Tag Archives: banking

Leverage and Liquidity Are the Keys to a Strong Banking System

Mother Jones

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I’m a big fan of higher capital ratios (i.e., lower leverage) as a way of making the banking system safer, so I was disturbed when Tyler Cowen pointed to a new paper suggesting that high capital ratios don’t reduce the likelihood of financial crises. Instead, a team of researchers suggests that what’s more important is the type of capital. Deposits are the most stable source of funding for any bank, and liquidity is king. Put these together, and what’s important is the loan-to-deposit ratio:

As you can see, the LtD ratio rose steadily in the postwar era, doubling from 50 percent to over 100 percent by 2008. This indicates that credit was expanding, with banks making more loans for every dollar in deposits they took in. This, the authors say, is a better predictor of financial crises than raw leverage:

In this triptych, capital ratios are in the middle, and they don’t change much before and after a financial crisis (denoted by Year 0). However, right before a financial crisis there’s a steady decline in deposits as a percentage of total assets (which indicates a decline in the quality an;d stability of a bank’s capital base) and a steady rise in the loan-to-deposit ratio. These are the indicators that seem to be associated with financial crises.

So is there any point to higher capital standards? Yes indeed: they may not prevent financial crises, but they make recovery from a financial crisis much quicker. Just compare the green line and the red line in the charts below:

Both of these charts show the same thing: in countries with higher capital ratios, recovery from a financial crisis was far faster. Five years out, the difference was a full 13 percentage points of GDP per capita.

If these researchers are right—and I’ll add the usual caveats about this being only one study etc.—then the key to a strong, resilient banking system is twofold: a low loan-to-deposit ratio produces a liquid capital base that helps avoid financial crises, while a low leverage ratio produces the necessary capital to recover quickly if a financial crisis hits anyway.

Leverage and liquidity are key. In one sense, this is nothing new, since anyone could have told you that. But this paper suggests that they’re important for slightly different reasons than we thought.

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Leverage and Liquidity Are the Keys to a Strong Banking System

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Trump’s First Move as President: Screwing Over Homeowners

Mother Jones

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Earlier this month, then-President Barack Obama issued an executive action requiring the Federal Housing Administration to decrease insurance premiums on FHA mortgages, a change that could have potentially saved low-income homeowners as much as $900 per year. In his first administrative order as president, President Donald Trump suspended this Obama order, which was slated to go into effect on January 27. In practice, this means that low-income homeowners will be stuck paying higher insurance premiums on their FHA-insured mortgages.

FHA loans enable homebuyers—often those with lower incomes and who have fewer assets or bad credit—to bypass conventional lenders who would likely deny them loans by taking out a mortgage that’s insured by the federal government. The borrowers have to pay FHA mortgage insurance, to protect the mortgage lender from a loss should the borrower default on their home loan. In his announcement of the change, Obama said the drop in premiums would help stabilize the housing market and spur growth in housing markets still recovering from the financial crisis.

At his confirmation hearing last week, Ben Carson, Trump’s nominee to lead the Department of Housing and Urban Development, which oversees the FHA, said he was concerned about the Obama administration’s last-minute implementation of this insurance premium drop and would reexamine it. “I, too, was surprised to see something of this nature done on the way out the door,” Carson told members of the Senate Banking, Housing, and Urban Affairs committee. “Certainly, if confirmed, I’m going to work with the FHA administrator and other financial experts to really examine that policy.”

Presidential executive orders require no congressional approval to pass or overturn. Trump has vowed to eliminate all of Obama’s executive actions during his first days in office. This may be his first step toward fulfilling that promise.

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Trump’s First Move as President: Screwing Over Homeowners

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ERP Blogstorm Part 3: Banking

Mother Jones

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Part three of our series of charts from the Economic Report of the President is all about banking. Mostly, it’s a trip down memory lane. Here’s a look at the worldwide market in derivatives over the past couple of decades:

The volume of derivatives went from $10 trillion to $35 trillion in two years starting right before the market crashed. Here’s another perspective on that:

In 1990, shadow banking was about the same size as the traditional banking sector. By 2007 it was more than twice as big. Just before the crash, shadow banking comprised two-thirds of the entire banking industry and it was almost entirely unregulated. This is why I was happy that Hillary Clinton at least mentioned shadow banking during the campaign.

Here’s how all this affected tradition banks:

In 2007, losses from trading amounted to about $30 billion. By 2009 that had skyrocketed to about $100 billion—and that’s in addition to about $40 billion in traditional loan losses. This is what happens when you start with a housing market that’s already in bubble territory and then egg it on with insane levels of rocket science derivatives, most of them unregulated bastard offspring of the shadow banking sector.

So what’s happened since then? We had a huge crash, the Fed instituted higher capital ratios for “systemically important financial institutions,” and we passed the Dodd-Frank reforms. Here’s what banks look like now:

Before the Great Recession, the biggest banks (green line) had Tier 1 equity ratios of about 7 percent. That’s why they couldn’t weather the crash. Today they’re above 12 percent. Is that enough? Maybe not. But it’s a helluva lot better than it used to be.

Finally, here’s an intriguing chart that shows one of the specific consequences of Dodd-Frank:

Most single-name derivatives are now cleared through a central clearinghouse, which makes it easy for traders to cancel out mirror-image positions they hold. This is called “compression,” and it reduces the total volume of derivatives and increases the safety of the financial system. Today, derivatives worth $200 trillion (notional) are compressed out of existence each year.

Needless to say, Republicans are hellbent on repealing Dodd-Frank. Sure, it makes the banking system safer and helps protect consumers, but big banks don’t like it, so that’s that. The party of Donald Trump, the working man’s president, will do whatever Wall Street tells them to do. Funny how that works, isn’t it?

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ERP Blogstorm Part 3: Banking

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Elizabeth Warren Just Eviscerated the Wells Fargo CEO

Mother Jones

The Senate Banking Committee conducted a hearing Tuesday about the massive scandal currently engulfing Wells Fargo. The word “fraud” was used repeatedly by senators on both sides of the aisle when describing the bank’s creation of millions of unauthorized bank and credit card accounts for existing customers.

Fallout from the account scandal continues to pile up. The bank is also facing an investigation by the House Financial Services Committee, subpoenas from the Department of Justice, and at least one potential class action lawsuit.

First up at Tuesday’s Senate hearing was Wells Fargo CEO John Stumpf, who was grilled by the committee for almost three hours.

Massachusetts Sen. Elizabeth Warren—a long-time advocate for more stringent regulation of Wall Street—tore into Stumpf, describing the unauthorized accounts as a “massive, years-long scam.” She asked Stumpf what he has done to take responsibility for his bank’s actions. “You have said repeatedly ‘I am accountable,'” she said. “But what have you done to actually hold yourself accountable? Have you resigned?”

Stumpf avoided answering the question directly, prompting Warren to repeat her question, her voice rising, at least three times.

Warren proceeded to pummel Stumpf with more questions. “Have you returned one nickel of the money you earned while this scam was going on?” she asked. Stumpf evaded the question several times. (Stumpf said earlier in the hearing that he earned $19.3 million last year.) Finally, an exasperated Warren said, “I’ll take that as a ‘no.'”

She then asked if he’d fired any members of his senior management. Stumpf initially began by describing the firing of regional branch managers, but Warren stopped him, emphasizing that her question was not about low-level leadership but about the people at the top. Again, Stumpf’s answer was no.

When Warren asked Stumpf if he knew how much the value of his bank’s stock had gone up over the time that the unauthorized accounts were created and maintained, Stumpf replied the information was in the public record. “You’re right, it is all in the public records,” Warren said, “because I looked it up.” She continued: “While this scam was going on, you personally held an average of 6.75 million shares of Wells stock.” The share price went up by about $30 in that time frame, Warren pointed out, “which comes out to more than $200 million in gains, all for you personally.”

Warren ended her speech by calling on Stumpf to resign and for both the Department of Justice and Securities and Exchange Commission to investigate the CEO. Here’s an excerpt of her speech:

You know, here’s what really gets me about this Mr. Stumpf. If one of your tellers took a handful of $20 bills out of the cash drawer, they’d probably be looking at criminal charges for theft. They could end up in prison. But you squeezed your employees to the breaking point so they would cheat customers and you could drive up the value of your stock and put hundreds of millions of dollars in your own pocket. And when it all blew up, you kept your job, you kept your multimillion dollar bonuses, and you went on television to blame thousands of $12-an-hour employees who were just trying to meet cross-sell quotas that made you rich. This is about accountability. You should resign. You should give back the money that you took while this scam was going on, and you should be criminally investigated.

You can watch Warren’s full questioning above.

This post has been revised.

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Elizabeth Warren Just Eviscerated the Wells Fargo CEO

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Elizabeth Warren Launches New Battle Against the Fed

Mother Jones

While speaking before the Senate’s Banking Committee on Tuesday, Sen. Elizabeth Warren (D-Mass.) hit Fed Chair Janet Yellen with a string of harsh questions over the performance of Scott Alvarez, the Fed’s general counsel, who is at the helm of an investigation of a Fed leak from September 2012.

Warren has expressed frustrations over the investigation’s lack of public information.

“Wall Street banks could profit handsomely if they knew about the Fed’s plans before the rest of the market found out, and that’s why any leak of confidential information from the Fed results in serious penalties for the people who are responsible,” Warren said on Tuesday. “But apparently there have been no consequences for the most recent leak.”

The Massachusetts senator specifically pointed to Alvarez’s Wall Street-friendly reputation, mainly referring to his past criticisms of Dodd-Frank, when she asked Yellen whether the Fed’s views aligned with those of its top lawyer.

Pressed for a strict yes or no response, Yellen eventually said she is “not seeking to alter Dodd-Frank in any way at this time.”

“Do you think that it is appropriate that Mr. Alvarez took public positions that do not evidently reflect the public position of the Fed’s board, especially before an audience that has a direct financial interest in how the Fed enforces its rules?” Warren responded.

Yellen appeared slightly irritated:

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Elizabeth Warren Launches New Battle Against the Fed

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The Case Against Postal Banking

Mother Jones

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Dean Baker thinks the Washington Post is wrong to imply that the postal service hasn’t been aggressive about improving its productivity. Agreed. Then this:

The other point is that the Postal Service could improve its finances by expanding rather than contracting. Specifically, it can return to providing basic banking services, as it did in the past and many other postal systems still do. This course has been suggested by the Postal Service’s Inspector General.

This route takes advantage of the fact that the Postal Service has buildings in nearly every neighborhood in the country. These offices can be used to provide basic services to a large unbanked population that often can’t afford fees associated with low balance accounts. As a result they often end up paying exorbitant fees to check cashing services, pay day lenders and other non-bank providers of financial services.

Color me skeptical. I know this sounds like a terrific, populist idea, but I can think of several reasons to be very cautious about expansive claims that the USPS is uniquely situated to provide basic banking services. Here are a few:

What’s the core competency that would allow USPS to excel at banking? The Inspector General says that “the first and possibly most important factor is the sheer ubiquity of the Postal Service.” In other words, they have lots of locations: 35,000 to be exact. But who cares? Physical real estate is the least compelling reason imaginable to think an organization would be great at basic banking. After all, you know who else has lots of branches? Banks. Even after years of downsizing, there are nearly 100,000 branch banks in the United States.
What else? The Inspector General suggests “trust and familiarity with the postal ‘brand.'” Meh. Americans trust McDonald’s too. That doesn’t mean they’d flock to do their banking there. This kind of thing reminds me of hundreds of really bad marketing presentations I’ve attended in my lifetime.
When you say “postal banking,” most people think about small mom-and-pop savings accounts. But that’s not really what the postal service has in mind. The IG report focuses more on (1) payment mechanisms (i.e., electronic money orders), (2) products to encourage savings, and (3) reloadable prepaid cards. The first is fine, but not really “postal banking.” The second is problematic since even the IG concedes that the reason poor people tend not to save is “largely due to a lack of disposable income among the underserved.” That’s quite an understatement, and it’s not clear what unique incentives the postal service can offer to encourage savings among people who have no money to save. That leaves prepaid cards—and maybe a good, basic prepaid card sponsored by the federal government is a worthwhile idea. But that’s really all we have here.
Finally, there’s the prospect of providing very small loans. But as much as we all loathe payday lenders, there’s a reason they charge such high rates: they also have high rates of default. The postal service can charge less only by (a) losing money or (b) providing loans only to relatively good customers. If you read the IG report, they basically recommend the latter. It’s not clear to me that this is truly an underserved niche.
Yes, other countries have postal banking services. But these were mostly established long ago, before commercial banking became ubiquitous. It may have been a good idea half a century ago, but that doesn’t mean it’s a good idea now.

If the government wants to provide basic banking services for the poor, it’s not clear to me why USPS should do it. They have literally no special competence at this, and the motivation behind it is to provide a revenue stream that offsets losses from mail services. That’s just dumb. Why on earth should public banking services subsidize public mail services? They have nothing to do with each other.

If we really want some kind of government-sponsored basic banking service, we should simply create one and partner with commercial banks to offer it. If this is truly profitable, banks will bid to host these accounts. If it’s not, the subsidies will show up directly in the annual budget accounts. That’s the way it should be.

I’m not yet convinced that this is a good idea to begin with, but I could be persuaded. However, if it is a good idea, there’s honestly no reason to get the postal service involved in this. We already have a Treasury Department, and we already have a commercial banking industry. They truly do have core competencies in offering financial services. Why not use them instead?

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The Case Against Postal Banking

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The Financial Industry Doesn’t Want You To Know About Its Lack of Diversity

Mother Jones

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It’s not unusual for the banking industry to challenge a new government rule. Ever since Congress passed the Dodd-Frank Act in 2010, the banks have sent forth their army of lobbyists any time federal regulators try to enforce a new restriction, often resorting to the courts if they don’t get their way. But their latest objection is particularly galling: they don’t want the government or public to know about the diversity—or lack thereof—within their industry.

When Congress went about reforming the banking industry in 2010, Democrats made a specific point to encourage the financial industry to diversify its workforce. It has long needed a fix. The financial trade is controlled by old, rich white dudes, a cohort that doesn’t accurately reflect the country’s shifting demographics. The problem only gets worse when you look higher up the chain of command. Overall management in the financial services industry is 81 percent white as of 2011. African-Americans only account for 2.7 percent of senior-level staff in the financial industry, while women hold just 28.4 percent of upper management jobs.

Dodd-Frank, the Democrats’ bill to reform Wall Street following the crash, included a provision that creates Offices of Minority and Women Inclusion in each branch of the federal regulatory regime, such as the Department of Treasury and the Securities and Exchange Commission. (The provision doesn’t touch sexual orientation.) These new offices are tasked with boosting diversity within their own ranks and analyzing hiring practices of the businesses in their purview. Late last year, regulators from six of these offices wrote a rule, still in the proposal stage, to enforce the second half of that mandate. It’s a modest measure—a simple request that the banks conduct self-assessments based on a few best-practice guidelines, but it was enough to rile up the banks.

Complaint letters sent from the main lobbying arms of the financial industry to regulators show a concerted effort to avoid changing their hiring practices and to dissuade regulators from revealing the lack of diversity in the banking sector. “In an otherwise good-faith effort to utilize the joint standards and meet certain standards or metrics relating to ‘diversity,’” the Chamber of Commerce wrote in its letter, “regulated entities may inadvertently run afoul of federal workplace requirements by, for example, engaging in ‘reverse’ discrimination.” Smaller regional banks shared those concerns. The Missouri Bankers Association likened the agencies’ proposal to a “government mandated affirmative action program.”

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The Financial Industry Doesn’t Want You To Know About Its Lack of Diversity

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