Are Bankers Right about Reg WW?

A recently promulgated regulation is growing more and more unpopular among bankers. Many of you have likely heard about "Regulation WW – Liquidity Coverage Ratio: Liquidity Risk Measurement, Standards, and Monitoring" and some of you may have even submitted a comment to the Fed voicing your thoughts. Interestingly, while looking through the comments, even among ardent supporters of the rule (e.g. Americans for Financial Reform) there’s some general agreement that the rule has problems. Not surprisingly, ardent supports do not find many problems while detractors find plenty of them. So, who has the better interpretation of what’s occurring? I’m of the opinion that Matt Klein of Bloomberg said it best:

Let's step back for a moment and make an observation that shouldn't be seen as outrageous: Sometimes, when bankers hate a new regulation designed to make the financial industry safer, they have a good case.

The short version of the issues pointed out by the financial sector is that the US rule goes above and beyond what was put together by the Basel Committee on Banking Supervision in a bad way. As noted by another Bloomberg piece:

"The introduction of any industry-standard liquidity requirement has the potential to cause market distortions," said groups including the American Bankers Association, Financial Services Roundtable and the Securities Industry and Financial Markets Association, in a Jan. 31 letter to regulators. "A lack of uniform standards across jurisdictions only serves to heighten such issues, as well as negatively affect competitive equity among firms."

The 27-nation Basel Committee on Banking Supervision amended its agreement for a liquidity coverage ratio on Jan. 12, adding flexibility for how banks can meet its requirements. The U.S. version, set for implementation by 2017, is toughest on banks with more than $250 billion in assets or substantial international reach.

A major problem popping up within the comments comes from issuers of municipal debt who are not in the vaunted category of "safe" despite evidence to the contrary. Even Americans for Financial Reform recognizes this as an oversight, if not an actual issue, by noting that there’s subsets of municipal debt (they cite simple general obligation bonds) as comparable to other debt that’s permitted under the proposal. Unsurprisingly, actual municipalities think this is a much larger problem.

So, what’s the fix in this situation? Does this rule lend itself to tweaks in order to make it acceptable to those involved? Or is this something that needs to be tossed in the trash. Klein has a particularly interesting take:

The obvious solution is to restrict how much short-term debt banks and other businesses can issue, either by banning it, taxing it, or crowding it out through the issuance of additional government debt. Much higher equity capital requirements would also help. Focus on how banks offload their risks, not the investments they make.

Instead, we got the liquidity-coverage ratio. It's supposed to ensure that banks can raise funds by selling their safe assets even when they can't roll over their debt. Two problems are obvious:

-There may not be enough safe short-term assets for banks to buy. This could get worse as the budget deficit shrinks and if the Federal Reserve ever starts withdrawing the trillions of dollars of reserves it created in its efforts to boost the economy.

-Banks aren't supposed to be in the business of owning safe assets. They are supposed to take risks and lend to private borrowers. If anything, they should fund themselves by selling safe investments to other people.

Good regulations can help prevent the financial system from imploding again, even if we can't prevent recessions. The bankers are right, however, that the liquidity-coverage ratio is the wrong way to go about it.

What do you monkeys think about all of this? Is the current rule good to go? Fixable? Should it be tossed out in exchange for something different as Klein suggests? Or, should there be no changes made?

 
Best Response

Have you even bothered to read the rules? I ask because reading from your post it really seems like you haven't.

The idea that "There may not be enough safe short-term assets for banks to buy" is entirely and completely irrelevant. For one, nowhere in any version of the rules does it say that banks must buy short-term assets. If anything, the rules prescribe the exact opposite. Secondly, have you made any effort to try and size up what level of assets banks in the US would have to acquire to be in LCR compliance? There's no reason to be speaking in hypotheticals, banks are required to disclose what types of assets they hold; a fair amount of the information you'd need is already public.

As for munis, before blindly assuming that the rule is poorly constructed based on your interpretation of a random article, have you thought about why munis would excluded? Or more importantly, have you read the discussion that the agencies have published regarding why they excluded them. It's not just a matter of assets being "safe". For example in the US rules vault cash, as in physical coins and banknotes, are not included in calculation of the ratio. In other words, certain portions of actual money are excluded whereas bonds, which are promises to provide money at some point in the future, are included. I'm not saying whether I agree with the exclusion of munis- I have yet to form an opinion on it, but the reasons you cited do not address the concerns of the people who wrote the law.

You can choose to agree or disagree with the rule, but there's no reason to be be spreading misinformation and citing poor analyses of the proposed rules, we already have enough people misunderstanding how our financial system works.

 

@spreadsheetmonkey204 you're missing the point of what I'm writing, although not by any fault of your own. The post meant to be a review of what others think of the rules. In particular, the comments provided to the Fed during their comment period (see: http://www.federalreserve.gov/apps/foia/ViewAllComments.aspx?doc_id=R-1466&doc_ver=1 ). Sadly, I'm realizing that some of the html code is borked and there's some text missing due to the code issue. Annoyingly, the omitted text probably would've been illuminating for your understanding of what I was trying to get across. Check out the comments; hopefully that'll clear up your misconceptions.

"My caddie's chauffeur informs me that a bank is a place where people put money that isn't properly invested."
 
spreadsheetmonkey204:

Ah, that would make sense. I was wondering why the first broken link was pointing to a Fed website even though it was quoting a Bloomberg writer.

exactly what i was thinking

 

@spreadsheetmonkey204 - Should be fixed. Maybe you'll still have similar criticisms, but at least now they'll be about what I was trying to write :).

"My caddie's chauffeur informs me that a bank is a place where people put money that isn't properly invested."
 

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