Opinion

The Great Debate

Are too-big-to-fail banks being cut down to size?

Financial institution representatives are sworn in before testifying at the Financial Crisis Inquiry Commission hearing on Capitol Hill in Washington

The massive $16-billion mortgage fraud settlement agreement just reached by Bank of America and federal authorities — only the latest in a string of such settlements — makes it easy to lose sight of what good shape banks are in.

Banks are now far better capitalized, with tighter credit processes and better risk accounting. The bigger Wall Street houses have also jettisoned many of their most volatile trading operations. Yet most have still managed to turn in decent earnings. That is a tribute to the steady and generally thoughtful imposition of the new Dodd-Frank and Basel III regulations, the rules on “stress-testing” balance sheets and the controversial Volcker Rule that limits speculative proprietary trading operations.

And the feds are keeping on the pressure, as demonstrated by their rejection of almost all the “living will” plans submitted by the major banks, which are supposed to prevent the kind of disorderly collapse that Lehman Brothers went through in 2008.  These living will impositions are designed either to reduce the riskiness of bank holdings or to make the financial institutions post more capital and reserves to cushion against reverses.

A Bank of America sign is shown on a building in downtown Los Angeles, CaliforniaWhile these reforms were badly needed after the virtual wholesale deregulation of the 1990s, they almost all raise costs and limit flexibility. But that is far from the worst problem facing the banks. The regulatory impact on revenues and profits is likely to be dwarfed by the pain banks will experience after the inevitable removal of their current federal life-support systems.

The Federal Reserve has taken extraordinary measures to entice banks to lend money. It has used two main tools. The first, called quantitative easing or “QE,” has entailed the Fed buying massive quantities of securities normally held by private financial institutions. The second has been to keep the fed funds rate, or the rate at which major banks lend their short-term funds to each other, at unusually low levels.

from Rolfe Winkler:

New off-balance sheet rule: Little impact on Wells

The new accounting standard requiring banks to bring assets back on balance sheet had a negligible impact on Wells Fargo. Despite having over $2.0 trillion of off-balance sheet assets, Wells consolidated just $10 billion of risk-weighted assets when the new standard took effect January 1. (See slide 17 in the bank's supplemental earnings release)

wells 166 better

The idea behind the new accounting standard is to bring hidden assets back into the light of day so that regulators can insure proper levels of capital are held against them. With Wells, this appears not to be happening.

Last summer, the bank estimated the new standard would raise risk-weighted assets by $46 billion.* In its last quarterly filing, it revised the estimate down to $25 billion.** When the standard finally went into effect, the figure was just $10 billion.

from Rolfe Winkler:

Buffett’s Betrayal

When I was 14, Warren Buffett wrote me a letter.

It was a response to one I'd sent him, pitching an investment idea.  For a kid interested in learning stocks, Buffett was a great role model.  His investing style -- diligent security analysis, finding competent management, patience -- was immediately appealing.

Buffett was kind enough to respond to my letter, thanking me for it and inviting me to his company's annual meeting.  I was hooked.  Today, Buffett remains famous for investing The Right Way.  He even has a television cartoon in the works, which will groom the next generation of acolytes.

But it turns out much of the story is fiction.  A good chunk of his fortune is dependent on taxpayer largess. Were it not for government bailouts, for which Buffett lobbied hard, many of his company's stock holdings would have been wiped out.

  •