Skip to main content

Some Banks Hoping To Be Too Small To Fail

  • Author:
  • Updated:

I feel like if I were the Financial Services Roundtable and I wanted to send a letter to Congress telling them to get rid of a rule that gives lashings of government support to little banks at the arguable expense of, um, this cast of ne'er-do-wells, I would do it anonymously. Or, like, I'd try to trick Matt Taibbi into writing it. Because it's government support of banks. Banks!We hates banks:

This past week, Sen. Bob Corker (R., Tenn.), a member of the Senate Banking Committee, said the program shouldn't be extended. "The program's benefit to the community banking system is, at best, unclear," he said. "It's time to move beyond this period of unprecedented government support of the banking industry."

The program is the FDIC's transaction account guarantee program, which basically guarantees transaction accounts above the normal $250,000 FDIC limit, meaning that corporate and municipal treasurers can confidently keep their checking accounts at tiny little (but government guaranteed) General Universal Nationwide Bank of America1 instead of opening a money-market checking account at, like, Reserve Primary.

This is in some sense a little program - $1.4 trillion in guaranteed deposits, but all at FDIC-supervised banks that presumably do mostly boring things with the very rare exception I suppose of a few total book-cookers, with the result that this program has "accounted for about 3% of the $9.3 billion lost from bank failures from 2011 to the start of 2012." But it sounds in deep philosophical areas: if people want to invest their money in safe assets, and safe assets are in short supply, what should governments do about it? Nothing? Expand the pool of insured bank deposits at regulated and examined and supervised but also, like, wee, banks, so that every Community Bank of Nowheresville can create an unlimited2 supply of safe assets? Or ship everyone off to the cold cold discipline of The Market, in the form of money market funds that never break the buck and/or unsecured uninsured deposits at big banks whose depositors and creditors and regulators and so-forths are all keeping an eye on them to make sure they'll never default on their deposits? And what happens if they do - who's on the hook for those depositors's losses? Are implicit guarantees better than explicit ones?

These are deep questions but they are also questions that have dollar signs attached to them so it's no surprise that the big banks and money market funds think they should be the ones keeping everyone's cash safe, and that the little banks think it should be them.3

What is the right answer? I dunno. When in doubt I like to follow a rhetorical strategy that I call "loosely relying on what I think Nassim Taleb's new book might say, though I haven't read it." I am not alone in this!

If you want "antifragility," you should it seems build institutions that benefit from volatility rather than blowing up from it. This comes with a little parable masquerading as health advice, which is that you should frequently drink a little Indian tap water and get a little sick rather than avoiding it for your entire life and then one day drinking a gallon of it and … literally exploding? Or something, the story is not entirely clear to me.

Anyway there's an obvious antifragile argument for preferring explicit guarantees to little banks over implicit guarantees to big ones: they're little! A few will blow up every year, and it'll cost you a little money, a few billion here or there, and you don't worry about them any more. There's thousands more little banks who can step into their shoes. A JPMorgan will probably never blow up, but if it does, oy, the digestive problems it will cause.

Without insurance, the decision for the municipal or corporate treasurer deciding where to keep their cash is kind of the reverse. Any one community bank probably won't blow up - and you can diligence yours I guess? - but if it does, there's a good chance it's for bad reasons - fraud, putting all its money into construction loans on a swamp, something value-destructive - so your money. A diversified money market fund might lose value, though, y'know, supposedly not, but its almost-untested worst-case is losing 1% of its value. A JPMorgan, with its huge capital markets activity and active hedging programs, might actually profit from volatility. (Might!) Surely you should trust your money to them? So everyone thinks like that and you end up with a lot of money expecting a lot of safety in money market funds. What seems like an antifragility decision to the customer ends up looking kind of fragile for the system. Which is maybe a reason for the government to subsidize the tiny, fragile banks?

Big Banks Fire Back at Deposit Guarantee [WSJ]

1.Seriously, I was going to make my made-up name like "Second Community Trust of Peoria" but all the tiniest banks actually have grandiose universal names. Meanwhile "Fifth Third Bank," surely the most modestly named bank in the world, is reasonably huge.

2.Meh, limited by capital, etc.

3.Except, isn't it? Remember when banks were trying to get rid of deposits?


Banks Prove That They Are Not Too Big To Fail By Saying "We Can Fail" On A Piece Of Paper, Moving On

One way you could spend this slow week is reading the "living wills" submitted by a bunch of banks telling regulators how to wind them up if they go under. Don't, though: they're about the most boring and least informative things imaginable and I am angry that I read them.* Here for instance is how JPMorgan would wind itself up if left to its own devices**: (1) It would just file for bankruptcy and stiff its non-deposit creditors (at the holding company and then, if necessary, at the bank). (2) If after stiffing its non-deposit creditors it didn't have enough money to pay its depositors it would sell its highly attractive businesses in a competitive sale to willing buyers who would pay top dollar. This seems wrong, no? And not just in the sense of "in my opinion that would be sort of difficult, what with people freaking out about JPMorgan going bankrupt and its highly attractive businesses having landing it in, um, bankruptcy." It's wrong in the sense that it's the opposite of having a plan for dealing with banks being "too big to fail": it's premised on an assumption that the bank is not too big to fail. If JPMorgan runs into trouble that it can't get out of without taxpayer support, it'll just file for bankruptcy like anybody else. Depositors will be repaid (if they're under FDIC limits); non-depositor creditors will be screwed just like they would be on a failure of Second Community Bank of Kenosha.