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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The writer is a former investment banker and author of ‘Power Failure: The Rise and Fall of an American Icon’
How much capital big banks need, or should have, is one of the most hotly debated questions on Wall Street these days. In the wake of three of the largest bank failures in US history a year ago, the US Federal Reserve, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency are all pushing to increase the capital requirements for the 100 largest banks, which fall under the Basel III regulatory regime. If they succeed in getting their way, it would be regulators’ second success on the bank capital front since the Wall Street meltdown in 2008.
Not surprisingly, the big banks don’t want this to happen. They believe enough is enough. They believe they succumbed to the wishes of the Washington bureaucrats after the financial crisis, but they don’t want to give in a second time. They are fighting back, hard, to avoid having to increase their equity capital, in part by spending many millions of dollars lobbying lawmakers in Washington to put pressure on the regulators. They also have been buying advertisements on popular National Football League games.
Regulators have estimated the new rules will lead to aggregate 16 per cent increase in capital requirements for banks above $100bn. But it’s not that the banks don’t have the capital; many of them do. After all, they’ve been making money hand over fist lately, thanks to the Fed’s policy of keeping interest rates near zero for years and the whopping expansion of assets on the central bank’s balance sheet as part of its quantitative easing programme. They’ve even been able to make money since the Fed reversed course two years ago and started raising rates, improving the margins on their lending.
In 2023, JPMorgan Chase, the US’s biggest bank, had the most profitable year of any bank ever — earning nearly $50bn in net income and just used part of that profit to increase the bank’s dividend to shareholders. But Jamie Dimon, the bank’s chief executive, doesn’t like the proposed capital requirements one bit. “We continue to believe that the recent series of regulatory and legislative proposals, including Basel III endgame, could cause serious harm to consumers, businesses, and markets,” he said in announcing the firm’s 2023 profits. That’s bunk.
What the big banks really don’t like about the regulators’ proposal comes down, as ever, to pay. Many of the executives at big banks are rewarded, in part, on their bank’s return-on-equity calculation. The more equity capital a bank has, the harder it becomes to generate a high ROE, as simple math dictates. So that could mean lower bonuses for executives. No wonder they are fighting it tooth and nail and are enlisting allies in Congress to try to thwart the regulators.
They make other, equally unjustifiable, arguments for not increasing their equity capital, such as that it will somehow result in less credit and less lending being made available, hurting the overall economy. This is absurd. The big banks are lending as much as they can, with the four largest US banks having $4tn of loans and leases outstanding, according to FDIC data.
In fact, according to a 2016 Bank for International Settlements study, increasing banks’ equity capital has led to a corresponding increase in lending. “Banks with higher capital have higher lending growth,” the BIS study concluded.
Dennis Kelleher, the co-founder and CEO of non-profit organisation Better Markets, tells me the tussle over how much bank capital is enough is “probably” the biggest fight over a proposed regulatory rule since the Great Depression. And the banks are fighting hard. “It’s not even 12 months after the failure of three of the four largest banks in the history of the United States and you still can’t even talk about capital without the industry unleashing its coffers in every crevice,” Kelleher says, “It’s unbelievable.”
The truth is that the more capital the banks have, the safer they are and the more likely they are to be able to withstand losses or withstand the kind of loss of confidence that befell the likes of Silicon Valley Bank and First Republic a year ago and that befell the Wall Street investment banks back in 2008. What regulator could be against safer banks at the heart of our financial system?
A final decision is probably months away, and what the Fed decides will pretty much dictate what the FDIC and OCC do, too. It’s going to be a close call about whether the big banks get their way, as the debate rages inside the Fed itself. But I’m much more worried about the consequences of another sizeable bank failure and its potential knock-on effects in the wider economy than I am about bank executives’ compensation packages. Last time I checked, bankers always find a way to get paid.
