Large banks are no safer today than they were before the financial crisis, according to a new study co-authored by Larry Summers, the former economic adviser to President Obama and Treasury Secretary under Bill Clinton.
In the paper, published by the Brookings Institution Thursday, Summers and Natasha Sarin examine measures of bank safety implied by financial market information, and found that they indicated that volatility and risk for banks of different sizes are not lower than they were before the crisis and the reforms put in place by President Obama.
The results, the authors write, “clearly call into question the view of many officials and financial sector leaders who believe that large banks are far safer today than they were a decade ago.”
Among those officials are President Obama and Federal Reserve Chairwoman Janet Yellen. Yellen claimed this March that there has been a “quantum leap” in the safety of the financial system, thanks to the 2010 Dodd-Frank law and new capital rules. Those post-crisis rules include new capital and liquidity requirements, much more stringent regulations of bank activities, stress tests for banks and many other mechanisms meant to keep banks safe.
Summer and Sarin wrote that they have no doubt those measures improved the safety of the financial system, but that their own findings “should be uncomfortable for most participants in debate about the future of financial regulation and supervision.”
They allow for the possibility that their results might reflect the fact that markets mispriced the odds of bank failures prior to the crisis, meaning that those odds were artificially low then and correct now.
The paper’s findings are notable coming from one of Obama’s economic advisers who was in the White House during the legislative push for Dodd-Frank. Summers was also thought to be Obama’s favorite for nomination to head the Federal Reserve in 2013, before liberal critics launched an advocacy campaign to deny him the spot and elevate Yellen.
At the time, those progressives alleged that Summers, having advised a hedge fund and overseen some financial deregulation in the Clinton administration, was too close to Wall Street.
One finding in the new paper, however, did not buttress the case for tighter rules on banks. Summers and Sarin argue that their results do not weigh in favor of even heavier regulation, because the high riskiness of banks might be attributable to the fact that investors see less value in bank brands. Further regulations could worsen that dynamic, increasing systemic risk, the paper concluded.
