rating as a proxy for assessing the merger’s impact on community convenience and needs. He said this approach was problematic because CRA ratings are backward-looking, evaluating how well banks have met community needs in the past, and may not accurately reflect how a merger would address the broader community’s future needs. According to Mr. Chopra, this shift away from a focus on the public interest created a gap, prompting community groups to negotiate directly with banks, despite lacking the authority to enforce agreements effectively.

Mr. Chopra argued that the FDIC’s proposed policy on bank merger review aims to “address [past] weaknesses and shift back to the original intent of the law by restoring a comprehensive assessment of the impact on local residents and small businesses.” (See related coverage.)

Key features of the proposed policy include:

Community Benefit: The policy mandates that bank mergers factor in the impact on the communities that the merger will affect. The burden of proof is on the applicant to provide actual evidence and if there is no clear benefit, the application can be denied.

Regulatory Accountability: If banks make certain representations or commitments in the application to demonstrate how the community will be better off, including by submitting a Community Benefits Agreement, these requirements may be considered formal conditions for approval.

Consideration of Branch Closures: The policy requires the agency to consider branch closures in the “convenience and needs” review, recognizing the importance of physical bank branches, especially for lower-income, older and rural households. Mr. Chopra argued that, over the past 15 years, regulators have too often ignored branch closures in the context of merger review citing data showing that since 2009, branches have decreased by 15% nationally, a trend driven by megamergers and large bank branch closures.

Compliance with Consumer Protection and Fair Dealing Laws: The policy considers the merging banks’ track record of compliance with laws designed to protect consumers and promote fair dealing. Mr. Chopra said that banks with histories of legal violations may face scrutiny, as mergers can amplify the potential for harm to consumers and businesses.

Commentary by Steven Lofchie

The legislative language authorizing the CFPB (Section 1101 of Dodd Frank) provides as follows:

There is established in the Federal Reserve System, an independent bureau to be known as the ‘Bureau of Consumer Financial Protection’, which shall regulate the offering and provision of consumer financial products or services under the Federal consumer financial laws.

It is not the job of the CFPB to regulate bank mergers. There is no doubt that many of the senior regulators in the government, including Mr. Chopra, are very intelligent, highly educated and have well informed views on subjects that extend outside of their realm of jurisdiction. Even so, when speaking to the public in their regulatory capacity, they really should stick to their day jobs. It is not the job of each regulator to remake the world. Perhaps bank mergers are closer to the CFPB’s day job, than climate change is to the job of the Federal Reserve Board, but they are both stretches.

FRB Governor Bowman Warns of Misplaced Regulatory Priorities

Posted on April 2, 2024 by Steven Lofchie

Commentary by Steven Lofchie

Federal Reserve Board Governor Michelle W. Bowman questioned whether “the volume of [banking regulatory] reforms that have been proposed, recently finalized, or that are in the pipeline … [reflects a loss of focus] on furthering the primary goal of prudential bank regulation and supervision.”

In a “Workshop on the Future of Banking,” hosted by the Federal Reserve Bank of Kansas City, Governor Bowman observed that regulatory responses to the failures of Silicon Valley Bank and Signature Bank “have little relationship to the events surrounding the bank failures and ensuing banking system stress.” She highlighted two concerns: the stagnation of de novo bank formations and the restrictive approaches to bank mergers and acquisitions.

De Novo Bank Formation. Governor Bowman raised concerns over the decline in the number of U.S. banks and the stagnation in de novo formations over the past decade, in light of indications of unmet demand for banking services. She argued that the regulatory and supervisory framework, particularly the lengthy and uncertain application process for new charters and deposit insurance, poses significant obstacles to de novo bank formation. She said that current regulations contribute to delays, increase start-up costs and pose challenges for securing investment. She warned that regulatory expectations can be unclear and that the long-term absence of new bank formation risks (i) reducing the availability of credit, (ii) limiting financial services in underserved areas and (iii) pushing banking activities outside the regulated framework.

Bank Mergers and Acquisitions. Governor Bowman raised concerns about the evolving approach to bank mergers and acquisitions which increases the potential for adverse impacts on the banking system. She said that proposed reforms could introduce delays, create uncertainty and impose new standards that may deter both de novo bank formation and healthy M&A activities. Further, she argued that the regulatory process itself is concerning, noting the prolonged regulatory timelines, the potential requirement to disclose concerns publicly for withdrawn applications and the possibility of regulatory demands not based on statutory requirements. She said that these factors (i) complicate succession planning, (ii) risk creating uncompetitive “zombie banks” and (iii) restrict the strategic options for growth and exit. She said that these factors threaten the dynamism and health of the banking sector.

Commentary by Steven Lofchie

Governor Bowman has been a consistent critic of what she believes are the failures of banking regulators to support new rules with a proper analysis of costs and of their failure to focus on those issues that should be matters of their primary focus (i.e. prudential bank regulation and supervision, rather than e.g. climate change.)

Bair and Goodhart: Bank failures are looming. Let’s make sure executives have skin in the game

Posted on February 22, 2024 by Lawrence Goodman

Sheila Bair and Charles Goodhart penned an opinion piece in The Washington Post – “Bank failures are looming. Let’s make sure executives have skin in the game.” Key themes are:

Serious challenges remain for the U.S. banking system.
Lessons from three high-profile regional bank failures have been forgotten.
Accountability for executives of failed banks should increase. Passage of the Recoup Act would help.

The Washington Post piece is at
https://www.washingtonpost.com/opinions/2024/02/20/sheila-bair-pass-banking-reform-accounability/

For more on lessons from regional bank failures, please find papers where Sheila (Chair) and Charles contributed in their role as CFS Advisory Board members.

“Supervision and Regulation after Silicon Valley Bank”
www.CenterforFinancialStability.org/research/CFSRegPaper101623.pdf
“The Role of Monetary and Fiscal Policies in Recent Bank Failures”
www.CenterforFinancialStability.org/research/CFSMonPaper101623.pdf

The Experience of Free Banking

Posted on December 16, 2023 by Kurt Schuler

Much of what economists tell each other and the public about the nature and necessity of central banking lacks historical grounding. The Experience of Free Banking, just issued in a free, enlarged second edition by the Institute of Economic Affairs in London, discusses the extensive historical experience of monetary systems with competitive provision of currency. Such systems spanned more than 60 countries and hundreds of years up until the mid 20th century. Most were stable and showed no inherent tendency toward or need for establishing a central bank.

The first edition of the book was issued in 1992 by an academic publisher, and was priced accordingly. This expanded edition, in which I have three chapters, will be available in hard copy for those who prefer physical books, and is free in PDF here.

No free banking systems exist today, but the experience of free banking is relevant to today’s debates about privately provided cryptocurrencies, central bank digital currencies, and financial regulation. It presents a challenge both to economic theory and to the way economists and historians have continued to write financial history. They have generally ignored rather than addressed the ideas and facts that research in free banking has raised over the last generation. A notable exception is CFS Advisory Board member Charles Goodhart, whose 1988 book The Evolution of Central Banks remains the most serious and comprehensive answer on the pro-central banking side.

Readers who find want to know more about free banking can start with the bibliography by Elizabeth Qiao, here. The introduction contains a short list of suggested readings. At the time she compiled the bibliography, Qiao was a student of CFS Special Counselor Steve Hanke.

US regulators are setting a dangerous precedent on Silicon Valley Bank

Posted on March 16, 2023 by Lawrence Goodman

Former FDIC Chair and CFS senior fellow Sheila Bair penned “US regulators are setting a dangerous precedent on Silicon Valley Bank” in the Financial Times (FT). The piece covers:

– Systemic risk determination,
– Use of FDIC insurance,
– Fed policy.

To view the piece:
https://www.ft.com/content/b860ebb6-f202-4ec6-a80c-8b1527c949f4

U.S. Government Announces Uninsured SVB/Signature Depositors to Be Made Whole

Posted on March 12, 2023 by Steven Lofchie

In a joint statement, the U.S. Treasury, the FDIC and the Federal Reserve Board announced that all depositors, both insured and uninsured, of Silicon Valley Bank and Signature Bank, would be made whole for their deposits. Each bank had been closed this past Friday, SVB by the FDIC and Signature Bank by the New York State banking authorities.

The regulators described the protection of the depositors as not requiring funding from taxpayers as the funding would come from a special assessment on banks that will be paid into the Deposit Insurance Fund.

The regulators had previously said that shareholders and other unsecured creditors of the bank would not be protected (and thus could be wiped out) and that management of the two banks had been removed.

President Joseph R. Biden issued a statement to assure depositors and call on Congress and the banking regulators to “strengthen the rules for banks to make it less likely that this kind of bank failure will happen again.” Numerous other statements have been issued (see primary sources below).

LOFCHIE COMMENTARY

First, the statement that none of the bailout will be borne by taxpayers is somewhat misleading. The bailout is not being financed by other banks buying a business that had positive going forward value. Rather, it is being financed by government-imposed regulatory fees that must be passed through and eaten by shareholders or paid by customers in higher fees or lower interest rates on deposits.

Second, the statement raises many questions. Are all bank deposits from now on implicitly insured? Where will the no-bailout line be drawn in the future? What is the justification? That is not to say that the bailout was not reasonable under the circumstances. Had there not been one, we almost certainly would have seen additional runs on other banks and financial institutions. Depositors were very much poised to move their money from small banks to larger ones. But it will be interesting to see whether depositors begin assessing bank risk more closely going forward, just as institutional investors began to assess broker-dealer risk more carefully after 2008.

Third, the best explanation of the 2008 financial crisis was a 1986 book by Hyman Minsky called “Stabilizing an Unstable Economy.” (See The Future of Financial Regulation.) Minsky argued that periods of financial calm create a lack of focus on real risks, which in turn leads to speculation and thus to instability. The book came briefly into vogue during the 2008 financial crisis, in a period referred to as the “Minsky Moment.”

One could reasonably argue that that the last few years have seen rampant speculation, but by the regulators, not market participants. Rather than focus on the ordinary risks inherent to our economy – money supply, inflation, price volatility – the financial regulators have become distracted by speculative risks that are of high political import, such as climate change, an issue as to which they have neither sufficient knowledge nor actionable data, nor any meaningful ability to influence events.

The FSOC’s 2022 Annual Report (see related coverage) makes 16 references to inflation (many of them about global inflation and very little about the impact of inflation and the attempts to control it on bank risk). By contrast, there are 112 references to climate (not historically regarded as a threat to financial stability). The FSOC 2021 Annual Report managed 41 references to inflation versus 86 references to climate, a lack of attention to actual risk in 2021 that only became more pronounced in 2022. (It also is notable that SVB was particularly focused on ESG lending, not limited to climate.) So while the regulators may have been right that climate risk is a material risk to the financial system, they were likely wrong about the reasons. The risk was that climate change distracted the financial regulators from the relative boring work of financial regulation.

Financial regulators need to devote their attention to the ordinary and mundane matters of financial risk. Attending to mundane matters does not mean adopting a slew of new and burdensome regulations, imposing new weights on the markets to compensate for past regulatory distractions. When the next FSOC Annual Report is published, there should be more references to ordinary risks such as inflation, interest rates, maturity mismatches and failures to diversify risk, than there are to references to climate.

Primary Sources

Robinhood and GameStop: Essential issues and next steps for regulators and investors

Posted on February 4, 2021 by Lawrence Goodman

The hullabaloo surrounding the run up in the price of GameStop (GME) and the activities of Robinhood have generated front page news, calls for action, and allegations of wrongdoing.

However, lost in the headlines and struggles between good and bad or big and little is the issue of greatest concern to all – financial stability.

A group of Center for Financial Stability (CFS) experts
1) examine essential issues as well as
2) propose next steps.

As these are complex and multipronged challenges, we look forward to any comments you might have.

To view the full article:
www.CenterforFinancialStability.org/research/GME_Robinhood_020421.pdf

ECB presentation by Philipp Hartmann

Posted on July 23, 2019 by Lawrence Goodman

The Center for Financial Stability (CFS) recently hosted a roundtable discussion on European Central Bank (ECB) monetary policy with Philipp Hartmann. Philipp is Deputy Director General for research at the ECB and one of the founders of its research department.

Philipp’s presentation – covered the first 20 years of ECB policy, the relatively wide range of monetary instruments, defining new ones, and the strategic underpinning of its policy framework – available at http://www.CenterforFinancialStability.org/research/20190717_ECB_Monetary_Policy_Hartmann.pdf

Senate Committee on Banking Considers Bills on Capital Formation and Corporate Governance

Posted on March 4, 2019 by Steven Lofchie

The U.S. Senate Committee on Banking, Housing and Urban Affairs (the “Senate Banking Committee”) considered legislative proposals on capital formation and corporate governance.

Chair Senator Mike Crapo (R-IA) stated that the Banking Committee has held three hearings in 2018 on legislative proposals – (i) the Helping Angels Lead Our Startups Act, (ii) the Fair Investment Opportunities for Professional Experts Act and (iii) the JOBS and Investors Confidence Act of 2018 – with respect to capital formation, corporate governance and the proxy process. Mr. Crapo said the purpose of the hearing is to address these bills again “in the context of identifying areas where we can find bipartisan consensus in the new Congress.” Mr. Crapo described the importance of unified legislative action, and added that it is “time to re-examine the standards of inclusion” for proposals that pursue environmental, social or political agendas.

In a separate statement, Senator Sherrod Brown (D-OH) touched on the importance of putting workers before Wall Street when considering these bills. He criticized the notion that it was a necessity for bills that facilitate capital formation, stating that time is better spent making sure that workers at companies such as Uber are receiving the wages and benefits they have earned, rather than “letting companies cut corners on their accounting controls.” Mr. Brown emphasized the importance of protecting ordinary American investors, noting that support for American companies should put employees first.

Lofchie Comment: It is disappointing that Senator Brown thinks it productive to attack the supposed “shortsighted obsession” of Wall Street. If he believes that the private sector is particularly cursed by an inability to think into the future, he should suggest a cure, rather than merely rehearse a cliché. Or is he suggesting that everything would be better if only elected officials made decisions as to capital allocation? That seems unlikely on its face, but if he believes it to be so, he should try to make the case for it. To what government – federal, state, or city – would he point as a model of long range investment planning?

New York Fed Officer Urges Firms to Prepare for LIBOR Transition

Posted on February 28, 2019 by Steven Lofchie

Executive Vice President and General Counsel of the Federal Reserve Bank of New York (“New York Fed”) Michael Held urged firms to prepare for the transition from LIBOR to an alternate interest rate. He cautioned that the transition from LIBOR has been identified by the Financial Stability Oversight Council as a financial stability risk. Mr. Held stated that “[t]he gross notional value of all financial products tied to U.S. dollar LIBOR is approximately $200 trillion – about 10 times U.S. GDP.” He further reported that approximately 95 percent of LIBOR exposure is in derivatives contracts.

In remarks at the SIFMA Compliance and Legal Society luncheon, Mr. Held stated that market participants with LIBOR exposure must undertake two tasks: (i) begin using the Secured Overnight Financing Rate (“SOFR”) or another robust alternative to LIBOR (or make sure that new contracts have workable fallback language) and (ii) deal with the “trillions of dollars of existing contracts that extend past 2021” which don’t currently have a sufficient fallback. According to Mr. Held, understanding the scope of an institution’s exposure to LIBOR-based products, and the contractual impact on those products when LIBOR is no longer available, is an important risk management assessment that should be completed as soon as possible.