In an opinion piece yesterday, Big-bank rule may have fueled December’s stock market rout, Senator Thom Tillis argued that the Globally Systemically Important Bank (GSIB) surcharge could be one of the causes for the market volatility in December. He argued that this type of volatility should move “should not be happening with the economic fundamentals we currently have.” Given that Senator Tillis is a member of the Senate’s Committee on Banking, Housing, and Urban Affairs, I am concerned that there are a number of significant problems with his assertion about the role of the GSIB charge.
Senator Tillis provided no research to prove that the GSIB charge might have been a cause of the volatility. I applaud him for stating that we should look for the causes of December’s market volatility, but it is very unfortunate that he chose to use the volatility as an excuse to attack bank regulations, especially the GSIB charge. Markets move up and down due to market participants’ reaction to information and news about a wide range of domestic and global factors such as macroeconomic indicators, perceptions of country and sovereign risks, fiscal policies (or lack thereof), companies’ financials, trade, natural disasters, and terrorist attacks. In addition to fundamental analysis traders, other influential market actors are chartists, who trade based on historical market movements, and fusion traders, who combine fundamentals analysis with their charts. Additionally, a lot of stock grading these days is algorithmic trading. Particularly around the holidays in November and December, with thinly staffed desks, as traders and asset managers reallocate their portfolios, any piece of news can cause bigger price movements than normally would occur when we are not in a holiday period. If the GSIB charge causes market volatility, then why did we not have volatility the last couple of Decembers like we did this last December?
When I asked Christopher Whalen, Chairman of Whalen Global Advisors, what were the major causes of market volatility in December, he responded “Basically the unwind of [quantitative easing] QE plus the bigger factor on increased Treasury issuance has hurt liquidity and drove volatility. When spreads started to move in October, fixed income market and CLOs, in particularly, were wacked.” The $147 billion Treasury issuance Whalen mentioned was a big market mover, particularly in such thin holiday trading markets.
Dennis Kelleher, President and CEO of Better Markets, told me that, “The December volatility was primarily caused by two reasons. First, confusion and fear about Fed interest rate and balance sheet policies, which would slow the economy while precipitating a rotation out of stocks and into fixed income assets. Second, widespread political and policy chaos caused by Trump’s trade wars, government shutdown, and other personnel and policy disorder. Together these December developments suggested much risk of an economic slowdown if not a recession, which would be reflected in a stock market repricing.” Once the Federal Reserve ‘clarified its position, the market bounced back. “Of course, the obvious causal relationship would stop Wall Street’s political allies from using any and all events to bash even the most sensible and necessary regulations on the biggest, most dangerous banks, which were at the core of causing and spreading the 2008 catastrophic financial crash.”
History should matter to Senator Tills and to all of us. It is critical to remember that the failures and near failure of U.S. systemically important banks and non-bank financial institutions were key drivers of the 2007–08 financial crisis and the resulting prolonged recession. While the recession ended in 2009, millions of Americans as well as numerous cities and states are still suffering the effects of big financial institutions’ excessive risk taking. As explained in the Federal Reserve Board’s white paper, Calibrating the GSIB Charge, these failures “were also key drivers of the public sector response to the crisis, in which the United States government sought to prevent SIFI failures through extraordinary measures such as the Troubled Asset Relief Program.” The crisis made it painfully clear that a GSIB failure during a period of economic or market stress can inflict great damage to the financial stability not only of the Unites States, but indeed huge swathes of the globe. According to the 2015 report, the crisis also made it clear that globally systemically important banks “lack sufficient incentives to take precautions against their own failures, that reliance on extraordinary government interventions going forward would invite moral hazard and lead to competitive distortions, and that the pre-crisis regulatory focus on microprudential risks to individual financial firms needed to be broadened to include threats to the overall stability of the financial system.”
There are 12 indicators within the 5 factors of the GSIB charge. In working with banks, I see that it is really very difficult to window dress or manipulate the GSIB charge. A key factor within the GSIB charge is asset size, which has a weighting of 20% like the other factors. The GSIB score is a relative score, which means if one bank were manipulating the data, since these big banks know what their competitors do, then they too would try to make on-and-off-balance sheet changes. If you have a big sample of banks manipulating GSIB, they all would fall. It is a stretch that banks can try to move from one bucket to another.
The U.S. has sensibly gold plated some of the Basel rules, including the GSIB charge. Tillis should look at our banking system’s strength, especially in comparison to the European banking system. U.S. banks’ adherence to Basel III and Dodd-Frank rules have made them much more stable than they were in 2008. Does Tillis want our banks to be like European ones?
We know that roughly every seven-to-eight years, we have a banking crisis. Even if we were charitable and said every ten, can we say that U.S. banks really are ready for the next crisis? This late in the business cycle, this is hardly the time to continue weakening bank regulations.
Tillis also referred to the Financial Stability Board as an ‘international organization.’ Yes, the FSB is international, but it is not foreign. The U.S. is a key member of the FSB and is also one of the founding members of the Basel Committee on Banking Supervision (BCBS). Our bank regulators, the U.S. Treasury, and the Securities and Exchange Commission participate in a wide range of on-and-off site meetings and contribute in every aspect of proposing, finalizing, and later evaluating any guideline that comes out of the FSB or the BCBS. Presently, the FSB is headed by Randall Quarles, a member of the Board of Governors of the Federal Reserve System. According to Kelleher, to blame the December 2018 stock market volatility on the GSIB surcharge “is just Wall Street’s latest silly talking point to attack capital requirements, as well as defaming expert international regulators as mere ‘bureaucrats.’
Even if eventually proof were to appear that the GSIB charge causes some level of volatility in the market, it is important that legislators, market participants, and pundits remember that bank regulators are responsible for the safety and soundness of the U.S. banking system. It is not their job to police the stock market. According to Kelleher “The Op Ed entirely ignored the indisputable fact that the GSIB capital buffers have stabilized and strengthened U.S. banks and protected Main Street taxpayers from another crash.”
Moreover, the GSIB charge has not hurt U.S. banks competitiveness. According to Gregg Gelzinis, Research Associate at American Progress “The top five global investment banks measured by fee income are the subsidiaries of U.S. G-SIBs. In terms of global wholesale banking revenues, the top five U.S. banks gained market share between 2006 and 2016 at the expense of the top five European banks.” In addition, U.S. bank profits have been at all-time highs; the same certainly cannot be said of European banks, whose profitability has been very weak.
If anyone should be interested in big banks’ safety and soundness, it should be Senator Tillis. He certainly knows that Charlotte is the second banking capital of the United States. If a big bank were to implode, his constituents, and millions of Americans outside of North Carolina, would be badly hurt. Tillis should not let financial amnesia set in. Just because Americans cannot donate to his campaign like big banks do, does not make us children of a lesser God.
