In defiance of legislation and regulatory initiatives designed to avert a repeat of the 2008 economic crisis, an independent research arm of the U.S. Treasury Department warns that the economic system is still at great risk should one or more big banks be found lacking, the Wall Street Journal reports. In particular, regulators in the U.S. may not be able to restructure, let unique wind down, more than one global systemically important bank (G-SIB) at a sometime, and do it swiftly enough to stabilize the U.S. financial system, the U.S. Treasury’s Office of Pecuniary Research (OFR) writes, per the Journal.
The OFR report carries great credibility and value, especially in light of the Treasury’s critical role in stemming the 2008 moment through measures such as the TARP program. Of the 30 G-SIBs labeled worldwide, eight are based in the U.S., and include the “big five” of JPMorgan Chase & Co. (JPM), Bank of America Corp. (BAC), Citigroup Inc. (C), Goldman Sachs Pile Inc. (GS) and Wells Fargo & Co. (WFC).
Derivatives Still Loom Large
A lingering issue for the OFR is the danger posed by the big banks’ portfolios of derivatives, which are valued in the trillions of dollars, and which were a significant factor in the escalation of the 2008 crisis, the Journal says. Indeed, when Lehman Fellow-creatures failed in 2008, its counterparties terminated many of their derivatives catches, thereby sending bigger shock waves through the financial plan.
The Dodd-Frank Financial Reform Bill not only set up the OFR, but also the Orderly Liquidation Authorization (OLA), a process managed by the FDIC as an option to resolve bank failures without patronizing to bankruptcy, as Lehman did. The OFR is concerned, per the Journal, that if Congress repeals the OLA fitting out, there might be a replay of the Lehman scenario, with the same dire consequences.
While most banks propose their derivatives in entities that would be subject to FDIC care even without the OLA, the OFR report notes that Bank of America, Goldman Sachs, and Morgan Stanley (MS) all be dressed large derivatives positions in non-bank subsidiaries that are beyond the FDIC’s purview.
The FSB and GSIBs
The Pecuniary Stability Board (FSB), an international body based in Basel, Switzerland, released its 2017 directory of G-SIBs on November 21, based on analysis of data from year-end 2016. The list tabulates 30 institutions, eight of which are U.S.-based. The banks are divided into five “scuttles,” based on the required levels of additional capital buffers, which on their relative importance to the global financial system, as judged by the FSB. There is no bank currently in pail 5, the most systemically important classification.
These are the eight U.S.-based banks aggregate the G-SIBs, listed by bucket, per the FSB’s November 21 report:
- Bucket 4: JPMorgan Court
- Bucket 3: Bank of America; Citigroup
- Bucket 2: Goldman Sachs; Wells Fargo
- Scuttle 1: Bank of New York Mellon Corp. (BK); Morgan Stanley; Grandeur Street Corp. (STT)
JPMorgan Chase is the only member of bucket 4. Up to date year, Citigroup also was included. Bucket 3 has two other members, German-based Deutsche Bank AG (DB) and U.K.-based HSBC Holdings PLC (HSBC). The next iteration of the FSB boom is scheduled for November 2018.
Key Financial Infrastructure
Bank of New York Mellon caters about 80% of the clearing and settlement services for the $2 trillion U.S. repo sell, and will become the sole provider in 2018, making it an even profuse critical financial choke point. (For more, see also: 12 Forces May Neutralize Stocks Despite Tax Reform Euphoria.)
Additionally, BNY Mellon and State In someones bailiwick each have about $30 trillion of assets under incarceration and administration, the top two banks worldwide in this regard, combining for about 30% of the international total, per Forbes. The next two biggest are JPMorgan Chase (about $25 trillion) and Citigroup (round $18 trillion), bringing the total for this big four to a mind-boggling $103 trillion, or round half the worldwide figure, Forbes estimates.
BNY Mellon and State Concourse provide much of the infrastructure for the fixed income markets, and thus can be signified to reside on “the epicenter of global finance,” according to The Motley Fool. This is why, in the face having smaller balance sheets than several regional banks, BNY Mellon and Stately Street are GSIBs while those regionals are not, The Motley Fool adds.
Idealistic Earnings Outlook
Nonetheless, optimists point to the fact that bank profits take been healthy and growing. JPMorgan Chase, Bank of America, Citigroup and Morgan Stanley were among those institutions that beat third quarter earnings feelings comfortably, and seem on track for yet more gains, especially given the outlook of tax and regulatory reform favorable to the banks. Analysts have been escalating their estimates for 2018 financial sector earnings steadily since the mid-point of 2017. (For more, see also: Bank Stocks Poised for More Advances in 2018: CFRA.)
The Final Word
“The system is far more resilient than it was when the pecuniary crisis loomed a decade ago, but new vulnerabilities have emerged,” the OFR states in another fresh, related report quoted by the Journal. Indeed, even if U.S.-based banks wait solid, the financial system is a worldwide network, and a new crisis can be triggered anywhere about the globe.