Solving “Too Big To Fail”
On Wednesday, Federal Reserve Bank of Minneapolis President Neel Kashkari called for a substantial increase in the capital requirements for big banks, a move which would effectively break up the country’s financial behemoths.
His advice comes as part of a 50-page report which details strategies to deal with “too big to fail” banks. That term applies to companies that are so essential to the economy that they can count on taxpayers to bail them out in the event of a catastrophe. (Source: “Fed’s Neel Kashkari Rolls Out Blueprint for Ending ‘Too Big to Fail’ Banks,” The Wall Street Journal, November 16, 2016.)
Kashkari has been a vocal critic of “too big to fail” ever since his appointment to the Federal Reserve system in January. It appears he has spent the last year drafting an action plan to solve the problem, if only he could gain a receptive audience from his peers.
While speaking at the Economic Club of New York, Kashkari noted that his “Minneapolis Plan” would create a scenario in which, “We will have fewer mega banks, and there will be far less concentration in the banking system…. If there are any [too big to fail] banks left, they will be so well-capitalized that their risk of failure will truly have been minimized.”
His proposal would concern banks with more than $250.0 billion in assets. They would see their capital ratios rise to 23.5% of risk-weighted assets, which is far above the single-digit thresholds we have today. Leverage ratios would likewise increase to 15%.
Moreover, there would be harsh penalties for banks that fail to adapt quickly. Kashkari’s plan would give the Treasury Secretary discretion over which banks are no longer a threat to the economy. For every year that a bank fails that test, they must add another five percent of equity.
“We believe that these automatic increases in capital requirements will lead banks to restructure themselves such that their failure will not pose the spillovers that they do today and thus will not lead to bailouts,” the report says.
However, the plan requires U.S. Congressional approval before it can become reality, something that could be difficult under a Trump administration. The President-elect is not a fan of financial regulation, and he even hopes to “dismantle” the Dodd-Frank reforms as soon as possible.
Considering the policy direction du jour, Kashkari faces an uphill battle in his fight to overhaul the banking system.