A former director of the Atlanta Fed’s research department says troubled banks should be taken over under a law that dates back to the S&L crisis
By Ronald Fink 16 February 2009
While the Treasury busily fills in the gaps in its latest plan to save the banking industry, a former Federal Reserve official says that regulators should instead apply a law enacted in the wake of the savings and loan meltdown.
The law, the Federal Deposit Insurance Corporation Improvement Act, was signed into law in 1991. In an interview with Financial Week, Bob Eisenbeis, a former research director of the Federal Reserve Bank of Atlanta, said the FDICIA contains more than enough tools for regulators to help stem the current financial crisis.
If regulators had applied FDICIA’s provisions once the solvency of major banks was first called into question, Mr. Eisenbeis said, many would already have been taken over by Uncle Sam.
That would mean that their good assets would have been separated from their bad and sold off to healthy institutions or other investors.
This, he claims, would have gone a long way toward solving the credit crisis.
The most obvious candidate for such a takeover is Citigroup, which is considered by many analysts to be insolvent because its liabilities are worth vastly more than its assets.
Christopher Whalen, principal in the financial consulting firm Institutional Risk Analytics, estimated on Friday that Citi needs roughly $200 billion in additional capital, and that this would become apparent after the bank reports further losses in the first quarter of this year.
“When the Q1 numbers for the financials come out, the children’s hour in DC will end,” Mr. Whalen wrote in a note posted on the blog, The Big Picture. “The markets will react and Washington will finally be forced to have an adult conversation with the global community as to how much we haircut the bondholders.”
Mr. Eisenbeis insists that such a haircut should already have been provided, as FDICIA stipulates that the federal banking agencies “facilitate early resolution of troubled insured depository institutions whenever feasible if early resolution would have the least possible long-term cost to the deposit insurance fund.”
Instead, said Mr. Eisenbeis, the Treasury’s new Financial Stability Plan further delays such resolution.
A spokesman for the Treasury Department did not respond to a request for comment.
The Treasury’s Financial Stability Plan does call for all banks with at least $100 billion in assets to undergo a stress test to determine whether they have enough capital. The New York Times on Thursday reported that regulators have begun applying those tests, and are assuming a worse-case scenario to evaluate whether the banks’ common equity was equal to less that 3% of their assets.
If the equity does not meet that minimum threshold, the banks would have to raise more capital from investors. Barring that, they could take convertible preferred shares from the Treasury under the Capital Assistance Program of the FSP.
That program has onerous limits on recipients’ dividends, stock buybacks, acquisitions and executive compensation, however, which has led some observers to liken the program to a plan for gradual nationalization of troubled banks.
But Mr. Eisenbeis, for one, is skeptical that the Treasury’s stress test will lead to that, since the plan also provides for up to $1 trillion in financing from the Federal Reserve to help take bad assets off of banks’ balance sheets through a so-called “public/private partnership.” Essentially, the partnership is an investment fund that would warehouse the bad assets until they can be sold off to investors.
In theory, the offloading might remove enough assets from a banks’ balance sheet that it would qualify as sound under the Treasury’s stress test.
Without government help, Mr. Eisenbeis doubts many of the banks in question could meet any of FDICIA’s capital adequacy tests. “I don’t think they could pass even a modest shock,” he said.
Indeed, he said the Treasury’s approach suggests regulators have forgotten that the earlier law is in place, since the capital injections the department has provided since the Troubled Asset Relief Program was authorized by Congress last October reflect what Mr. Eisenbeis calls “regulatory forbearance.” Rather than apply FDICIA’s numerous capital adequacy tests, he said, regulators seem intent “to throw it out and start over.”
While that may buy the banks time in hopes that they won’t need further capital injections, Mr. Eisenbeis is skeptical. He said both the stress test and the plan to relieve banks of their toxic assets would only mask their losses - that is, if the banks aren’t required to value the assets on a mark-to-market basis.
Bank executives insist that they shouldn’t have to do that, because the banks intend to hold the assets until maturity rather than trade them. And some analysts suggest that skeptics such as Messrs Eisenbeis and Whalen are overstating the industry’s problems.
After the Times report, analyst Richard Bove of Ladenburg Thalmann issued a research note saying that all of the 18 banks subject to the Treasury’s stress test would have common equity of at least 3% of assets (based on values reported as of last Dec. 31). But Mr. Eisenbeis insists such a view flies in the face of FDICIA’s capital adequacy requirements.
“The flaw is that it’s all based on book value,” he said. Indeed, he contends that the failure of regulators to force banks to write down their losses based on actual market conditions - and then deal with the consequences - has merely delayed the solution to the financial crisis.
Mr. Eisenbeis isn’t alone. In a research note put out late last week, analysts at research firm, Friedman, Billings, Ramsey & Co. said the Treasury’s plan “does not adequately address the toxic assets on bank balance sheets,” since private investors in the proposed investment fund “will want to buy assets at distressed prices and the banks will only sell assets at above-market prices.”
The analysts, Paul Miller, Bob Ramsey and Annett Franke, echoed Mr. Eisenbeis’ preference for the government to take over troubled banks and restructure them.
“We would prefer to see the government take bold steps now, either putting the much-needed capital into financials or providing a closed-bank solution, in which the government briefly takes over the weakest financials (regardless of size), strips out the bad assets, and sells the good back to public markets.”
Nationalization? FDICIA stipulates that when the government bails out troubled institutions “pre-existing owners and debt-holders of any troubled institution or its holding company should make substantial concessions,” and that “directors and senior management should not include individuals substantially responsible for the troubled institution’s problems.”
Until such an approach is taken, Mr. Eisenbeis fears regulatory policy will just go in circles, and that insolvent banks will keep getting taxpayer support but won’t return to health.
He noted that Mr. Geithner’s proposed new investment fund isn’t much different from the Master Liquidity Enhancement Conduit that his predecessor, Henry Paulson, proposed back in the fall of 2007. At the time, Citi’s problems with assets taken off its balance sheet through so-called Structured Investment Vehicles were first coming to light. Mr. Paulson’s Super SIV was abandoned within a few weeks of its debut because it failed to attract enough investors.
“We’re back to Paulson’s Super SIV reincarnated – with no specifics.”
1 comment:
Could little-known banking law fix this mess?
A former director of the Atlanta Fed’s research department says troubled banks should be taken over under a law that dates back to the S&L crisis
By Ronald Fink
16 February 2009
While the Treasury busily fills in the gaps in its latest plan to save the banking industry, a former Federal Reserve official says that regulators should instead apply a law enacted in the wake of the savings and loan meltdown.
The law, the Federal Deposit Insurance Corporation Improvement Act, was signed into law in 1991. In an interview with Financial Week, Bob Eisenbeis, a former research director of the Federal Reserve Bank of Atlanta, said the FDICIA contains more than enough tools for regulators to help stem the current financial crisis.
If regulators had applied FDICIA’s provisions once the solvency of major banks was first called into question, Mr. Eisenbeis said, many would already have been taken over by Uncle Sam.
That would mean that their good assets would have been separated from their bad and sold off to healthy institutions or other investors.
This, he claims, would have gone a long way toward solving the credit crisis.
The most obvious candidate for such a takeover is Citigroup, which is considered by many analysts to be insolvent because its liabilities are worth vastly more than its assets.
Christopher Whalen, principal in the financial consulting firm Institutional Risk Analytics, estimated on Friday that Citi needs roughly $200 billion in additional capital, and that this would become apparent after the bank reports further losses in the first quarter of this year.
“When the Q1 numbers for the financials come out, the children’s hour in DC will end,” Mr. Whalen wrote in a note posted on the blog, The Big Picture. “The markets will react and Washington will finally be forced to have an adult conversation with the global community as to how much we haircut the bondholders.”
Mr. Eisenbeis insists that such a haircut should already have been provided, as FDICIA stipulates that the federal banking agencies “facilitate early resolution of troubled insured depository institutions whenever feasible if early resolution would have the least possible long-term cost to the deposit insurance fund.”
Instead, said Mr. Eisenbeis, the Treasury’s new Financial Stability Plan further delays such resolution.
A spokesman for the Treasury Department did not respond to a request for comment.
The Treasury’s Financial Stability Plan does call for all banks with at least $100 billion in assets to undergo a stress test to determine whether they have enough capital. The New York Times on Thursday reported that regulators have begun applying those tests, and are assuming a worse-case scenario to evaluate whether the banks’ common equity was equal to less that 3% of their assets.
If the equity does not meet that minimum threshold, the banks would have to raise more capital from investors. Barring that, they could take convertible preferred shares from the Treasury under the Capital Assistance Program of the FSP.
That program has onerous limits on recipients’ dividends, stock buybacks, acquisitions and executive compensation, however, which has led some observers to liken the program to a plan for gradual nationalization of troubled banks.
But Mr. Eisenbeis, for one, is skeptical that the Treasury’s stress test will lead to that, since the plan also provides for up to $1 trillion in financing from the Federal Reserve to help take bad assets off of banks’ balance sheets through a so-called “public/private partnership.” Essentially, the partnership is an investment fund that would warehouse the bad assets until they can be sold off to investors.
In theory, the offloading might remove enough assets from a banks’ balance sheet that it would qualify as sound under the Treasury’s stress test.
Without government help, Mr. Eisenbeis doubts many of the banks in question could meet any of FDICIA’s capital adequacy tests. “I don’t think they could pass even a modest shock,” he said.
Indeed, he said the Treasury’s approach suggests regulators have forgotten that the earlier law is in place, since the capital injections the department has provided since the Troubled Asset Relief Program was authorized by Congress last October reflect what Mr. Eisenbeis calls “regulatory forbearance.” Rather than apply FDICIA’s numerous capital adequacy tests, he said, regulators seem intent “to throw it out and start over.”
While that may buy the banks time in hopes that they won’t need further capital injections, Mr. Eisenbeis is skeptical. He said both the stress test and the plan to relieve banks of their toxic assets would only mask their losses - that is, if the banks aren’t required to value the assets on a mark-to-market basis.
Bank executives insist that they shouldn’t have to do that, because the banks intend to hold the assets until maturity rather than trade them. And some analysts suggest that skeptics such as Messrs Eisenbeis and Whalen are overstating the industry’s problems.
After the Times report, analyst Richard Bove of Ladenburg Thalmann issued a research note saying that all of the 18 banks subject to the Treasury’s stress test would have common equity of at least 3% of assets (based on values reported as of last Dec. 31). But Mr. Eisenbeis insists such a view flies in the face of FDICIA’s capital adequacy requirements.
“The flaw is that it’s all based on book value,” he said. Indeed, he contends that the failure of regulators to force banks to write down their losses based on actual market conditions - and then deal with the consequences - has merely delayed the solution to the financial crisis.
Mr. Eisenbeis isn’t alone. In a research note put out late last week, analysts at research firm, Friedman, Billings, Ramsey & Co. said the Treasury’s plan “does not adequately address the toxic assets on bank balance sheets,” since private investors in the proposed investment fund “will want to buy assets at distressed prices and the banks will only sell assets at above-market prices.”
The analysts, Paul Miller, Bob Ramsey and Annett Franke, echoed Mr. Eisenbeis’ preference for the government to take over troubled banks and restructure them.
“We would prefer to see the government take bold steps now, either putting the much-needed capital into financials or providing a closed-bank solution, in which the government briefly takes over the weakest financials (regardless of size), strips out the bad assets, and sells the good back to public markets.”
Nationalization? FDICIA stipulates that when the government bails out troubled institutions “pre-existing owners and debt-holders of any troubled institution or its holding company should make substantial concessions,” and that “directors and senior management should not include individuals substantially responsible for the troubled institution’s problems.”
Until such an approach is taken, Mr. Eisenbeis fears regulatory policy will just go in circles, and that insolvent banks will keep getting taxpayer support but won’t return to health.
He noted that Mr. Geithner’s proposed new investment fund isn’t much different from the Master Liquidity Enhancement Conduit that his predecessor, Henry Paulson, proposed back in the fall of 2007. At the time, Citi’s problems with assets taken off its balance sheet through so-called Structured Investment Vehicles were first coming to light. Mr. Paulson’s Super SIV was abandoned within a few weeks of its debut because it failed to attract enough investors.
“We’re back to Paulson’s Super SIV reincarnated – with no specifics.”
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