TBTF Strike Back! SEC Commissioner Calls FSOC “Vast Left Wing Conspiracy”

One of the favored practices of the banking industry in recent years has been to engage in not merely shameless, but truly deranged hyperbole when anyone dares voice so much as an itty bitty threat against their prerogatives. For instance, venture capitalist Tom Perkins had a meltdown in the op-ed section of the Wall Street Journal, conflating criticism of rentier behavior among the 0.1% as an incipient Kristallnacht. Jamie Dimon in March 2009 (yes, you have the date right) had the temerity to complain about the “vilification” of Corporate America over the financial crisis. Even the weak restrictions on executive pay in the TARP produced outcries and desperate efforts to repay the TARP quickly (and the cronyistic Treasury acceded, rather than requiring TBTF banks to get their capital levels higher first).

We witnessed a new outburst of Banking Industry Persecution Complex yesterday from SEC Commissioner Michael Piwowar, who was speaking before an assembly of fellow inmates at the American Enterprise Institute. Piwowar has made it clear in previous speeches that he is opposed to provisions of Dodd Frank that call for the designation of systemically important financial institutions known in the trade as SIFIs, or among the laity, TBTF. He’s also tried claiming the Financial Stability Oversight Council is a threat to the SEC’s power. This is ludicrous since the SEC has never been a banking regulator and its influence is vastly less than that of the Fed and Treasury, and even less than that of the FDIC and OCC, which aren’t subject to Congressional appropriations. As former SEC chairman Arthur Levitt wrote in considerable detail in his memoir, Take on the Street, he’d regularly have Congresscritters, particularly Joe Lieberman, threaten to cut the SEC’s budget every time he tried getting serious about regulations. So Piwowar’s claims about the SEC’s power are either disingenuous or unhinged.

This section from a Bloomberg report makes one inclined to side with the “unhinged” diagnosis:

The U.S. Securities and Exchange Commission’s Michael Piwowar called an umbrella group of financial regulators a “vast left-wing conspiracy to hinder capital formation.”

The Financial Stability Oversight Council’s initials really stand for “Firing Squad on Capitalism,” Piwowar, 46, said yesterday in a speech at the American Enterprise Institute in Washington. He called the FSOC “The Bully Pulpit of Failed Prudential Regulators” and “The Dodd-Frank Politburo,” adding that his opinions are his own and that the pejoratives are “entirely accurate.”

Yves here. The really loopy bit is the argument that there’s a problem with access to capital in the US right now. Large companies have borrowed like mad and are sitting on cash hoards and buying back stock. Cheap and plentiful capital has allowed private equity firms to hoover up houses and engage in a new wave of acquisitions, to the point that regulators are sounding alarms about the pricing of collateralized loan obligations, vehicles used to sell these acquisition loans to investors. There’s so much liquidity right now that debt and equity valuations are strained. And did he forget Jumpstart Obama’s Bucket Shops Act, which greatly increases the ability of fraudsters to sell vaporware businesses to chumps facilitates fundraising by small companies, and is utterly unaffected by anything the FSOC would do?

Nevertheless, Piwowar is not entirely wrong in calling the FSOC “failed,” but that’s because it’s done too little rather than too much. We posted on this exchange between Elizabeth Warren and Janet Yellen earlier, but it bears repeating because it illustrate one critical way in which FSOC members are punting on their obligations.

Another demonstration of Banking Industry Persecution Complex at the same conference was Scott Garrett complaining about Fed Vice Chairman Stanley Fischer’s call for regulators to add financial stability to their mandates. In fact, the Fed has always had the safety and soundness of banks as of its raisons d’etre. In the crisis, regulators learned too late that interconnectedness was a big problem, so now they have to think more about the financial system as well as individual institutions.

And again, there’s a reasoned critique: that making regulators worry about soundness puts them in a conflicted position, in that it makes it even easier for regulators to become captured, since the regulated institutions can argue that they need to be profitable (and handsomely so!) to have strong capital positions and attract good staff. Some have argues that prudential regulation should be separated from other types of regulation, rather than have central banks operate even more in the role of One Regulator Who Rules Them All.

But the funniest bit is Garrett acting as if Fischer is not on the side of TBTF banks. Pam Martens disabuses readers of that illusion in a new post:

Warren may have come down hard on the Fed at this hearing because the newly installed Fed Vice Chairman, Stanley Fischer, appeared to be out on the stump last week for keeping the biggest banks intact in a speech he delivered in Cambridge, Massachusetts last Thursday.

Fischer had this to say:

“What about simply breaking up the largest financial institutions? Well, there is no ‘simply’ in this area. At the analytical level, there is the question of what the optimal structure of the financial sector should be. Would a financial system that consisted of a large number of medium-sized and small firms be more stable and more efficient than one with a smaller number of very large firms? That depends on whether there are economies of scale in the financial sector and up to what size of firm they apply–that is to say it depends in part on why there is a financing premium for large firms. If it is economies of scale, the market premium for large firms may be sending the right signals with respect to size. If it is the existence of TBTF, that is not an optimal market incentive, but rather a distortion. What would happen if it was possible precisely to calculate the extent of the subsidy or distortion and require the bank to pay the social cost of the expansion of its activity? This could be done either by varying the deposit insurance rate for the bank or by varying the required capital ratios for SIFIs to fit each bank’s risk profile and structure. This, along with measures to strengthen large banks, would reduce the likelihood of SIFI failure–but could not be relied upon to prevent all failures.”

Fischer added: “In short, actively breaking up the largest banks would be a very complex task, with uncertain payoff.”

There were widespread fears when President Obama announced Fischer as his nominee for Fed Vice Chair that Fischer’s previous ties to Citigroup would prove problematic. Citigroup goes unmentioned in Fischer’s long speech last Thursday despite the fact that Citigroup’s insolvency in 2008 played a major role in the economic meltdown and Citigroup flunked its stress test with the Fed this year — meaning the Fed does not have confidence it could weather a major economic storm.

Yves here. It’s even worse than Martens suggests. Notice the use of the conditional in Fischer remarks, “whether there are economies of scale”? He’s too well-read an economist not to know the answer. Virtually every study ever done of bank efficiency has found that they have a slightly increasing cost curve (meaning they are less efficient) once a certain size threshold is met. And that threshold is not very large, typically at the $25 billion in assets level. This sort of study was done routinely before 2004 with consistent results. There have been far fewer done since then, no doubt because the banking industry isn’t keen to have that result get press.

Put it another way: if Fischer had a study to cite supporting his position, you can be certain he would have referred to it. And Fischer similarly has to be familiar with the work of Andrew Haldane, who has done impressive and original work that directly contradicts Fischer’s argument: that a financial system with more diversity (more types of specialized players) is much more robust than one with comparatively few players, and even worse, all offering very similar products and pursuing similar strategies.

So Piwowar’s and Garrett’s contention that TBTF banks are being picked on is wildly misplaced. Only in an echo chamber like the AEI or in bank executive suites could that idea be taken seriously. But this crowd has managed to convince itself that having banking licenses is a one-way ticket: they get all the subsidies and all the rights and should not be required to be accountable in any way. And until that mentality changes, the health of the economy will remain hostage to them.

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  1. grayslady

    Breaking up the large banks would be one of the best and quickest ways to restore decent paying jobs back into the economy. Anyone remember how many thousands of bank jobs were lost in all those mergers and acquisitions? There are numerous other reasons for a break-up, but the jobs issue is compelling.

    1. Yves Smith Post author

      No, you are missing the point about efficiency. Bigger banks are LESS efficient than small banks.

      Each of the banks separately could have made the same cuts but the merger made it easier socially (the acquirer goes slash and burn at the staff of the acquiree) plus Wall Street always expects to hear about job cuts after a merger.

      Thus breaking up the banks does not mean you’ll need all that many more people except at the head office level (new CEO, CFO, Treasurer, etc). But those people at the separated banks should be less costly, since CEO and C level pay is a function of bank asset size and complexity, both of which will have been reduced.

      1. grayslady

        Actually, I didn’t miss the point about size and efficiency at all, since it applies to all organizations, as best I can tell. What I am suggesting is not breaking up the banks a la Baby Bells–we saw what happened with that: they just recombined later. I’m talking about totally re-establishing new entities. We need a return to mid-size banks that concentrated on local loan business to small and medium size companies, in addition to larger–but not massive–institutions that focused on major and global firms. I’m suggesting that while duplication of effort (i.e., two mid-sized banks in a smaller metropolitan area) is not necessarily cost efficient, sometimes in order to provide competition there is a price to pay if each bank has a trust department, lock box facilities, etc. But at least we’d avoid market dominance, and its associated risks, as well as re-instating jobs that never should have been cut. I’m less focused on CEO compensation, since that doesn’t seem to be driven by any sane calculation that I can perceive.

        1. Yves Smith Post author

          Agreed. Big banks used to train credit officers who had autonomy to make credit decisions in the branches. That allowed for them to use intelligence about the local economy and make character-based decisions.

          Now, big banks can’t figure out how to make sensible small business loans with their “branches as stores” and score-based credit systems.

          1. The Derivative Project

            Yves, you have hit the nail on the head…”big banks use to train credit officers…”
            There are no longer common sense credit decisions being made, as with the mortgage crisis and AIG writing CDS, after CDS, without their counter parties analyzing the credit risk and leverage, which use to be part of the mandatory counter-party credit risk swap analysis presented to any commercial bank credit committee….my former role in the early to mid- 80’s.

            Now with the shadow banking structure and asset backed securities, one has no idea what “money market” funds are actually financing, with a web of interlocking commercial bank guarantees.

            The Derivative Project took a look at what the firms have stuffed into money market funds and sent our request for transparency on MMF on to the FSOC, during the open comment period. Yikes, financing charter schools, other small muni entities’ long-term needs with short-term MMF, packing the stuff with VIE’s and a bank guarantee…This is a disaster about to explode if rates trend up. Take a look in today’s MMF what type of credits big banks are guaranteeing for a fee. Disastrous when rates rise…


            It is time to return to a back to basics credit analysis and insistence that commercial banks return to their original banking role and eliminate these VIE’s.

            Note: our view is from the standpoint of the retail investor and the pending issues with voluntary recapture in money market funds and now SEC proposed “fees” forced on retail investors who wish to exit these poor credits hidden in the money market funds of today—it is no longer A-1/P-1 commercial paper…

  2. sufferin' succotash

    It goes without saying that any criticism of Piowar is Stalinism rearing its ugly head again.

  3. cnchal

    The Financial Stability Oversight Council’s initials really stand for “Firing Squad on Capitalism,” Piwowar, 46, said yesterday in a speech at the American Enterprise Institute in Washington.

    Capitalism died a long time ago, if it was ever truly alive.

    If capitalism were alive, the banks would have choked themselves to death, on their own cooking.

    If capitalism were alive, there would be no such thing as government bribery for corporations to locate in a certain area.

    If capitalism were alive, . . .

  4. pebird

    For me, the size of the financial sector, while telling in many ways, is less critical than the size of institutions inside the sector.

    It should be obvious that to have any level of transparency in complex systems, while you can’t have complete transparency, at least you can see how the system is functioning when the individual institutional size is relatively small and their function is clear.

    But what we have are these huge firms dominating the system, with no transparency as to what is going on inside. So, we create these complex regulations that the firms can easily game while they complain about government over-regulation. And transparency is lost, there is no market that can be monitored and power continues to flow uphill.

    1. Jim Haygood

      Unfortunately, as banking is subjected to an ever-expanding volume of complex regulation, large size is favored over small.

      ‘Compliance’ requires a large in-house staff, while outsourcing it is not cost-effective vs. TBTF competitors who do it in-house.

      No one starts mom-and-pop banks anymore. That era is over. M&A is the inevitable exit strategy for those which exist now.

      Abolishing interstate banking is probably the only way that small banks would ever be viable again. Centralization means big, period.

      It must be richly psychologically rewarding for the centralizers to wring their hands over Too Big To Fail, even as they impose the rules which make it inevitable.

  5. Chauncey Gardiner

    Thank you for this post. As as been said here previously, Capitalism comes in many flavors. The particular variety that we have now – the effective merger between the TBTFs, very large transnational corporations, central banks and government, without meaningful legislative counterbalance, regulatory oversight, or law enforcement for criminal behavior – is the most damaging form of capitalism to a society IMO. We saw the results of their system in the financial collapse of 2007-09.

    Of course the few who benefit from this system are going to defend it aggressively using their tried and true “The best defense is a good offense” approach, and they own the corporate MSM which gives them the megaphone.

    These individual regulators are just mouthpieces who have been installed to impede meaningful change IMO. They are looking at the revolving door rewards versus what happens if they don’t do as told.

    Btw, thank you particularly for the video clip that accompanied this post. Chair Yellen’s body language in the last frame of the clip after being questioned by Senator Warren regarding the “Stress Tests” for the TBTFs says a whole lot to me.

  6. steelhead23

    The only thing necessary for the triumph of evil is for good men to do nothing. Edmund Burke

    Once one is imbued with the belief in the Market God, all hindrances to its flamboyant discretion are viewed as evil. Those who profess such faith, like Mr. Pinowar, should not serve as regulators, protecting the public weal. His conflict of philosophical interest precludes his carrying out his responsibilities to the public. Not sure how SEC commissioners are chosen, but this one should be fired.

  7. susan the other

    A vast left wing conspiracy. To socialize the losses of the private TBTFs. For their profit. Stanley Fischer insinuated life could be worse if we tried to break them up. If we tried to impose a basic capitalist model on the world of finance things would not function? And they are not functioning now. It it beyond insane. All the banks serve to accomplish is pushing money in and out of their accounts and creating an illusion of a market. But that illusion has to be protected at all costs.

  8. sd

    The night before the invasion of Iraq (March 2003) there was a black tie gala at the AEI to celebrate. There’s an article out there on the internet that describes the giddy glee AEI members felt about the shiny new war and the soon to be dropping of bombs on Baghdad.

    Pretty much sums up everything you need to know about AEI.

  9. Jess

    “speaking before an assembly of fellow inmates at the American Enterprise Institute”

    Love the term “inmates”. Kudos.

  10. Oregoncharles

    “Fischer’s argument: that a financial system with more diversity (more types of specialized players) is much more robust than one with comparatively few players, and even worse, all offering very similar products and pursuing similar strategies. ”
    The logical connection is ambiguous, especially since the colon is hard to see. Does “that” refer back to Fischer’s argument, or to the refutation? (It has to be the latter – but it took me three readings to make sense of it.) Might be worth rewriting. More than one sentence, perhaps?

    1. Yves Smith Post author

      Please reread that section of the post. Andrew Haldane argued in favor of diversity of financial players. I said Fischer HAS to know of Haldane’s work. Haldane is too widely discussed among economists on the finance beat for Fischer not to be very familiar with it.

  11. Oregoncharles

    “There were widespread fears when President Obama announced Fischer as his nominee for Fed Vice Chair that Fischer’s previous ties to Citigroup would prove problematic” – so Martens and Yves have the unmitigated gall to suggest that Obama’s latest Fed nominee is a creature of the giant banks. How could they possibly say such a thing? After he thrashed them after the Great Collapse, and all?

  12. Oregoncharles

    And another, more significant text correction: ” until that mentality changes”. No, that should be until it “IS changed” – forcibly, from the outside. If there still is an outside.

  13. John

    TBTF is one problem, another is the vast sums of ever growing cash held overseas by American companies. They have so much it is becoming more of a burden because they don’t know what to do with it. There are no safe, low risk investments to hold it all and return on assets will become flat if nothing is done. One option I am sure the consultants are recommending is inversions to demonstrate performance. Of course, Uncle Sam will be deprived of tax revenue.

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