Top of the Agenda
BPI, INDUSTRY HIGHLIGHT PROCYCLICAL IMPACT OF CECL ACCOUNTING STANDARD AT HOUSE HEARING
On December 11, BPI’s Chief Economist Bill Nelson testified at a House Financial Services Subcommittee on Financial Institutions and Consumer Credit hearing on the procyclical effects of FASB’s Current Expected Credit Loss Accounting Standard. Under CECL, banks will be required to maintain a loan allowance that equals, for each loan, total losses expected over the life of the loan. CECL was intended to be counter cyclical – the goal being for banks to build their allowances in boom years, when lending standards weaken and then draw them down in a recession, when lending standard tighten. Nelson shared findings of his working paper with Francisco Covas, Head of Research, that demonstrated that CECL will, in fact, be procyclical in practice and exacerbate an economic downturn. “Had CECL been in place during the Financial Crisis, we estimate that banks’ capital ratios would have been 1.5% lower in the third quarter of 2008,” Nelson noted. “Those capital ratios would have reduced bank credit supply by an additional 9%, worsening the crisis.”
Scott Blackley, Chief Financial Officer of Capital One Financial Corp., also testified and spoke about the harmful impact CECL will have on lending. He recommended that the adoption of CECL be delayed for a thorough study of its impact. In the absence of any such delay, Capital One has suggested establishing an allowance for the lifetime of an asset on the balance sheet but recognize the provision for credit losses. CECL “would mean that banks would be further limited in their ability to lend during a crisis, which is damaging not only to consumers and small businesses but also to the economy more broadly,” he said. “As demonstrated by the financial crisis, driving more lending out of regulated banks and into unregulated financial institutions will harm both consumers and the financial system.”
Lawmakers on both sides of the aisle raised concerns about the impact of CECL and called for further study. Congressman Brad Sherman (D-CA) said CECL “deserves additional study” and Subcommittee Chairman Blaine Luetkemeyer said FASB should amend the final rule to consider existing bank capital rules that already require institutions to hold capital against expected losses. Congressman Gregory Meeks (D-NY) added, “My concern is that we’ll see a reverse effect and people won’t have access to capital and loans, and that drives people to payday lenders. By contrast, Mark Zandi, Chief Economist for Moody’s Analytics, reported his findings that CECL would in fact be less procyclical than the current methodology. Read More
INDUSTRY FORUM HIGHLIGHTS CONCERNS OF CECL WITH FASB OPEN TO STUDYING ALTERNATIVES
Barclays hosted a half-day seminar on CECL for a broad-based group of investors with several participants expressing concerns about the procyclicality of CECL. BB&T was among the 21 banks that sent a letter to FASB outlining ways to reduce the negative impact of CECL. BPI’s Head of Research, Francisco Covas, presented at the conference and noted that under the Federal Reserve’s CCAR stress test baseline scenario, the estimated CECL-based loan loss allowances for the 35 banks in aggregate is approximately $100 billion but CECL-based allowances would jump by $500 billion to $600 billion in the Federal Reserve’s 2018 severely adverse scenario due to the assumption of perfect foresight. This would lead to a material increase in capital requirements unless the Fed makes some adjustments to how CECL is implemented in CCAR. Still, Harold Schroeder, a Member of the Financial Accounting Standards Board said FASB will engage the banks and “keep an open mind” with respect to their CECL alternative and it is looking into if the split of the reserves over the next 12 months is reasonable and supportable. Read More
BPI Events
COLUMBIA/BPI 2019 RESEARCH CONFERENCE – BANK REGULATION, LENDING AND GROWTH
The Bank Policy Institute and Columbia University’s School of International and Public Affairs invite submission of papers for a conference on Bank Regulation, Lending and Growth. The purpose of the conference is to bring together academics, market participants, and policymakers to discuss the latest research on how regulation affects credit formation and economic activity.
March 1, 2019, Columbia University, NYC. Read More
BPI HOLIDAY PARTY
A successful BPI holiday party was held on December 4 to kick off the holiday season.
Industry News and Events
BASEL ISSUES REVISIONS TO LEVERAGE RATIO DISCLOSURE REQUIREMENTS
On December 13, the Basel Committee released revisions to its leverage ratio disclosure requirements, addressing concerns of “potential regulatory arbitrage” by banks engaged in “window-dressing” or temporarily reducing transaction volumes in key financial markets around reference dates to result in elevated leverage ratios. The proposed revisions would include in addition to current requirements, mandatory disclosure of the leverage ratio exposure measure amounts of securities financing transactions, derivatives replacement costs and central bank reserves as calculated using daily averages over the reporting quarter. Read More
BASEL RELEASES UPDATED PILLAR 3 DISCLOSURE REQUIREMENTS
On December 11, the Basel Committee issued its updated Pillar 3 disclosure requirements, which implement changes made in the Basel IV capital framework it released last year. The updated requirements cover disclosures in operational-risk, leverage-ratio, and credit-risk and-valuation arenas, and include new requirements for asset encumbrance and capital distribution constraints. The new expectations for credit valuation adjustment risk have also been “substantially streamlined” from those originally proposed. Read More
G30 REPORT ON GOVERNANCE AND CONDUCT HIGHLIGHTS PROGRESS FROM BANKING INDUSTRY POST CRISIS
The Group of 30 (G30) issued a report on November 30th examining the evolution of conduct and culture in the global banking industry post financial crisis. The report titled, Banking Conduct and Culture: A Permanent Mindset Change, notes areas of progress, and offers recommendations. The report, which is part of the G30’s multi-year focus on governance, supervision, boards, conduct and culture, found that in recent years banks have done significant work at the most senior levels in conduct risk management. Read More
SENATE CONFIRMS MUZINICH AS DEPUTY TREASURY SECRETARY
The Senate voted 55-44 on December 11 to confirm Justin Muzinich as Deputy Treasury Secretary. Muzinich has been serving as a counselor to the Treasury Secretary with a focus on domestic finance, helping on the passage of the tax bill passed last year. He previously worked at Morgan Stanley and was the president of Muzinich & Company, an international investment firm founded by his father. Read More
SENATE BANKING COMMITTEE ADDS SINEMA, SMITH TO PANEL
Senate-elect Krysten Sinema of Arizona and Senator Tina Smith of Minnesota will join the Democrat side of the Senate Banking Committee next year in the 116th Congress. Senate Minority Leader Chuck Schumer (D-NY) made the committee announcements on December 11. These assignments were agreed to by the Democratic Conference and are subject to ratification by the full Senate when Congress convenes in January. Read More
GOVERNMENT FUNDING HITS DECEMBER DEADLINE TO AVOID A SHUTDOWN
Funding for portions of the government expires on December 21. Congress and the President have previously approved funding bills for three quarters of the $1.2 trillion in operating expenses for federal agencies. As a result, only some agencies would be closed when funding runs out after Dec. 21, and even in those essential employees would still report to work. Agencies facing a partial shutdown are the Homeland Security Department, though many of the agency’s law enforcement agents will remain on the job because they’re considered essential. The Securities and Exchange Commission would halt new investigations except where needed “for the protection of property.” Read More
Research Rundown
MARKETS, BANKS, AND SHADOW BANKS (MARTINEZ-MIERA, REPULLO)
This column examines the effect of bank capital regulation on the structure and risk of the financial system using a model that includes regulated banks, direct market finance, and shadow banks. The authors find that when shadow banks are included, tightening risk-insensitive capital requirements lead to a market equilibrium in which direct market finance funds the safest projects and shadow banks fund intermediate-risk projects, and regulated banks fund the riskiest. Tightening risk-sensitive requirements gives an equilibrium in which banks and shadow banks are transposed, with banks taking on intermediate-risk investments and shadow banks taking the riskiest. Read More
HOW THE GREAT RECESSION HURT THE MIDDLE CLASS—TWICE (HERSHBEIN)
The post explores the differential effects of the Great Recession on people in the bottom, middle, and top of the income distribution using Current Population Survey microdata. The author finds that wage growth from 2006 to 2016, before and after the recession, was weakest for the second and third quintiles and strongest at the top. The effect of rising minimum wages and weak growth in the middle class is that bottom and middle incomes are compressed while top incomes pull away. Read More
NON-MONETARY NEWS IN CENTRAL BANK COMMUNICATION (CIESLAK AND SCHRIMPF)
This paper uses bond yields and equity returns to categorize various forms of central bank communication by market response, then uses this categorization to analyze the composition of central bank news. The authors find that most news from the four major central banks is about economic activity and risk premia rather than monetary policy. Read More
THE U.S. SYNDICATED LOAN MARKET: MATCHING DATA (COHEN ET AL)
This paper describes a new software package for matching entities and observations in corporate loan datasets that lack a common identifying variable. The software’s development is motivated by the common use of three key datasets in the study of syndicated loans. These datasets are a powerful tool when combined, but the matching process is cumbersome. Read More
MONETARY INDEPENDENCE AND ROLLOVER CRISES (BIANCHI AND MONDRAGON)
This paper uses the canonical sovereign default model to study the relationship between monetary autonomy and vulnerability to rollover crises (when governments are not able to roll over their liabilities from one period to the next). The authors find that investors are more prone to run on government bonds when a government is not monetarily independent. Read More
