BPInsights: July 9, 2022

Stories Driving the Week

Do Mergers Make Urban Banking Markets Less Competitive? Rarely, if Ever.

The search for an urban U.S. banking market made less competitive by a bank merger turned up very little. A deep dive into urban banking markets considered highly concentrated as of last year showed that most are actually semi-rural parts of metropolitan areas. These areas tend to be more concentrated simply because of the presence of fewer banks in less densely populated areas. Other areas are highly concentrated because of historical bank failures or acquisitions of troubled banks, and some because of the organic growth of leading banks.

The findings: This BPI analysis builds on a previous BPI blog post that demonstrated robust competition in U.S. banking markets. The new post examines whether there are any urban markets that are, or became, highly concentrated due to a previous merger. In only three cases, the high level of concentration in an urban market appears to stem from a merger. In one other instance, a merger led to a meaningful increase in concentration in an already concentrated market.

Key context: Some elements of the merger framework may provide a distorted and overly narrow view of competition in local markets. For example, the current concentration analysis which relies on regulatory reporting tends to overstate concentration in markets that include bank branches with centrally booked out-of-market deposits or large institutional deposits – for example, a North Carolina bank that lends to startups nationwide. Regulators should also consider competition from fintechs and other nonbanks, as well as credit unions, when evaluating market concentration.

The bottom line: Current bank M&A policy has succeeded in preserving banking competition in U.S. cities and their surrounding areas, as this analysis supports.

Is Crypto a Ponzi Scheme? Look at History to Decide

They say that history doesn’t repeat but it does rhyme. Today’s crypto headlines bear a striking resemblance to the history of Charles Ponzi, the namesake of Ponzi schemes. From too-good-to-be-true pitches to celebrity endorsements, crypto’s perilous trajectory brings to mind many hallmarks of the original Ponzi scheme. A new BPI blog post lays out the similarities and the warning signs.

Living Wills: Why the Delay?

The Federal Reserve and FDIC’s decision on July 1 to delay feedback on large global banks’ living wills has “raised a lot of questions in the banking world,” Rob Schmidt and Jesse Westbrook wrote in a recent edition of their Capitol Account newsletter. The delay may portend a more controversial era of bank regulation ahead, they wrote. Here are some key takeaways from the episode, according to the writeup:

  • Breaking from consensus: Votes against the delay from two Fed governors, Michelle Bowman and Christopher Waller, came as a surprise, given the emphasis on consensus at the central bank.
  • Who’s driving the delay: The Fed was ready to weigh in on the resolution plans in December, but the FDIC asked for more time, punting the decision to July 1, according to the reporters, who infer that the FDIC may also be behind the latest delay. “Another factor may be the slow confirmation of Michael Barr,” who is expected to be confirmed after the Senate returns next week, they wrote.
  • What lies ahead: The report suggests potential tensions ahead, such as the FDIC board demanding changes to staff assessments, Acting Chair Gruenberg arguing for higher capital levels and Acting Comptroller Hsu pushing for regional banks to be subject to TLAC requirements. It also foreshadows the important role Michael Barr will play as vice chair for supervision in addressing any living-will challenges. “Resolving any impasse will likely be one of the first of many charged issues that Barr will face in his (expected) new job,” the reporters wrote.

Reinstated FDIC Committee Threatens to Politicize Supervision of Banks

The decision to revive the FDIC’s Supervision Appeals Review Committee and scrap the independent Office of Supervisory Appeals only a few months after it became operational threatens to exert political pressure on appeals of bank examiner actions, Americans for Tax Reform’s Bryan Bashur wrote in a recent American Banker op-ed. The change gives inside members of the FDIC board more direct authority over the appeals process, in contrast to the OSA which was set up to be a standalone office within the FDIC independent of other FDIC divisions. The FDIC issued a notice on the reversal only after it made the change, he noted – a move that reveals a lack of transparency. “The FDIC’s disinterest in soliciting feedback from parties that will be directly affected by this change in the appellate process shows an explicit disregard for due process,” Bashur wrote.

BPI and a coalition of bank trades objected to the change in a recent joint comment letter. The move violated longstanding norms of transparency and discarded due process protections, they wrote.

The Crypto Ledger

Instability roiled the crypto market again this week as Voyager Digital, a crypto brokerage and lender, filed for bankruptcy. Account holders likely will not get all their crypto back, according to Bloomberg. The FDIC is investigating whether Voyager misled its clients about the safety of their deposits. Crypto services firm Vauld may be acquired by lending platform Nexo shortly after Vauld suspended withdrawals. Meanwhile, Celsius users are losing hope about accessing their locked-up crypto – and some have accused the lender of being a Ponzi scheme. Here’s what’s new in the crypto ecosystem.

  • Crypto collapses hurt black U.S. investors: Losses from crypto market crashes have hit black American investors particularly hard, according to the Financial Times this week. A quarter of black American investors owned crypto at the start of this year, compared with 15 percent of white investors. The higher exposure makes black investors more vulnerable, an impact exacerbated by lower levels of wealth in the black community.
  • Inactivity fee: Crypto exchange Bitstamp scrapped plans for an “inactivity fee” in response to customer backlash.
  • Bitcoin as authoritarian tool: In El Salvador, the adoption of bitcoin as legal tender shows its dark potential as a tool of an authoritarian state, Salvadoran journalist Nelson Rauda Zablah wrote in a New York Times op-ed. President Nayib Bukele has used bitcoin hype to “whitewash his government’s growing authoritarianism on the world stage” and distract from corruption scandals, Zablah wrote. “[T]he economic freedom Bitcoin promises is worth nothing to Salvadorans if it’s the only freedom we can hope to have.”
  • FTX lifeline for BlockFi: Major crypto exchange FTX agreed to a deal that enables it to buy the troubled crypto lending platform BlockFi if the latter meets certain performance objectives.

Brainard Urges Keeping Crypto in Regulatory Perimeter

Recent volatility in the crypto market demonstrates the need to ensure crypto finance is within the regulatory perimeter, Federal Reserve Vice Chair Lael Brainard said in a speech on Friday. Crypto doesn’t yet appear to pose a systemic risk, she said. However, she noted that the Terra stablecoin crash “reminds us how quickly an asset that purports to maintain a stable value relative to fiat currency can become subject to a run.” She also observed crypto platforms’ vulnerability to deleveraging, fire sales and contagion, as demonstrated by withdrawal freezes at crypto firms and “the bankruptcy of a prominent crypto hedge fund.” She noted the interconnectivity between large crypto players in the ecosystem, and the role of DeFi as a stress amplifier. She also said the regulatory framework should reflect the principle of “same risk, same disclosure, same regulatory outcome.”

  • Stablecoin safety: Stablecoins purporting to be redeemable at par in fiat currency on demand must be subject to prudential regulation that limits run risk and payment system vulnerabilities, Brainard said.
  • Bank role: “Bank regulators will need to weigh competing considerations in assessing bank involvement in crypto activities ranging from custody to issuance to customer facilitation,” Brainard said, noting that bank involvement “provides an interface where regulators have strong sightlines and can help ensure strong protections.”
  • CBDC: Brainard also said “there may be an advantage for future financial stability to having a digital native form of safe central bank money – a central bank digital currency.”

In Case You Missed It

ECB Unveils Climate Exercise Results; No Impact on Capital

The European Central Bank this week released the results of its first major climate stress test, which showed a potential 70 billion euro hit across 41 institutions subject to the bottom up exercise.  The ECB noted that the results did not present concerns for the overall capitalization of banks and the results would not result in any Pillar 2 capital guidance this year. The test is meant to be a learning exercise rather than a true stress test that determines capital requirements.

‘Whole of Government’ Approach to Digital Assets Oversight Ensures Safety, Innovation Leadership

A coordinated approach across the federal government on regulating digital assets will ensure that the U.S. remains at the forefront of innovation while protecting consumers, the financial system and national security, BPI wrote in a comment letter to the Department of Commerce as it develops a digital assets competitiveness framework in connection with a recent executive order. “BPI supports innovation, but believes it must be conducted in a manner consistent with the safety and soundness of the financial system, national security, and robust consumer and investor protection,” Paige Pidano Paridon wrote in the letter. Additionally, a U.S. retail CBDC would likely fail to provide the benefits its proponents cite and would undermine the commercial banking system, the letter says.

Fed Survey Shows Worsening Liquidity in Treasury, MBS Markets

The Fed’s most recent Senior Credit Officer Survey included special questions on the liquidity conditions in U.S. Treasury and agency mortgage-backed securities.  The quarterly survey collects information on conditions in securities financing and derivatives markets.  The results of the most recent survey are available here.

All of the dealers surveyed reported that liquidity conditions in on-the-run Treasury markets had deteriorated, with over one-third indicating that the deterioration has been substantial.  Three-quarters stated that conditions in off-the-run securities had deteriorated.  Interest rate volatility was cited as the most important reason for the reduced liquidity.  Dealers also cited unbalanced order flows, diminished availability of dealer balance sheets, and reduced willingness of dealers to take risk as important reasons for the deterioration.  Dealers judge that elevated interest rate volatility and the Fed’s balance sheet reductions were the greatest risks to Treasury market liquidity over the remainder of 2022.

Roughly three-fifths of dealers reported that liquidity conditions in the MBS market had deteriorated.  Heightened interest rate volatility was the most cited reason for the illiquidity and the greatest risk to liquidity going forward.

Hsu Expects to Serve for ‘Foreseeable Future’

Acting Comptroller Michael Hsu said he hopes and expects to serve in the role for “the foreseeable future,” according to an American Banker article that cites an internal OCC email from May 10. Rep. Patrick McHenry (R-NC), the ranking member of the House Financial Services Committee, questioned whether Hsu would be eligible to serve beyond July 5, 2022, under the Vacancies Reform Act. Hsu responded that that law does not apply to his appointment. He pointed to another statute specifying that the first deputy comptroller serves as acting comptroller when the position is vacant. As acting OCC chief, Hsu has embarked on an ambitious agenda, including stablecoin issues, bank M&A scrutiny and climate risk management.

BNY Mellon Names McDonogh as New CFO

Bank of New York Mellon this week announced it has appointed Dermot McDonogh as incoming chief financial officer, starting Feb. 1, 2023. McDonogh, who has served in senior roles at Goldman Sachs, will succeed Emily Portney, who will assume a new role leading the firm’s treasury services, credit services and clearance and collateral management businesses.

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The views expressed do not necessarily reflect those of the Bank Policy Institute’s member banks, and are not intended to be, and should not be construed as, legal advice of any kind.