February 2017Policy

Can Bush's bailout chief persuade Trump to end "Too Big to Fail?"

Ending "too big to fail" banks, and the practical necessity of taxpayers bailing them out in future financial crises, was a significant focus of Bernie Sanders' campaign last year.  Probably not by accident, the Republican Party platform in 2016 echoed Bernie by calling for reinstatement of the Glass-Steagall Act's prohibition on banks combining regular deposit banking -- the kind most people in the US rely on for checking accounts -- with the far riskier business of investment banking.  Like Bernie, many prominent Republicans at least claim to oppose banks being so big and important to the economy that taxpayers will again have to rescue them in case of emergency.

But now that Republicans control Congress and the White House, will they truly take effective action to end too-big-to-fail banks?  Or will they allow the government and the financial industry to kick the can down the road until the nation and the world face another big crisis like that of 2008, and the biggest banks need bailing out again?

The question is triggering a certain amount of interest in the business and financial media, especially now that George W. Bush's former chief of the 2008 bank bailout effort -- Neel Kashkari, who headed up the controversial Troubled Asset Relief Program (or TARP) -- has unveiled a detailed plan to force the largest banks to carry so much capital on their books, relative to their lending activity, that they will be much better insulated against failure in any future financial crisis.

Kashkari, a Republican and former Goldman Sachs vice president who is now the President of the Federal Reserve Bank of Minneapolis, last year oversaw a lengthy review of the financial industry by Minneapolis Fed analysts.  Last November, shortly after Trump's victory, Kashkari released an ambitious plan to force the biggest banks either to split or to issue very large amounts of common equity -- stockholders' capital -- to cover their future losses in a financial meltdown.

As New York Times reporters Michael Corkery and Virginia Finkle noted in a Times story on Nov. 17, the Minneapolis Fed / Kashkari proposal would compel banks with $250 billion or more in assets -- i.e., in lending activity to individuals and institutions who promise to repay -- to increase the percentage of common equity on their books from 13 percent to 23 percent -- a near doubling.  Kashkari's proposal also would prevent giant banks from counting long-term debt as part of their required capitalization levels, on the grounds that this can prove problematic in a crisis.

The Times article strongly suggests that Kashkari's idea would result in the dismantling of the biggest banks, since their managers and CEOs would likely want to avoid the increased costs associated with keeping so much capital on hand.  But in the event that the biggest banks chose to accept Kashkari's requirement rather than breaking themselves into smaller pieces, they would be much sturdier in the event of a future 2008-style financial panic.

Kashkari, in introducing his proposal, stated that before Congress approved the Dodd-Frank financial reform bill during the Obama administration, the risks of the U.S. suffering from another big banking crisis amounted to some 84 percent.  The enactment of Dodd-Frank significantly reduced such risk to just 67 percent, Kashkari added.  But this is still much too high, especially given the ability of major financial crises to cause trillions of dollars in losses to the U.S. economy and the world.  Under his proposed reform, Kashkari believes, the risks of the U.S. economy suffering another 2008-style financial crash could be reduced to 9 percent.

With Trump having made campaign promises about improving the U.S. economy for the average American, is there a chance that Kashkari can sell his proposed banking reform to a Republican-dominated Congress, which has made a major overhaul of Dodd-Frank a priority?

In recent statements to the New York Economic Club, which were covered by Reuters and CNBC on Jan. 7 of this year, Kashkari expressed optimism that as Republicans move to dismantle Dodd-Frank, his ideas could end up becoming law.  In their Times story from last November, however, Corkery and Finkle expressed doubt about the idea's future, given that most Republicans are promoting deregulation of business as a way of prompting faster economic growth.

Many observers and lobbyists in the banking industry, Corkery and Finkle report, have dismissed Kashkari's idea as a "non-starter."  The Times story quotes Laena Fallon, press officer for the industry trade group the Financial Services Forum, as warning:  "For those looking to accelerate economic growth and job creation, tripling bank capital levels -- already double from pre-crisis levels -- will make it much harder to meet those goals."

Whether Kashkari's ideas or the banking industry's preferences prevail in Congress is likely to hinge on the position taken by Rep. Jeb Hensarling, a Texas Republican who last year introduced his own "Financial CHOICE Act" as an alternative to Dodd-Frank, and as a supposed cure for the problems caused by banks being too big to fail.

A visit to Hensarling's congressional web site is likely to be discouraging for most DSA members and other progressives:  in recent press releases, Hensarling voices strong support for the elimination of abortion rights, for GOP plans to repeal Obamacare, and for other socially and politically regressive legislation.

An overview of Hensarling's Financial CHOICE Act on his web site also includes loud praise for the legislation from Americans for Prosperity, FreedomWorks, the Conservative Coalition, Heritage Action, the National Taxpayers Union, and the U.S. Chamber of Commerce, as well as the National Association of Realtors and several banking industry trade associations -- that is, from many of the same organizations that promoted financial deregulation measures that almost crashed the economy in 2008.

On the other hand, both the Financial CHOICE Act and many of Hensarling's public statements show a strong rhetorical commitment, at least, to ending the problem of "too-big-to-fail" banks and protecting the taxpayers from underwriting future bailouts.

At first glance, Hensarling seems to believe that tougher bankruptcy laws and a willingness to see big banks die, regardless of the impacts on the larger society, are the best ways to address the problem.  But the CHOICE act also proposes to require that banks somewhat increase their capital ratios to escape from being labeled of "systemic importance" under Dodd-Frank, and thus subject to increased regulatory oversight.

One of Hensarling's major themes is that excessive regulations, particularly under Dodd-Frank, are choking the financial industry and reducing the amount of lending large banks do to support expanded economic activity and job creation.  Yet Hensarling, at least in his rhetoric, shows himself to be aware of the risks that excessively large banks pose to the economy.

The CHOICE Act therefore proposes to increase capital requirements for the banks to a degree -- from 7 percent to 10 percent, a rough glance at the bill suggests, with no added requirement that the banks avoid reliance on long-term borrowing to enhance their capitalization levels, as Kashkari has proposed.

Progressives this year obviously have enough to do already in terms of resisting the worst parts of the Trump agenda, and it may be hard to rally the enthusiasm of new DSA members for tackling a financial issue that's likely to seem complicated and obscure to all too many of us.  But with the administrator of George Bush's hated bank bailout plan now essentially echoing Bernie's campaign rhetoric about the importance of curbing dangerously oversized banks and reducing the risks of another 2008-style financial crunch, it might be worth the effort if some democratic socialists could look into what Kashkari is suggesting. 


For democratic socialists with the patience and the financial backgrounds to follow the rival proposals, a PDF of Kashkari's plan can be found on the website of the Minneapolis Fed, among other menu items.

A transcript of Kashkari's Nov. 16, 2016 speech introducing the plan can also be found at the Minneapolis Fed site.

Hensarling's Financial CHOICE Act, at least as introduced last year, is summarized here.

The New York Times story from November, by Corkery and Finkle, can be found here.

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