1. Don’t Keep Your Powder Dry
BPI Chief Economist Bill Nelson predicted on March 1 that the Fed would make a large inter-meeting interest rate cut in response to the weakening economic outlook and the associated decline in the stock market. These predictions resulted in a surge of coverage by numerous major media outlets, including CNBC’s Squawk Box. As predicted, the Fed cut rates by 50 basis points just a few hours later. Read More >>
2. Actions the Fed Could Take in Response to COVID-19
BPI projected that the COVID-19 epidemic would reduce economic activity, reduce market liquidity and could generate an increase in federally insured deposits at banks as investors looked to get rid of riskier assets. This blog post suggested steps that the Fed could take to mitigate these risks, many of which were later implemented. Read More >>
3.Reserve Requirements Should – and Must – Be Set to Zero
In a blog post published February 18, BPI CEO Greg Baer and Chief Economist Bill Nelson highlighted a conclusion by the Fed more than a decade ago that nonzero reserve requirements serve no monetary policy purpose in the policy implementation framework that the Fed currently uses. Therefore, the Fed should – and legally must — set reserve requirements to zero. The two explained that by setting reserve requirements to zero, the Fed could come into compliance with two laws, reduce the risk of money market turmoil witnessed in September 2019, reduce the amount it needs to blow up its balance sheet, increase the supply of credit to Main Street and eliminate the incentive it is creating for banks to engage in inefficient behavior that edges up liquidity risk.
4. The Fed’s Stress Scenario Remains Very Severe and It Is Tougher Than Last Year’s Test
The Federal Reserve published the CCAR 2020 macroeconomic scenarios on February 6. BPI conducted an analysis after the release and published a blog indicating that the severely adverse scenario was tougher than the 2019 scenario but less severe than the scenario used in the 2018 stress tests. Read More >>
5. What Next for Capital Requirements?
BPI published a series of blogs in May examining possible approaches the Federal Reserve could take in conducting its announced sensitivity analysis. This post indicated that while a severe continuing stress would leave banks in strong condition, the case for the Fed imposing such a stress as a binding capital requirement is not strong. It would be procyclical and would run expressly counter to other actions that it and the other banking agencies have taken to expand lending capacity. The post also recommended that the Fed should look to its earlier SCAP test for a guide on how to proceed, which was a favorable turning point in the 2007-09 crisis.
6. Have Banking Regulations Reduced Market Liquidity?
In March of this year, market liquidity evaporated under stress, not only in markets for corporate debt but also in the U.S. Treasury markets, which are ordinarily the most liquid of all markets. Market participants and the Federal Reserve attributed the evaporation of market liquidity to the exhaustion of the capacity of banks to provide liquidity to markets. BPI’s Chief Economist Bill Nelson and Special Advisor Pat Parkinson published a post recommending a broad review of how banking regulations affect market liquidity, with a view toward identifying specific elements of the regulatory framework that are unnecessary for bank safety and soundness and that, by impairing market liquidity, are making the financial system as a whole more vulnerable to shocks.
7. Would a Serious Second Wave of COVID-19 Require Banks to Reduce Their Dividends?
This post analyzed what the effect would be on bank capital levels if there were a second wave of virus and prolonged economic downturn, using the most severe stress scenario published by Moody’s Analytics. The results demonstrated that even in this scenario, banks retain sufficient capital to remain well above minimum capital requirements and maintain most of their capital buffers; as a result, none of the major banks would face dividend restrictions. The post also highlighted that the resulting increase in the stress capital buffer would decrease banks’ lending capacity.
8. Some Thoughts on the Bank Regulatory Picture: Dividends, CECL, Buffers and the Rest
This post featured arguments for why it would be bad public policy for the Federal Reserve Board to mandate a blanket halt to dividends by U.S. banks. In short, a governmental ban on bank dividends would:
- Not produce additional lending;
- Undermine the credibility of a regulatory regime that thus far has worked well; and
- Do permanent damage to the banking industry by driving its already low market values still lower, with adverse consequences for its ability to support economic growth.
The post concludes that those advocating for government-mandated dividend halts for banks (and only banks) appear to have adopted an “if it ain’t broke, let’s break it” approach to bank regulation. While perhaps politically appealing, such an approach is bad policy and a repudiation of the good work that both regulators and banks have done since the last financial crisis.
9. What Is Next for Capital Regulation? Hard Choices About Dynamism and Procyclicality
On June 25, the Federal Reserve announced the results of its annual stress test, supplemented by an ad hoc sensitivity analysis that was run in parallel. These results were accompanied by a requirement for firms to update their capital plans and the announcement of two new rules for the third quarter 2020 capital distributions – share repurchases are prohibited, and common dividends may not increase from second-quarter levels and are capped at an amount equal to the average of the bank’s past four quarters of earnings.
BPI President & CEO Greg Baer analyzed the policy rationales for the Federal Reserve’s new sensitivity analysis and capital distribution rules, including how they fit within the existing regulatory regime. The post describes an unavoidable tension between dynamism and procyclicality in capital requirements and concludes that the Federal Reserve should commit to implementing the stress capital buffer (SCB) to govern capital distributions for the fourth quarter. If the Fed should decide that a further degradation in economic conditions warrants another sensitivity analysis – whether as an examination tool, a public disclosure tool or as the basis for share repurchases or dividend limits or a retooled SCB – it should be clear about its purpose, and revisit all the assumptions of the analysis to conform to that purpose.
10. A New Path to Offering Small-Dollar Loans
Understanding that a large share of the U.S. population is financially fragile and constrained in their ability to cope with unexpected events, such as a drop in income, loss of a job, or an emergency expense, BPI released a study comparing small dollars lending products. The study finds small-dollar credit products provided by non-banks have very elevated APRs and are underwritten with minimal consideration to the borrower’s ability-to-repay. Generally, there is a lack of disclosure or transparency regarding the likely, ultimate all-in costs to the borrower of such loans. The repayment of such loans is often not affordable, thereby necessitating the rollover of the loan.
The study concludes that there is a need for small-dollar lending products that would meet Americans’ short-term, small borrowing needs in a responsible manner, and it proposes a design of a responsible small-dollar lending product that would provide temporary liquidity at relatively low cost, with transparent terms that are fully understood by the borrower. Enabling more banks to offer responsible small-dollar lending products would improve the welfare of U.S. households that struggle to pay small and unexpected expenses.
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