Yves here. Wolf Richter highlights a new (April 2) paper posted at New York Fed’s Liberty Street Economics site, written by Haelim Anderson, a senior economist at the FDIC, and Adam Copeland, an an assistant vice president in the Federal Reserve Bank of New York’s Research and Statistics Group. This looks like a timely piece of research rather than a policy recommendation (recall that the IMF’s research unit puts out all sorts of forward-thinking work that its program side ignores). Nevertheless, the very, erm, timeliness makes one wonder if this piece is a trial balloon.
Readers might wonder why supposedly sophisticated investors and companies would keep more than $250,000 in a bank. After all, the really big boys use repo as an alternative to keeping money in banks (your funds go to a counterparty and you get securities as collateral as your protection) and mere wealthy individuals use brokered deposits to spread their funds around so that no particular bank has more than $250,000.
It’s operationally too cumbersome to spread funds used for payroll out among banks. A company beyond non-trivial in size will have more than $250,000 in its accounts for its monthly or bi-weekly payroll. Similarly, any company that gets or places large-ish orders will regularly have transactions larger than $250,000 moving through its accounts.
While there are likely other banks that the authorities are keen to protect with this “hide the dirty laundry so as to prevent bank runs” routine, it’s not hard to imagine that one is the long-standing problem child of Citigroup’s international cash management operations. It was formerly called “GTS” and was a critical utility for many multinational. It is not clear whether Citi is as clear a leader in this business (and hence has outsized market share) as it did before and shortly after the financial crisis, but it is at least still a very important player, confirmed by Citi getting top marks in an industry survey in 2019.
Immediately below is a description from our 2010 post on GTS and how it made Citi “too critical to fail”. The bigger point is that any bank with a reasonably large international cash management business would be in precisely the same position. And despite this obvious vulnerability, there’s no evidence that regulators have attempted to defuse these bombs.
GTS is a big cash management/information service. It is also a bread and butter earner for Citi. Per the Journal:
Otis Otih, the treasurer of candy maker Mars Inc., uses GTS to handle most payments to employees and vendors of Mars operations in 68 countries. “Citibank is the only truly, truly global company for us — I don’t see any alternative,” he says.
As an example of what the unit allows multinationals to do, an Asian subsidiary of a European company can deposit funds with Citigroup locally and the money will instantly show up on the ledger of the parent a continent away. The system makes it easier for corporate treasurers to manage their finances, and many corporate and government clients outsource a wide range of other finance work to GTS….
Executives told officials with the Treasury Department and the Fed that GTS’s technology and presence in more than 100 countries made it too dangerous for the U.S. to let Citigroup collapse. The Treasury gave the bank a second big helping of $20 billion just six weeks after an initial $25 billion infusion from the Troubled Asset Relief Program, partly in recognition of GTS’s importance to the financial system, according to government and company officials….
While Citigroup is primarily known for its retail banking and credit-card businesses, the GTS unit is increasingly integral to the parent company’s functioning. Clients that move funds through GTS leave a lot of cash on deposit at the unit, which funnels the money to other parts of Citigroup for lending or other uses. GTS’s deposit-gathering muscle has grown more important since the financial crisis began, now providing about 40% of Citigroup’s $800 billion of deposits.
Yves here. GTS is a big piece of what makes Citi a difficult to disarm bomb. One of the swords of Damocles that the big bank had over the officialdom is that, prior to the crisis, it had $500 billion of uninsured foreign deposits. If Citi looked wobbly, sensible depositors would withdraw funds, and that could quickly morph into a run. Moreover, the any other international bank with meaningful cross border deposits could come under scrutiny (although it is odd more of this has not happened in the wake of the implosion of Iceland, which left a number of UK borrowers high and dry until concerted pressure on Iceland produced some restitution).
The Journal argues that GTS is essential to Citi. This is rubbish. GTS is a sophisticated payments system and a source of low-cost deposits. It may provide a foot in the door, and help deepen some relationships, but let us face it, cash management and payments systems are at best assistant treasurer relationships at big companies. Proof of the pudding: it is a no-brainer that companies like Goldman, Morgan Stanley, Barclays, and UBS are doing complex, high margin transactions at companies that are also using GTS.
Another issue with the authorities’ “If we hide bad information, we prevent runs on banks” is that it will make interested parties even more eager to seek out information however they can. I was hardly all that plugged to informal sources in 2008, but in August, I was hearing of large-scale withdrawals at Citi and WaMu. If I had this sort of thing being tossed over my transom, don’t you think hedgies, who might see both risk and opportunity, would seek out this sort of intel aggressively?
And in the absence of information, rumors will be taken way more seriously than they would otherwise be.
Now to Wolf’s important post.
US banks are now finding themselves in a situation where homeowners don’t have to make mortgage payments for few months, and renters don’t have to pay rent for a while, which leaves many landlords unable to make their mortgage payments – not to speak of the many Airbnb hosts that have no guests and won’t be able to make their mortgage payments. Commercial real estate is in turmoil because the tenants have closed shop and cannot or won’t make rent payments, and these landlords are going to have long discussions with their bankers about skipping mortgage payments. And subprime auto loans and subprime credit card loans, which were already blowing up before the crisis, are now an unspeakable mess, as tens of millions of people have suddenly lost their jobs.
Amid this toxic environment for the banks, here come the New York Fed and the FDIC and tout the “Value of Opacity in a Banking Crisis,” explaining, supported by empirical data from the Great Depression, that it’s better to stop disclosing balance sheet information about individual banks.
So here we go, as to why it’s important for “authorities” to lie about banks during a crisis. It’s not directed at households, as we’ll see in a moment – but at corporations, hedge funds, PE firms, state and local government entities, and other institutional bank customers whose bank balances by far exceed deposit insurance limits and that would yank their mega-deposits out of that bank at the first sign of trouble.
The authors of the article, a joint production by the FDIC and the New York Fed, cite Great Depression data before the arrival of FDIC deposit insurance to show how lying about balance sheets of individual banks is beneficial in ending runs on weak banks. They’re talking about accounts that were uninsured at the time, and that’s the key for today, as we’ll see in a moment.
Currently, US banks have to provide summary statistics about their balance sheets (“call reports”), which is made publicly available in a data base by the Federal Financial Institutions Examination Council (FFIEC), a U.S. government interagency entity of banking regulators.
“During normal times, regulators have long recognized that disclosure is an important tool that helps the market to discipline banks,” the article says. But now are not “normal times”:
In a crisis, however, theory predicts that undesirable outcomes can occur if the publication of balance sheet information induces runs on solvent banks. As a result, it may be desirable for regulators to suspend the publication of bank-specific information during a crisis so as to make banks more opaque to depositors.
Such a policy action prevents depositors from being able to distinguish between banks with stronger and weaker balance sheets, reducing the chance that depositors will run on a weak, but still solvent bank (an inefficient type of bank run).
The researchers relied on data on deposits at New York banks during the Great Depression before the arrival of the FDIC in January 1934. This was the period when deposits were not insured. New York had two differently regulated sets of banks: state-chartered banks and nationally charted banks, each with their own regulators.
To convince “panic-stricken” households in New York that their deposits would remain liquid and safe, the New York state bank regulator suppressed bank-specific information by not collecting and mandating the publication of call report data in 1933 and 1934 for those institutions under its oversight (banks with a state charter). This policy decision effectively ended the public’s ability to observe the balance sheets of state‑charter banks for two years.
In contrast, the Office of the Comptroller of the Currency (OCC) collected and mandated the publication of balance-sheet statistics for banks under its oversight (banks with a national charter).
Suppressing balance sheet data reduced the outflow of deposits at those banks, compared to banks that disclosed balance sheet data, with state-charter banks faring “better in June 1933 because of the New York state bank regulator’s policy of information suppression.”
But in 1934, after the FDIC deposit insurance became effective, deposit flows reversed, with deposits flowing back into banks, and those deposit inflows converged, with both state-chartered banks (that suppressed balance sheet information) and nationally charted banks (that disclosed balance sheet information) gaining deposits at a similar rate:
Having deposit insurance makes household depositors much less sensitive to bank-level information; once they are insured, depositors no longer have an incentive to monitor banks and so they pay less attention to the publication of balance-sheet statistics.
As a result, the introduction of deposit insurance makes irrelevant the gains from making the balance sheets of state-charter banks more opaque, placing national‑charter and state-charter back on an equal footing.
But wait… That’s not where this story goes.
It U-turns right at this spot in a conclusion, titled “Why Does This Result Matter Today?”
Even with the FDIC’s deposit insurance program, public disclosure of the portfolio of assets held by banks matters because banks issue significant amounts of debt that is not insured (for example, a significant fraction of bank deposits today are not insured by the FDIC).
These uninsured deposits are in accounts that exceed by a wide margin the FDIC deposit insurance limit of $250,000. They’re held mostly by businesses, institutions, state and local government entities, hedge funds, PE firms, and the like. They may have hundreds of millions or even billions of dollars in their transaction accounts.
Few households have daily liquidity needs that exceed FDIC deposit insurance limits, and savers can spread their bank deposits to different banks and stay within the FDIC limits with each deposit account.
Also, these “call reports” are not easy to dig up and read – though they’re available online. This is something that normal households have neither the time nor the expertise to deal with. So this suppression of information is not directed at savers and households.
But it is directed at businesses, state and local government entities, hedge funds, PE firms, and other institutional bank customers that need big balances in their accounts to fund their operations on a daily basis, engage in transactions, and the like, and that have the staff and expertise to study the call reports and use them as actionable data. And they’d yank their mega-deposits out of that bank at the first sign of trouble appearing in the call reports.
The New York Fed concludes:
Consequently, our results are relevant today and demonstrate there is value in having regulators suppress bank-specific information in a crisis as a way to stem runs on those banks by depositors and other types of investors.
These “other types of investors” are bond holders who would sell their bank bonds at the first sign of trouble in the call reports, thereby driving up the yield of the bonds and making funding for the bank more expensive and difficult; and these “other types of investors” include counterparties that might refuse to do business with the bank at the first sign of trouble.
It is interesting that the “value” of suppressing information about bank balance sheets are being touted now as banks are suddenly finding themselves stuck in a financial crisis so vast that the Fed decided to unleash the biggest amount of money printing in history in an attempt to bail out all aspects of Wal Street.
And it is even more interesting that this is so clearly directed at business and institutional bank customers and counterparties that apparently need to be kept in the dark about the health of their banks, lest they yank out their large deposits.
Runs on the bank don’t take place today by people waiting in line at the branch to take out their $500 in savings. They happen when corporations, financial entities, and counterparties lose confidence in the bank and yank their millions and billions out.
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