Shane Smith, Author at Federal Financial Analytics

28 07, 2025

Karen Petrou: The High Cost to Competitiveness of the Bankers’ Quest for Certainty

Shane Smith2025-07-28T09:27:41-04:00July 28th, 2025|The Vault|

FedFin reports since at least 2011 have identified the comparative advantage nonbanks enjoy thanks to lots of costly bank-only standards. However, we missed one big nonbank advantage sure to prove even more decisive in the stablecoin wars: bankers crave regulatory certainty even as their competitors aggressively exploit the battlefield advantage that uncertainty gives to those who dare.

Bankers aren’t dare-devils because they’re not supposed to be. Indeed, anyone who takes someone else’s money should be very, very careful. Decades of accepting deposits under strict rules without meaningful competition meant that most bankers rightly asked a lot of questions before doing anything even a little bit novel. To be sure, high-flying bankers abused taxpayer benefits thanks to negligent or even captive supervisors and rules weren’t always right. Still, rules and the supervisors who enforced them generally kept bankers in their lane since there wasn’t any faster traffic.

This comfy balance between caution and competitiveness was fiercely challenged for the first time when money-market funds dawned in the late 1970s, luring bank deposits at a time when anachronistic rules barred banks from offering competitive interest rates. High-flying bankers then sought to evade these constraints by making high-risk loans, thus bringing about the 1980s S&L crisis and the banking debacle that followed in the early 1990s. Both of these were systemic in terms of taxpayer cost, but neither had macroeconomic or financial-stability impact.

Newer, better rules succeeded these crises, but they were outflanked as “nonbank banks” became the first commercial firms to exploit …

7 07, 2025

Karen Petrou: Stablecoin Banks and the Increasingly-Uncertain Future of Banking

Shane Smith2025-07-07T09:18:34-04:00July 7th, 2025|The Vault|

The CEO of a high-flying conglomerate named Textron once quipped that his investment bank’s c-suite had a long wall of his deal-done plaques and another facing wall just as replete with his deal-undone announcements. The investment bank made money on the way up and down, as did he. The big losers: investors. Is this a lesson for our times as stablecoin issuers line up for bank charters? Banks hope so, but I fear not.

The difference between Textron then and all the nonbanks gunning now for bank charters is that, in the way-back, Textron competed on the proverbial level playing field. The reason most of its acquisitions went bust is because the economies of scale and scope Textron touted were mostly chimeras since technology and data then did not reward consolidation. Now they do.

Even more importantly, the firms Textron bought were also under the same rules – such as they were – as their competitors. Now, of course, this isn’t anywhere close to the case for bank competitors such as auto manufacturers, tech-platform companies, payment entities, and nonbank stablecoin issuers.

We have written before about how regulatory and merger-policy obstacles make it hard for all but the biggest banks to innovate as well as of the inequities of the pending legislation’s stablecoin regime. We’re not the only ones who know this. Nonbank issuers are already looking for additional avenues of regulatory arbitrage and they don’t have to look far.

Last week’s news brought announcements of national-bank applications from Circle…

30 06, 2025

Karen Petrou: How Banks Can Beat Stablecoins

Shane Smith2025-06-30T09:17:37-04:00June 30th, 2025|The Vault|

Last week, Chair Powell mildly told the Senate Banking Committee that he favors a federal stablecoin framework without yielding to the temptation and saying what it should look like. This is doubtless because Mr. Powell is under such virulent attack in so many quarters that he wisely decided not to pick yet another fight with a President demanding speedy action. But, if pressed, I suspect Mr. Powell would agree with the startling conclusion in an unusually blunt report last week from the Bank for International Settlements:

Society has a choice. The monetary system can transform into a next-generation system built on tried and tested foundations of trust and technologically superior, programmable infrastructures. Or society can re-learn the historical lessons about the limitations of unsound money, with real societal costs, by taking a detour involving private digital currencies that fail the triple test of singleness, elasticity and integrity.

To be sure, one must parse more than a bit of central-bank speak to understand why the BIS is so worried. “Singleness” is a concept rarely spoken of when it comes to money, but it’s the entire point of having a fiat currency. Except when it’s counterfeit, a dollar is treated the same no matter how it’s obtained or from whom thanks to hard lessons learned in the 19^th century about “free banking” and the chaos it spawned.

The dollar-for-dollar reserve assets backing stablecoins as in the GENIUS Act legislation is designed to ensure singleness when it comes to ready exchange of …

16 06, 2025

Karen Petrou: Why Republicans Want the Fed’s Money

Shane Smith2025-06-16T09:23:03-04:00June 16th, 2025|The Vault|

In the iconic movie “Goldfinger,” a murderous thug with a deadly bowler hat chases James Bond around Fort Knox as our hero stops a maniacal plutocrat from making the nation’s gold stock go radioactive. Compared to current gold conspiracies, that almost makes sense. Both President Trump and Elon Musk, among others, have doubted the security of the nation’s gold supply on nothing more than the fact that they haven’t actually seen it. To the rescue last week rode several super-conservative Members of Congress, who have introduced a bill to force an “independent” audit – read not the GAO or even Treasury – of all the gold held by or entrusted to the U.S. Gold conspiracies have come and gone since at least 1974, but the heights reached now speak to profound, widespread distrust of the government even by those who run it. This paranoia isn’t limited to inert stockpiles. It pervades two of the nation’s three branches of government and even occasionally touches the third. Thus, just because something doesn’t seem to make sense doesn’t mean it won’t happen.

I bring this up because several responses to my memo a couple of weeks back said Congress would never cotton to a sharp reduction in the payment of interest on reserve balances (IORB) or to balances held in the U.S. by foreign central banks. “Fringe thinking,” or so I was told by friends at the Fed, thinking they believed they could easily dismiss without a second thought by reminding critics …

9 06, 2025

Karen Petrou: How to Fix Regulatory Capital? Think Big, Go Simple, Get Tough

Shane Smith2025-06-09T09:32:04-04:00June 9th, 2025|The Vault|

Anyone who was surprised by Miki Bowman’s ambitious agenda hasn’t been paying attention. The new vice chair for supervision on Friday reiterated much she’s said before about supervision and regulation, now also saying more specifically what she’ll do about it given that she’s in a position to do it. Much in her plan is heartening, but one proposal is break taking in both its simplicity and importance: Ms. Bowman wants to make the complex of big-bank capital rules make sense as a whole. Former Vice Chair Barr promised to do this when he was confirmed, but he instead proposed only to complicate the capital construct. Ms. Bowman might just put it right.

As we laid out when Mr. Barr promised a “holistic” capital policy, the current approach pulls in at least three directions, and that’s before one starts thinking about unintended consequences related to liquidity and interest-rate risk. First, there are the risk-based capital (RBC) standards designed to capture the credit risk of every asset and exposure, sometimes more than once based on which numbers come out how. Not content with that much complexity, Mr. Barr and other regulators in 2023 proposed a “dual-stack” approach to credit risk largely because, we concluded, they couldn’t make up their minds which one was right. Then there are standards governing market and operational risk – some forward-looking, some retrospective, and some stuck in the middle distance.

There are also leverage rules designed to capture assets deemed to pose no credit risk even though …

2 06, 2025

Karen Petrou: A New Trade War: Interest on Reserves

Shane Smith2025-06-02T09:16:29-04:00June 2nd, 2025|The Vault|

Clients will recall that, during his first term, Donald Trump nominated Judy Shelton, a frequent monetary-policy commentator, to the Federal Reserve Board. However, her nomination sparked outrage among Congressional Democrats and many pundits that doomed confirmation. Ms. Shelton nonetheless remains a trusted adviser to many with the President’s ear, making renomination and, this time, confirmation a strong possibility should Ms. Shelton still want a seat on the Board of Governors. We thus took notice when she last week posted an attack on the payment of interest by the Fed on balances held by foreign branches and agencies. She drew in part on another post adding foreign central banks to the complaint. This might seem a remote or even improbable concern, but so does much else in CEA head Stephen Miran’s proposal positing a “user tax” that’s now in the House reconciliation bill attacking foreign investors. Ms. Shelton’s complaint should thus be taken very seriously, especially given all the other demands to curtail interest on reserve balances (IORB).

Ms. Shelton finds that foreign branches and agencies get 42 percent of interest payments from the Fed, or about $78 billion based on total interest payments to banks of $186 billion in 2024. Rates now on IORB stand at about 4.4 percent – one of the very best deals on offer for super-safe, overnight funds. Another post calculates interest payments to foreign central banks at around $16.5 billion a year. In short, it’s a lot of money which the posts rightly say …

27 05, 2025

Karen Petrou: Making Liquidity Regulation Make Sense

Shane Smith2025-05-27T09:26:04-04:00May 27th, 2025|The Vault|

Although U.S. regulators remain determined to enact each rule as if it relates to no other, researchers have increasingly found that rules have cumulative and often conflicting purposes – see, for example, the sum total of bank rules which empowered nonbank financial intermediaries operating with impunity until they needed trillions in taxpayer backstops in 2020. Following a seminal Federal Reserve Bank of New York paper on the cumulative consequences – none good – of considering capital and liquidity rules in isolation, a new BIS paper considers the internal contradictions of consequential liquidity regulation and central-bank backstops. Now, if only bank regulators at home and abroad did the same.

The BIS paper looks at the push-pull evident in liquidity rules founded on expectations that banks should not use central-bank liquidity even though central banking is founded on the concept of providing liquidity to banks under stress. As all too evident in the 2023 crisis, liquidity compliance cannot ensure banks stand firm in a run, even as the Fed’s discount window opened with all the alacrity of an centuries-old casement. Solutions posed ever since have suggested stiffening the liquidity standards and ensuring discount-window operability, but each thread of this debate ignores the other. The BIS paper happily proposes a framework in which the two pillars of bank resilience under liquidity stress are considered together to craft a sensible benign-scenario liquidity rule along with an effective, disciplined backstop that minimizes moral hazard.

The BIS paper rightly is to avoid so stringent a build-up …

19 05, 2025

Karen Petrou: The Political Buzzsaw Powering Up for the New Powell Policy Paradigm

Shane Smith2025-05-19T09:21:50-04:00May 19th, 2025|The Vault|

Buzz is growing about how the Fed’s promised new monetary-policy construct will do better than the old, failed FAIT. Last week, Chair Powell offered a teaser, the august Group of Thirty told it what to do, and former Chair Bernanke told the Fed how to tell all about it. Let’s hope the Fed indeed does better this time, but even if it does, Congress might well block the Fed from doing what it comes to think it must. When the Fed releases its new plan in the rarefied precincts of Jackson Hole this August, it’s likely to disregard what a very skeptical Congress thinks about it, let alone what might then be done to it either on the Hill or by Mr. Powell’s successor. Early warning signals show it will be a lot.

The Fed knows it’s at considerable political risk, but not all the ways political risk could strike it down. Mr. Powell is of course keenly aware that President Trump thinks he’s “Mr. Too Late, a major loser.” Anticipating still more political push-back, Mr. Powell tried to protect the Fed via a switcheroo early after the election, pulling the Fed back from climate-risk efforts and anything that smacks of reputational-risk supervision. That may help, but the Fed has yet to reckon with how much Members of Congress want a complete monetary-policy reset forcing the Fed to rely on open-market operations as the principal mechanism of monetary-policy transmission. Any new Fed policy construct that doesn’t shrink the portfolio, …

12 05, 2025

Karen Petrou: Why Stablecoin Hegemony Could Cost Too Much

Shane Smith2025-05-12T09:49:18-04:00May 12th, 2025|The Vault|

In the battle over stablecoin regulation, defenders of the pending legislation make much of the need for the U.S. to become the dominant global leader. That’s fine, but what if the new stablecoin framework gives the U.S. crypto preeminence at the cost of U.S. bank resilience and macroeconomic growth? That would be a high price to pay, but it’s nonetheless the Faustian bargain lurking in the latest legislation.

As our analyses have made clear, the House and Senate bills address only payment stablecoins – i.e., digital assets used by consumers and companies to settle financial accounts or to purchase goods and services. The idea is to make regulated stablecoins as reliable a medium of exchange as dollars, with the bills’ reserve-asset requirements meant to ensure that one stablecoin dollar always equals one U.S. dollar. This is fine as far as it goes, but that’s not far enough to ensure payment-system finality, ubiquity, and equality. A more robust stablecoin also does little but make it still more likely that regulated banks will be disintermediated as deposits move from the current, fractional system into a new, “narrow bank” model that does little for anyone but stablecoin issuers, their affiliates, and parent companies such as giant tech platforms.

A dollar’s worth of stablecoins is little more than an abstraction until one knows how it moves across the payment system. If the payment rails are weak or the engineer is negligent, then armored boxcars just make an even bigger, harder bang when they derail.…

28 04, 2025

Karen Petrou: What Else Should Worry You

Shane Smith2025-04-28T09:41:09-04:00April 28th, 2025|The Vault|

Last week, the Washington Post ran an astonishing article, easily overlooked in the personal-finance section. In it, the writer advised the many consumers she said were besieging her with fearful questions about how best to ensure their money is safe in the bank – and, if they’re still worried, where to buy a nice safe. That same day, a friend asked me if his short-term Treasury bills are safe. These are, of course, anecdotal reports, but such worries are rarely tracked as the leading indicators they are. It’s obvious in crisis after crisis that, when retail depositors and investors are frightened, we should all be very worried.

How much uncertainty does it take to create a financial or macroeconomic crisis? None of the Fed’s financial-stability reports deigns to consider consumers, nor does the Fed tell us when to worry because it fears we will if the Fed cracks its stone face. However, a brand-new Fed study provides a very useful – if frightening – analytical context in which to consider anecdotal data.

The Fed staff paper examines different types of uncertainty and their impact on economic activity and financial conditions. While it doesn’t directly extend the analysis to financial stability, the results are important given the strong correlation between economic and financial volatility and very, very bad financial-market events.

The paper assesses six key drivers of uncertainty: real economic conditions, inflation, economic policy, trade policy, geopolitical risk, and financial uncertainty as reflected in the VIX. These uncertainty drivers exploded …

Shane Smith

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