Karen Petrou: How to Bank on Biomed and Revive ESG Investing
Ever since ESG investing was born, the “E” for environment has swallowed virtually every billion of private capital dedicated to doing good in addition to doing well. Billions flowed into green renewable energy and carbon capture, leaving even fewer private-sector resources to meet urgent social needs encapsulated in ESG’s long-ignored “S” for social. Banks thus did much to address climate risk when that was in vogue. Now that it’s not, regulators, along with banks on their own and via new ESG-investing options can mobilize private philanthropic and investment capital to reduce a problem even more urgent than global warming: suffering people.
Bill Gates last week rightly argued for a new focus: promoting public health, especially when it comes to getting proven vaccines to vulnerable populations left still more defenseless as U.S. resources are yanked from anything that smacks of foreign aid or U.S. public health. But vaccines are only part of the answer. The public good also requires the quickest path possible to successful biomedical research, preventing and treating disease if we are not to be defenseless against the next pandemic and stand by as all too many adults and children die too young or suffer too long.
How could private capital make a lot more of a contribution to this urgent ESG objective?
There is of course the philanthropic option, more than important in rare diseases where the likely profit gained from funding new treatments may not suffice to draw in biopharma funding. The banking agencies should make it clear that bank funding of or investment in early-stage biomedical research earns CRA credit and is a more than eligible public-welfare investment. There are many ways to conjoin biomedical research with community development, with support for broadening genetic diagnoses to underserved communities and creating in-community clinical research facilities just two that come […]
Karen Petrou: How a “Finality Account” Would Make Skinny Master Accounts Make More Sense
As I’ve recently noted, the barrier between banking and commerce is ever more evanescent. This isn’t, though, because the banking agencies are letting legacy banks into anything redolent of commerce. It’s because the FRB, OCC, and FDIC are letting nonbanks into banking with few of the regulatory and supervisory costs demanded of existing banks big and small, with one of the most consequential one-way tickets proffered by FRB Gov Waller in his recent proposal to give eligible special-purpose banks access to the Fed’s payment system. He describes these new master accounts as “skinny,” but they have yawning pitfalls and not just for banks.
Ever since the Herstatt failure in 1974, it has been clear that payment-system hiccups give the financial system acute gastric distress. This is why central banks dominate national payment systems, with the 1980 law authorizing the Fed to do so based in large part on the Fed’s arguments that only it could be trusted to keep the payment system’s lights on. And so the Fed said again when rationalizing the need for its own instant payment system rather than entrusting technological evolution to the private sector even though the private sector led the way to real-time payments long before the Fed bestirred itself.
If it is indeed essential for the central bank to control the payment system, then access to the payment system is a public good that should only be allowed for entities able to protect the public. This is of course one of the key reasons banks are regulated as heavily as they are – if banks cannot ensure payment finality, then the Fed and thus the taxpayer must do so. Rules are designed to make this as unlikely as possible because banks have mandatory liquidity with which to transmit payments and capital backstops to fund them […]
Karen Petrou: Why Scoring is Better Than Tailoring
A friend of mine last week commented that she was a size 2 in high school, but somehow has become a size 8. If she were a bank, she’d still be forced into her size 2 jeans even if she could only pull them up over one leg and her ability to appear in public was, to say the least, impaired.
Current “tailoring” rules take no account of inflation or, even worse, much that matters when it comes to risk. In 2020, the banking agencies issued tailoring standards categorizing banks via a series of size and “complexity” thresholds that determine applicable prudential standards and supervisory vigilance, or so it was said at the time. The final rule also reserved the regulators’ right to alter a bank’s category –presumably to a tougher one – based on whatever worried them. In practice, the standards have been implemented almost exclusively by reference to a bank’s size and nothing – not even all of the risks evident at some mid-sized banks ahead of the 2023 crisis – led supervisors to look harder.
A bank below $250 billion was deemed simple and safe; any above that threshold, almost certainly not. Further, any bank above $700 billion turned into a pumpkin – that is, a GSIB – even if it is neither global nor systemically-important. Big equals bad even though bad is remarkably indifferent to asset size when there is rapid growth, ill-begotten incentives, lax supervision, or negligent risk management.
The banking agencies rightly plan to revise tailoring, and the FDIC has even begun to do so. However, the focus so far seems principally to be on relief for the smallest banking companies along with inflation indexing. That’s all fine, but it’s far from enough.
Asset size, inflation-adjusted or not, is a poor risk indicator, and the current approach to […]
Karen Petrou: Say Bye-Bye to the Banking/Commerce Barrier
In his comments last week about stablecoins, FRB Gov. Barr worried aloud about cracks in the banking/commerce barrier. How quaint. This barrier has been crumbling for years, but two decisions last week knocked it down. The big issue these days isn’t keeping commercial firms out of banking – give it up, they’re in. Instead, the big question is whether this nation also wants relationship-focused, regulated banks insulated from conflicts of interest and buffered against market shocks. If it does, then traditional banks need new powers, fast.
The most impermeable barrier between banking and commerce was supposedly erected in the 1956 Bank Holding Company Act along with the narrow set of permissible BHC powers allowed in 1970. These laws sought to keep insurance and commercial firms from controlling insured depositories much as the Glass-Steagall Act did in 1933 when it came to securities firms. However, Sears Roebuck took advantage of gaping loopholes, opening a bank in the early 1980s. Congress did little but legitimize these charters, allowing a class of “nonbank banks” in 1987 and broadening bank/nonbank affiliation in 1999.
FDIC Acting Chair Hill has now made it clear that he will go even farther. Next time a bank fails, look for a private-equity company or other nonbank to pick up the pieces. Mr. Hill stated that the FDIC will now not only cotton to these acquisitions, but even facilitate them with “seller financing” and a pre-qualification program akin to one established in 2024 by the OCC.
Would these nonbank owners need to become BHCs? Not necessarily – I can think of lots of ways these firms could enjoy the best of both worlds now that the “business of banking” is rapidly expanding to include all things digital.
This too was made manifestly clear last week in the new national-bank charter preliminarily approved by the […]
Karen Petrou: Supervisors Must Match Better Words With Faster, Tougher Deeds
In remarks last week, Secretary Bessent drew attention to a new OCC and FDIC proposal that, among other things, defines what will be considered “unsafe” and “unsound” when it comes to bank examination and enforcement. As Mr. Bessent said, “While simply defining a term might seem like a small thing, …, a clear focus on material financial risk will put an end to this nonsense.” By which he meant the egregious supervisory lapses that led to four costly bank failures in 2023. He’s right, but the banking agencies must also match these new words with far faster, tougher, and transparent supervisory deeds.
There’s no question that supervisory policy has long forced banks to think at least as much about papering decisions as making them. This is a particular problem for community banks without teams of compliance specialists, adding all too much cost to the technology and product innovations essential to banks that aren’t just safe, but also sound competitors that serve their communities. Much in the post-2008 rulebook needs a rewrite and almost everything proposed after the 2023 crash is badly designed.
But ripping out too many pages in righteous rage could spark yet another of the downward spirals in lax rules and irresponsible banking that occur every other decade or so. I thus worry about a few aspects of this new proposal.
For example, the proposal bars supervisory sanction unless or until a material loss is foreseeable or has actually occurred. Violations of banking or consumer law cannot spark intervention unless the violation could pose a material financial risk. Past violations that come to light are off limits.
As drafted, these provisions mean that supervisors can only step in when material financial risk is imminent, indisputable, an – perhaps – irreversible. Violations of law or rule could grievously harm depositors, consumers, or […]
Karen Petrou: Preserving the Public Good Along with Revising Deposit-Insurance Coverage
Although HFSC’s hearing this week is cancelled due to the shut-down, there is no doubt that Congress will give careful consideration to proposals from mid-sized banks seeking a lot more deposit insurance for selected accounts. But this doesn’t mean Congress will also advance this proposal unchanged or unaccompanied. Last week’s letter from Chair Scott to Acting FDIC Chair Hill makes it clear that the Senate Banking Committee head is carefully and correctly thinking through not just which banks win or lose with FDIC-coverage changes, but also what these policies mean to the public good. In short, it’s a lot.
Sen. Scott focuses on three important questions about the second-order effects of coverage change: what might happen to depositor behavior, what rules might need to change to offset unintended consequences, and whether statutory change is needed to limit moral hazard. How FDIC coverage changes for whom drives answers to each of these questions, but several over-arching effects are clear.
First, limiting added FDIC coverage to banks based on certain asset-size thresholds ensures that banks without added protection will not roll over and cough up more insurance premiums. They’ll do what they can to avoid costs unaccompanied by benefit. The largest banks are thus likely to reduce higher-cost domestic deposits and replace them with FHLB advances, wholesale deposits, and global funding. If they substitute these for higher-cost retail and small-business deposits, as seems more than likely, then big banks are also likely to increase their reliance on short-term assets that accord with the significantly-higher duration and liquidity risk presented by this new funding model. So much for small-dollar, short-term loans, credit lines, inventory financing, and lots of other loans customers like and need.
Big banks could also use their competitive clout to remain in the retail-deposit market, reducing returns and/or increasing fees to offset higher […]