Five U.S. megabanks lack viable plans to go through bankruptcy safely without endangering the economy, federal regulators ruled Wednesday.
The decision by regulators to reject the banks’ “living wills” means that the banks could face added regulatory scrutiny. If the problems aren’t fixed by October, a process would begin that would entail escalating regulatory responses the longer the banks failed to respond, with bank break-ups one possibility after a period of years.
In a statement released Wednesday morning, the Federal Reserve and Federal Deposit Insurance Corporation dismissed the living wills submitted by five banks: Bank of America, Bank of New York Mellon, JPMorgan Chase, State Street and Wells Fargo. Those banks’ plans for how they would quickly restructure in case of a failure were “not credible,” the agencies both ruled.
The FDIC also found problems in Goldman Sachs’ living will, while the Fed faulted Morgan Stanley’s plan. But the two agencies did not agree and produce a joint ruling on those banks, which is required under the law to set off the remedial process.
Citigroup was the only one of the eight U.S. banks that has been identified as systemically important to have its living will tacitly approved by regulators, although they still found problems with those plans.
FDIC chairman Martin Gruenberg boasted that results were a “significant step forward” in getting banks to prove that they can “fail in an orderly way under bankruptcy at no cost to taxpayers.”
But one regulator expressed the opposite view, namely that the rejections indicate that the banks remain too big to fail, even if they are making progress.
“No firm yet shows itself capable of being resolved in an orderly fashion through bankruptcy,” FDIC vice chair Thomas Hoenig, a noted advocate of stricter rules for big banks, said in a statement downbeat about the safety of the financial system. “Thus, the goal to end too big to fail and protect the American taxpayer by ending bailouts remains just that: only a goal.”
The living wills process, created by the 2010 Dodd-Frank law, is one of several measures meant to ensure that banks can fail without dragging down the financial system or requiring bailouts. The point of the yearly exercise is for the banks themselves to spell out in advance how they would shut down and pay out creditors without causing a panic, so that if a real emergency arises managers and investors will look to those plans to avoid confusion.
The regulators gave the banks until Oct. 1 to address the problems they raised or face more stringent regulation. In the extreme scenario in which the banks made no improvements for two years, the regulators could also force divestitures.
Some Wall Street critics have tried to push regulators toward that scenario. Democratic presidential candidates have claimed that the living wills process could be the means to breaking up big banks, while congressional liberals such as Sen. Elizabeth Warren, D-Mass., have seized on previous results of living wills determinations to claim that the big banks remain too big too fail.
Yet that is not the path that the regulators themselves or the industry have in mind. They instead have said that the annual updates of living wills are meant to be a back-and-forth between the banks and the agencies, with the bankruptcy plans improving each time and incorporating new developments in the industry.
John Dearie, the acting CEO of the banking industry group Financial Services Forum, said in a statement that “the living will process is iterative and will be ongoing, and the industry remains committed to continuing to work with regulators to ensure effective resolution and recovery planning.” It is in banks’ interest, he said, to have credible resolution strategies, and the firms will work to resolve the “technical shortcomings” cited by regulators.
Those shortcomings were spelled out in letters sent to each of the banks that were posted on the agencies’ websites, with redactions of sensitive information. Among the problems cited for multiple banks were inadequate liquidity and insufficient plans for how the firm would be managed during a crisis situation.
