In the longer scholarly article from 2011, Herring and Calomiris report [to be read here] this stunning piece of information:With which, we are well pleased.Especially that line about Phil Gramm that we bolded in the above.
In response to the mandate within the Gramm-Leach-Bliley Act of 1999 that required the Federal Reserve and the Treasury to study the efficacy of a sub debt requirement, a Federal Reserve Board study reviewing and extending the empirical literature broadly concluded that sub debt could play a useful role as a signal of risk. Despite that conclusion, no action was taken to require a sub debt component in capital requirements; instead the Fed concluded that more research was needed.So the law that provided the flexibility Bernanke needed to deal with the 2008 banking crisis, also suggested a policy reform that might have prevented the crisis entirely. Maybe Phil Gramm deserves a Nobel Prize in economics.
Apparently that "more research" that was needed has now been concluded, as the Fed is finally adopting the idea:For immediate release
The Federal Reserve Board on Friday proposed a new rule that would strengthen the ability of the largest domestic and foreign banks operating in the United States to be resolved without extraordinary government support or taxpayer assistance.The proposed rule would apply to domestic firms identified by the Board as global systemically important banks (GSIBs) and to the U.S. operations of foreign GSIBs. These institutions would be required to meet a new long-term debt requirement and a new "total loss-absorbing capacity," or TLAC, requirement. The requirements will bolster financial stability by improving the ability of banks covered by the rule to withstand financial stress and failure without imposing losses on taxpayers.To reduce the systemic impact of the failure of a GSIB, an orderly resolution process should allow a GSIB to fail, and its investors to suffer losses, while the critical operations of the firm continue to function. Requiring GSIBs to hold sufficient amounts of long-term debt, which can be converted to equity during resolution, would facilitate this by providing a source of private capital to support the firms' critical operations during resolution.
Yes, this is a bit like closing the barn door after the horses have left, but it's still gratifying to see that after all the time wasted on 1000 page monstrosities like Dodd-Frank, we are finally getting somewhere.
Thursday, November 12, 2015
The Sumner Also Rises (to the task)
We again interrupt our blogging hiatus, to acknowledge some fine work by Bentley University economist Scott Sumner (who is also the Ralph G. Hawtrey Chair of Monetary Policy at the Mercatus Center of George Mason University). This EconLog blog post by Scott is the only recognition of which we are aware (other than our own), of the potentially momentous change in banking regulation under consideration by the Fed. And we thank Scott for graciously crediting us for alerting him to it.
Sunday, November 1, 2015
Team CoCo wins one
We interrupt our blogging hiatus for this news;
The Federal Reserve Board on Friday proposed a new rule that would strengthen the ability of the largest domestic and foreign banks operating in the United States to be resolved without extraordinary government support or taxpayer assistance.
The proposed rule would apply to domestic firms identified by the Board as global systemically important banks (GSIBs) and to the U.S. operations of foreign GSIBs. These institutions would be required to meet a new long-term debt requirement and a new "total loss-absorbing capacity," or TLAC, requirement. The requirements will bolster financial stability by improving the ability of banks covered by the rule to withstand financial stress and failure without imposing losses on taxpayers.
To reduce the systemic impact of the failure of a GSIB, an orderly resolution process should allow a GSIB to fail, and its investors to suffer losses, while the critical operations of the firm continue to function. Requiring GSIBs to hold sufficient amounts of long-term debt, which can be converted to equity during resolution, would facilitate this by providing a source of private capital to support the firms' critical operations during resolution.Our bold in the above. Long time readers of this blog will immediately recognize our enthusiasm for the idea of using contingent convertible debentures to provide managers of banks with a powerful market incentive to not take too much risk in the first place. We could point to numerous posts, such as this one from almost a year ago;
That's right, the 1999 legislative handiwork--which, btw, did not 'repeal Glass-Steagall'--of former Texas A&M economist Phil Gramm is finally being implemented 16 years after it was authorized. Unfortunately, seven years too late to have prevented the financial crisis of 2008.HSIB has noted the enthusiasm for this form of bank self-regulation on the part of Columbia economist Charles Calomiris;
...the Columbia economist offers a suggestion to improve the banking system;Calomiris has said, in speeches, that the Federal Reserve has had the legal authority to do this since the 1999 Gramm, Leach, Bliley Act, but chose not to implement that reform. Now would be a good time to listen to Charlie.
I would establish a minimum uninsured debt requirement for large banks in the form of subordinated debt, known as contingent capital certificates, or "CoCos." The CoCos would automatically convert to equity based on predetermined market triggers, which would be very dilutive to pre-existing shareholders. One banker who understood my proposal for CoCo's said, "You are putting an electric fence behind me."The potential for dilution of stockholder equity being the key incentive for management to work to prevent that from happening.
Subscribe to:
Posts (Atom)