Fed’s Kashkari Unveils His Plan to End Too-Big-to-Fail Banks

(Bloomberg) -- Federal Reserve Bank of Minneapolis President Neel Kashkari proposed a series of new rules for banks and non-bank lenders that he said would eliminate the threat posed by financial institutions whose failure could wreak havoc in the global markets.

The plan centers on significantly increasing the capital cushion banks must hold to protect against losses in a crisis. It also calls on the U.S. Treasury to determine which banks are “too big to fail” and face higher capital requirements. Finally, the plan would impose a tax on debt for large non-bank lenders and reduce the regulatory burden on community banks.

“We believe the Minneapolis Plan does a much better job of reducing risks at reasonable costs to society than current regulations” Kashkari said in a speech on Wednesday while introducing the proposals at the Economic Club of New York. “Ultimately, the public needs to make their own determination.”

Kashkari estimated that regulations introduced since the financial crisis of 2008-09, including the Dodd-Frank Act of 2010, reduced the chance of a government banking bailout over the next 100 years to 67 percent from 84 percent. His proposals, he said, would further reduce that chance to below 10 percent.

“The financial system as a whole will be much, much better capitalized and capable of withstanding a major shock without triggering a crisis,” he said.

Major Changes

Kashkari told audience members in response to questions that some banks would have to make major changes under his plan, as some probably have business models that wouldn’t work with higher capital requirements.

The Financial Services Forum that represents U.S. financial services companies cautioned that implementing the recommendations would stymie the economy. “For those looking to accelerate economic growth and job creation, tripling bank capital levels -- already double from pre-crisis levels -- will make it much harder to meet those goals,” the forum’s spokeswoman, Laena Fallon, said by e-mail.

Kashkari’s plan includes four broad proposals:

• All bank holding companies larger than $250 billion would be required to increase loss-absorbing capital to 23.5 percent of risk-weighted assets. Unlike current regulations, banks would only be allowed to count common equity toward that threshold and not long-term debt. The largest banks are currently required to hold no more than 10.5 percent of common equity.
• The U.S. Treasury would analyze and certify individual large banks as no longer too big to fail. Banks that didn’t obtain the certification would have to raise capital to 38 percent of risk-weighted assets.
• So-called shadow banks -- including hedge funds, mutual funds and other financial institutions -- larger than $50 billion would pay a tax of 1.2 percent or 2.2 percent on debt.
• Banks with less than $10 billion in assets would be subject to “a much simpler and less burdensome regulatory framework that reflects their relative lack of risk to the economy.”

Kashkari, who managed the U.S. Treasury’s $700 billion rescue of banks in the 2008 crisis, has led the Minneapolis Fed since January and has made ending too big to fail a top priority. His plan is purely advisory and doesn’t represent the stance of the Fed’s top regulatory officials in Washington.

He told audience members the proposal would require new legislation for it to be implemented, adding that he hasn’t been in touch with President-elect Donald Trump’s transition team. Trump’s transition website laid out plans for his advisers to begin work dismantling the Dodd-Frank Act and replace it with new policies to boost the economy.

--With assistance from Yalman Onaran Matthew Boesler and Elizabeth Dexheimer

To contact the reporter on this story: Christopher Condon in Washington at ccondon4@bloomberg.net.

To contact the editors responsible for this story: Brendan Murray at brmurray@bloomberg.net, Alister Bull, Randall Woods