The Brown-Kaufman amendment to the Restoring American Financial Stability Act of 2010 was a bit of a blunt instrument. It created caps so no individual bank could hold more than 10% of the country’s insured deposits nor could they accrue liabilities in excess of two percent of our Gross Domestic Product. In other words, it was an attempt to get rid of banks that are so big that their failure would threaten catastrophe for the global economy.
In practice, the amendment required the six biggest banks — Bank of America, JPMorgan Chase, Citigroup, Wells Fargo, Goldman Sachs and Morgan Stanley — to significantly scale down their size.
Now, there’s no doubt that this amendment would have addressed the problem it sought to fix with too-big-to-fail banks. But that doesn’t necessarily mean that it was a good way of addressing that problem. I don’t feel qualified to say. But I do think the roll call on the vote is instructive. Republican Sens. Shelby, Coburn, and Vitter voted for it, which I’m not sure how to interpret. It’s easier to understand the Democrats who voted against it. Our banking system is heavily concentrated in states like Massachusetts, Rhode Island, Connecticut, New York, Delaware, North Carolina, and South Dakota. Here’s the list of Democrats who opposed forcibly breaking up our biggest banks:
Akaka (Hawaii), Baucus (Montana), Bayh (Indiana), Bennet (Colorado), Carper (Delaware), Conrad (North Dakota), Dodd (Connecticut), Feinstein (California), Gillibrand (New York), Hagan (North Carolina), Inouye (Hawaii), Johnson (South Dakota), Kerry (Massachusetts), Klobuchar (Minnesota), Kohl (Wisconsin), Landrieu (Louisiana), Lautenberg (New Jersey), Lieberman (Connecticut), McCaskill (Missouri), Menendez (New Jersey), Bill Nelson (Florida), Ben Nelson (Nebraska), Jack Reed (Rhode Island), Schumer (New York), Shaheen (New Hampshire), Tester (Montana), Mark Udall (Colorado), and Warner (Virginia).
Geography was not destiny on this vote. It was co-sponsored by Kaufman of Delaware (who is not seeking re-election) and opposed by Tom Carper. Jack Reed of Rhode Island opposed it, while Sheldon Whitehouse supported it. Al Franken of Minnesota voted for it while Amy Klobuchar did not. You’ll notice that all six senators from New York, New Jersey, and Connecticut (all of whom caucus with the Dems) were opposed.
Another explanation is that a big percentage of the no votes sit on the Senate Banking Committee: Dodd, Johnson, Reed, Schumer, Bayh, Menendez, Akaka, Tester, Kohl, Warner, and Bennet. You can look at that in a couple of different ways. A generous view is that they all participated in the negotiations to mark-up this bill and voting for the Brown-Kaufman amendment would have been an act of bad faith. A less generous view is that they get a bigger proportion of their contributions from the banking industry than senators who don’t sit on the banking committee. A generous view might argue that they understand banking better than other senators and so have a better grasp of the unintended consequences that might result from limiting the banks in this way. A less generous view might argue that most of them are only sitting on the Banking Committee in the first place to protect one of the biggest employers in their states.
You can choose to view the vote in any light you want. But the vote did provide a window into how much pull the banking industry has in the Democratic Party. I am not saying for certain that the amendment should have been passed. I’m not sure what would happen if America limited banks this way and the rest of the world did not. It could lead to mass exodus of jobs and even the loss of New York City as the global capital of the world (hey, it happened to London). But the roll call is interesting and informative.
The very large margin in the Brown-Kaufman vote indicates that it didn’t fail because of “Wall Street lobbyists” or bankers. Bank lobbyists don’t try to run up the score that much, BooMan. It failed because for whatever reason, not enough Senators thought it was good policy.
Personally, I thought this was a bad way to address TBTF.
Here’s why:
Imagine that we cap bank size at $100 billion in assets. What happens if a bank with $99 billion in assets fails? The way the FDIC resolves failed banks smoothly is through P&As, but the only banks big enough to buy the $99 billion failed bank would surely be over the $100 billion cap if they agreed to the purchase. So the choice is effectively between (1) a disorderly liquidation by the FDIC, which would pose exactly the kind of systemic risks that proponents of capping bank size are trying to avoid; or (2) granting an acquiring bank (or banks) a waiver from the $100 billion cap and proceeding with a P&A.
So, why would any bank want to acquire those assets if the government would just break them up later?
Seeing as no bank in the real world would do this, you couldn’t use P&A’s in the first place. So if the FDIC no longer has that tool to use, what else is left? Right: the largest banks cannot be resolved, and we’re back to square one.
It doesn’t solve the problem. Capping bank size is a fool’s errand.
Krugman agrees.
Also, like Krugman (and Mark Thoma and a few others), I see the most important thing on this issue with leverage. That’s what it comes down to. Plus, I stated this before on another blog entry, but the Street’s main enemy in this whole game is the pre-funded resolution fund. Why? It comes right out of their own pockets.
Your argument at the extremes points up the fact that the amendment did not do what it intended to do. If disorderly liquidation still creates systemic risks, the bank is still too big to fail, regardless of its share of total banking assets.
There are changes to banking laws over the past 40 years that have created this situation (and repeal of Glass-Steagall is only one of them). A healthy banking system sought deregulation of commercial interest rates in the 1970s because inflation was causing depositors to lose money on their deposits over time. The creation of interstate commercial banking at the end of the Carter administration caused banks to start consolidating across state lines, bringing them into sizes “too big to fail”. The capture by individual banks of credit card networks turned what promised to be convenience banking anywhere into a service fee cash cow, which encourage further consolidation of banks. Prior to these changes no bank was too big to fail. So they failed and through disorderly liquidation their assets were distributed (with FDIC backing depositors) and new banks were started in their place.
If you look at the banks that are failing under FDIC rules, you notice that a sizeable number of them are in current or former no-branch-banking states like Illinois or Georgia. Their failures likely as not have resulted for the failure of their too-big-to-fail correspondent banks not extending credit that they otherwise would have in a non-recessionary economy.
I have not seen a really strong case made of the value that giant banks add to the economy.
Brown-Kaufman did not go far enough.
The voting pattern shows very little except the dramatic differences in understanding that Senators have of the banking business. Folks like Kay Hagan, who is close to Bank of America, voted the interest of the banks. Other splits might have come down to the interests of community banks versus large commercial banks versus investment banks – differences in the sectors the Senator was interested in supporting.
Exactly. That’s why dealing with TBTF in this manner doesn’t really solve the TBTF issue.
Take for example LTCM only had about $95bn in assets when it nearly failed, and it was considered TBTF. Similarly, Continental Illinois only had $40bn in assets, and it was also considered TBTF.
This is a very important part in this bill, and we need to actually, you know, deal with it. The most important issue is the resolution authority involved. One of the biggest problems is that we won’t know whether the resolution authority we end up with actually works until we use it during a crisis.
Some people don’t agree, as they argue that the government won’t use this resolution authority in the event of another crisis, and will instead opt for a bailout. Well, if that’s what they’re arguing, then I don’t know what to say other than that I disagree, and for two, there’s really no other way to solve the issue.
Both the S&L crisis and the credit default swap crisis were the results of the banks thinking they had found a way to print money. It is increasingly apparent that there was some degree of fraud in both of these crises.
Resolving crises after they occur is not as important and preventing them from occurring in the first place. If you are to the point of debating between resolution authority and a bailout, you are already in deep doo-doo. Regulation should keep banks far away from the doo-doo pit. The half measures that Congress seems to be considering do that somewhat but not adequately.
And even these half-measures have to be compromised.
Right, but this is dealing with the TBTF issue. “Too big to fail” just means “too systematically important to put into Chapter 11.” Give us a resolution authority that can wind down systematically important nonbank financial firms without causing a financial crisis, and suddenly no firm would be TBTF anymore — the TBTF problem would instantly vanish.
You can argue that we shouldn’t reach that point in the first place, and I would agree. However, this is a failsafe, and it’s important that we have some way to deal with it “just in case.”
I’m not sure what I think of Congress’s bill on the whole and I don’t think I’ll really know until it’s on the president’s desk.
What are the key elements a resolution authority to wind down systemically important nonbank financial firms needs?
And how will it not increase the concentration in the financial industry?
That may be true from an economic standpoint, but politically the amendment’s failure will further justify distrust of government and specifically of Democrats. This was probably the only part of the larger bill that appeared to address the TBTF issue, and the Dems failed to pass it. It was seen as an answer to the only part of the banking scandal that the public saw as the problem: banks that got too big.
You make a case that this amendment was insufficient to address the problem, but would it have been harmful to the economy if it were accompanied by more useful remedies?
There will never be significant reform to anything financial. It’s all fake reform.
Was I the only one watching the stock market yesterday? The whole world got shown what could happen if somebody, let alone a company, gets pissed off.
Your expecting the beneficiaries of a system to pass laws (and more importantly, enforce them) that would end their cash stream.
Not gunna happen.
nalbar
I’m not a financial expert and don’t pretend to be like countless politicians, journalists and bloggers suddenly claim to be, but I don’t see how the size of these bansk effected the financial crisis we experienced. AIG wasn’t a bank. It seems to be this is an issue of behavior not size. And ownership and risk taking with certain kinds of assets that is the problem, not necessarily the size.
By issuing credit default swaps, AIG was effectively printing money with no backing. It was acting like an unregulated bank.
The issue of behavior is the first thing that needs to be regulated.
But the crisis required a $2 trillion lending window at the Fed and a $700 billion bailout because of the size of the institutions involved. As it was failure rippled from AIG and Bear Stearns and Lehman Brothers to other financial institutions as panic set in. Concentration of assets and liabilities were what brought the economy to the brink of a financial meltdown.
Had AIG been some two bit insurance company regulated by state regulators and holding only one one-thousandth of the market, resolution of its problems would have been a straightforward bankruptcy. Indeed these happen frequently.
Size is really referring to concentration (percentage of US assets) not value of total assets.