Advocates of breaking up the big banks are celebrating this week after federal regulators in effect declared five banking giants still “too big to fail,” but a closer look at the agencies’ decisions suggests that they did so not because of the banks’ size, but because of other concerns.
Five banks — Bank of America, Bank of New York Mellon, JPMorgan Chase, State Street and Wells Fargo — had the Federal Reserve and Federal Deposit Insurance Corporation reject their “living wills,” documents spelling out how they would go bankrupt without needing a federal bailout or causing a crisis. They have until Oct. 1 to address the problems.
Just how the regulators make such decisions is a bit of a mystery. But the agencies released redacted versions of the rejection letters they sent to the five banks, allowing the public a glimpse of why they judged that the banks wouldn’t be able to fail safely under the bankruptcy code. They also published a similar letter for the only one of the eight U.S. megabanks to avoid failing marks, Citigroup, providing a point of comparison.
JPMorgan Chase, the largest U.S. bank with $1.9 trillion in assets, serves as a good example.
Its living will, CEO Jamie Dimon said Wednesday, was 150,000 pages.
The Fed and FDIC told Dimon in the letter that the bank’s resolution plan wasn’t credible for four reasons, none of which was that it was simply too big.
Instead, the regulators said that JPMorgan Chase subsidiaries would lack access to liquidity in some panic circumstances, meaning that they wouldn’t be able to free up enough cash to pay creditors.
They faulted the bank for the number of legal entities it has and the relationship among them, pointing out, as an example, that the main bank’s ownership of a broker-dealer unit in the United Kingdom involves several holding companies that would make it difficult to pull off a recapitalization on short notice.
They also said that the bank would have difficulty winding down its books of derivatives during a failure.
Lastly, they warned that JPMorgan needed better plans for deciding which signs of impending failure would serve as “triggers” forcing the bank to execute its living will plan.
Speaking on an investor call Wednesday morning, JPMorgan Chief Financial Officer Marianne Lake said she was “disappointed” with the conclusion, but said that they bank was committed to working with regulators to fix those items. She also added that “we believe we have made substantial progress.”
The regulators acknowledged that progress in the letter, explaining that JPMorgan has simplified its cross-border contracts, raised more capital and has a better understanding of who is running what services, such as its computers or trading systems, that could be interrupted during a failure, as happened to Lehman Brothers in 2008.
One of the factors that the regulators pay attention to, said Karen Petrou, managing partner of the consultancy Federal Financial Analytics, is simply how well the banks respond to the instructions.
Wells Fargo’s inability to respond to the feedback it received on previous living wills appears to have caused the bank trouble.
Previously, regulators hadn’t flagged Wells Fargo’s living will for deficiencies. On Wednesday, however, the bank found itself among the group of five that both the Fed and FDIC said had a bad living will.
A big part of the problem was that Wells Fargo had failed to fix a problem the regulators previously said it had with making sure that its doors would stay open and its vendors working in case of a failure. “Regulators really don’t like it when they tell you to do something and then you don’t do it,” Petrou said.
The only hint that regulators care specifically about a bank’s size came in the letter regulators sent to Citigroup explaining that it had some problems, even though none of those problems rose to the level of making its living will not credible. The Fed and FDIC said the bank had made progress in decreasing its asset size and the number of legal entities it contained.
One member of the FDIC, Vice Chairman Thomas Hoenig, also said in a statement that the big banks remain too big to fail, citing the fact that the eight banks “are generally larger, more complicated and more interconnected than they were” before the financial crisis.
Nevertheless, Hoenig is among the regulators most critical of the concentration of the banking industry, and there have been few hints from other members of the two agencies to suggest that banks must shrink themselves to get a passing grade on the living wills.
“I could see why folks who were particularly trying to push for breaking up banks or putting a size limit on them would pick on that but I don’t think a detailed analysis of the results sustains any such conclusion,” Petrou said.
