BPInsights: May 28, 2022

Stories Driving the Week

Any Bank Resolution Plan Revamp Must Go Through Proper Channels

Acting Comptroller Michael Hsu recently suggested large regional banks (with more than $500 billion in total assets) should convert to a single-point-of-entry resolution strategy and issue a large amount of “bail-in-able” debt. Such an overhaul to a GSIB-like resolution model would radically reshape these banks’ living will plans and transform their funding models. Hsu suggested the OCC may impose such a new requirement as a condition to large regional banks’ merger approvals.

Concerns: Setting aside the substantive merits of Mr. Hsu’s idea (which BPI will address elsewhere), his proposal raises serious procedural and fairness concerns.

  • It would be inconsistent and potentially interfere with existing resolution planning requirements.
  • It would circumvent procedural safeguards put in place by Congress to support transparent policymaking through public notice and comment.
  • It would create inequities among banks of similar size and risk profile. A bank with $500 billion in assets that grows organically would be treated differently than a bank of the same size growing through M&A.
  • It could chill mergers among large regional banks, acting as an impermissible de facto moratorium on large regional bank mergers.

The bottom line: The M&A approval process should not be used to circumvent the carefully crafted resolution planning process and administrative procedure enacted by Congress.

To learn more, access a BPI blog post here.

What Would Come From a U.S. CBDC? Dubious Benefits, Significant Costs, Trades Say

Amid a House Financial Services Committee hearing this week on the benefits and risks of central bank digital currency, BPI provided a statement for the record outlining its extensive analysis done to date. The materials illustrate the economic constraints and higher costs that could result from the Fed issuing a CBDC.

Additionally, a group of trades including BPI highlighted the major costs that a U.S. CBDC could impose, with questionable benefits to offset them. A U.S. CBDC would raise borrowing costs and drain funding from the private sector economy, the trades wrote in a letter to the committee’s leaders.

  • Brainard weighs in: Federal Reserve Vice Chair Lael Brainard said at the hearing that the Fed is considering ways to lessen any CBDC’s impact on bank deposits, such as not paying interest on CBDC accounts or limiting the amount of CBDC that users could hold. (Note BPI disputes the efficacy and durability of these cures.)
  • Global view: Many central banks in developed economies have not identified a clear use case for a retail CBDC, according to a recent Kansas City Fed briefing. The motivation and use case to issue a retail CBDC appears to be stronger among developing nations, particularly in economies reliant on cash or with less developed banking systems.

The Crypto Ledger

Investors are questioning what happened to TerraUSD’s bitcoin “reserves.” A nonprofit foundation backing the stablecoin deployed much of its bitcoin war chest in a failed effort to maintain TerraUSD’s dollar peg. BPI has warned of the dangers of stablecoins backed by “reserves” that are actually volatile assets.

  • OCC says: ‘Hype is not harmless’: TerraUSD’s tumble should serve as a wakeup call for the crypto industry to recalibrate its approach, acting OCC chief Michael Hsu said in a recent speech. “The TerraUSD holder stories are heartbreaking and a strong reminder that hype is not harmless,” Hsu said. He said weaknesses in the crypto market, such as contagion risk, susceptibility to hacks and “underdeveloped” custody and ownership rights, “make the crypto space very dangerous for investors of modest means.”
  • Binance’s advice: not a safe or happy bet: Major crypto exchange Binance promoted an investment option for clients to lend out Terra stablecoins in return for nearly 20 percent yields as a “safe and happy” opportunity weeks before the stablecoin crashed, the Financial Times reported.
  • Crypto’s potential insider trading problem: One challenge in the crypto world – how to prevent market-sensitive information from leaking. According to the Wall Street Journal, public data suggests that several anonymous crypto investors profited from inside knowledge of when cryptocurrency tokens would be listed on exchanges, giving the example of Gnosis coins.
  • ‘Not your keys, not your coins’: paper by Adam Levitin explains the legal framework governing what happens to crypto assets held in custody for clients if a crypto exchange failed. The legal framework that protects customers whose stocks, commodities and cash are held for safekeeping by a bank or brokerage does not exist for crypto custody in all cases, Levitin writes. The consequences: Bankruptcy courts could determine that the crypto assets are the property of the failed exchange, rather than the customers.
  • Crypto crash hit black Americans hard: The recent crypto turmoil may have had a disproportionate impact on black investors, according to The Economist. The article cites a survey finding that 25 percent of black Americans own crypto, compared to 15 percent of white Americans.

CFPB Shutters Fintech Sandbox Program

The CFPB ended a fintech “sandbox” program that issued no-action letters to financial technology startups. Director Rohit Chopra announced this week that the former innovation office has been rebranded as the Office of Competition and Innovation. It will focus on promoting competition, hosting events and supporting customers’ ability to switch financial services providers.

Highlights: 6th BPI/Columbia University Bank Regulation Conference

The sixth annual Conference on Bank Regulation of the Bank Policy Institute & Columbia University School of International and Public Affairs took place on May 26, 2022. The conference is designed to bring together academics, policymakers, and market participants to promote a cross-fertilization of ideas.  The conference included three panels with academic papers covering the topics of fintech versus bank lending, physical and transition risks from climate change, and the effect of climate disclosures on bank behavior. The conference also included a panel discussion on mergers and acquisitions and fintech competition in banking. Finally, Nellie Liang gave the keynote remarks covering financial risks associated with climate change and digital assets. The papers and presentations will be posted here.

In Case You Missed It

As Mortgage Lenders Are Pressured by Rising Rates, Here’s a Way for Banks to Bolster Lending

Mortgage lenders are facing pressure from higher rates that make borrowers less interested in refinancing, an issue the Wall Street Journal recently highlighted. The mortgage lending market is increasingly dominated by nonbank lenders, partly due to tighter regulatory requirements rendering it difficult for banks to make such loans. The failure of nonbank lenders would lead to disruptions in mortgage servicing that harm communities. A BPI post gives crucial context for today’s mortgage market and offers a solution that would bring banks back into the mortgage lending space and boost homeownership among low- to moderate-income families. The U.S. banking agencies could expand mortgage credit availability for these households by enabling a more efficient shift of mortgage credit risk from banks to the private sector, subject to rigorous rules.

Quantum Computing Could Be Years Away. Why Does It Matter Now?

Cyber executives in the banking industry are increasingly focusing on quantum computing. But the paradigm-shifting technology is years, perhaps over a decade, away from affecting cybersecurity in the financial sector and elsewhere – so why does it matter now?

  • Its effects could be astronomical: Many online services, such as shopping and travel sites, that consumers rely on could become less secure if a quantum computer were to become available today.
  • There is a sense of scientific progress as major tech firms make announcements and set near-term targets for computing power and sophistication.
  • The opportunities are boundless – quantum technology could be harnessed to improve financial models or make breakthroughs in artificial intelligence.

Kansas City Fed’s George to Retire

Kansas City Fed President Esther George this week announced she plans to retire in January 2023. The retirement aligns with the mandatory retirement policy for Reserve Bank presidents. George has served as president since October 2011 and marked 40 years of service at the Kansas City Fed in April. She spent much of her career in the Division of Supervision and Risk Management and was directly involved in the Tenth District’s banking supervision and discount window lending activities during the banking crisis of the 1980s and post-9/11.

The departure adds another vacancy to the top echelons of Reserve Banks – Charles Evans, president of the Chicago Fed, also plans to retire in early 2023. Lorie Logan, a top New York Fed official, will take over as president of the Dallas Fed in August 2022.

Deep Dive: How to Compare Banks’ Financial Stability Effects, Before and After a Merger

A recent research note by BPI’s Greg Baer, Bill Nelson and Paige Pidano Paridon discusses the legal basis for the requirement that the U.S. banking agencies consider the financial stability implications of a proposed bank merger or acquisition and the broad set of factors that the agencies should include in considering a proposed merger’s potential effect on financial stability. A follow-up note published this week breaks down some technical considerations on how to compare the financial stability risks of two banks before a merger to the potential risks posed by the bank created by the merger. The comparison uses the “expected systemic cost of failure” – which is simply the probability of failure times the systemic cost of failure (SCF). In particular, the sum of the expected SCF of each of the two merging banks should be compared with the expected SCF of the merged entity. An alternative approach would be to ignore the probability of failure and simply assess whether the SCF (not the expected SCF) of the merged entity exceeds some threshold, but such an approach would be incorrect.

Congratulations to BPI’s Alix Roberts

Alix Roberts, AVP of Regulatory Affairs, will be departing this summer after three years at BPI to attend Columbia Business School. We are very excited for Alix, thank her for her excellent work and wish her the best of luck in her next chapter.

Bank of America Announces More Electric Car Chargers, Higher U.S. Minimum Wage

Bank of America will more than double the number of financial centers with electric vehicle charging stations by the end of next year, the bank announced this week. The bank also raised its U.S. hourly minimum wage to $22 as part of its plan to increase the wage to $25 by 2025.

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Disclaimer:

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.