Fed’s View That Banks Will Keep Lending to Be Tested by Virus
Fed’s View That Banks Will Keep Lending to Be Tested by Virus
(Bloomberg) -- The Federal Reserve has long rejected banks’ claims that regulations passed after the 2008 crisis could deter lending when companies most need money. The coronavirus is threatening to provide a real-life test of who’s right, with grave implications for the global economy.
The Fed has made clear that Wall Street is key to its plans to combat the virus’s impact on consumers and businesses. In announcing Sunday that it would cut its benchmark interest rate to near zero, the Fed also urged banks to aggressively use some of their trillions of dollars in capital and emergency cash stockpiles to lend, even if it means getting closer to the regulatory minimums that firms must have on hand to weather panics.
“These capital and liquidity buffers are designed to support the economy in adverse situations,” the Fed said in a statement, reiterating its long-standing view that banks should be less rigid in adhering to post-crisis rules when corporate America desperately needs funding.
The buffers are meant to make Wall Street more resilient to shocks by giving firms fortress-like balance sheets. Yet they are also closely watched by bank shareholders, many of whom consider it a sign of weakness when capital and liquidity start to erode. The concern is that banks will hoard capital and liquidity during a downturn, rather than lending it out, to avoid being punished by investors.
“Self preservation” is every bank’s priority, said Karen Petrou, a managing partner at Federal Financial Analytics in Washington who advises lenders on complying with rules. “An institution’s first obligation is to save itself.”
Slowing Economy
Banks’ willingness to lend looks increasingly critical. Sports leagues are postponing games, and consumers are curtailing spending, putting businesses and jobs at risk.
For now, banks are pledging to do all they can. Wall Street leaders who met with President Donald Trump at the White House last week were unified in saying their firms are prepared to help consumers get through the tumult.
Bank of America Corp., JPMorgan Chase & Co., Citigroup Inc., Goldman Sachs Group Inc. and Morgan Stanley were among eight big banks that suspended share buybacks Sunday, moves that show they’re committed to using their capital and liquidity to provide “maximum support to individuals, small businesses, and the broader economy,” an industry trade group said.
And in its Sunday statement, the Fed noted that Wall Street banks have $1.3 trillion in common equity and $2.9 trillion in high-quality liquid assets. The insinuation: Banks have sufficient leeway to dial back their capital and liquidity buffers without consequences.
No Liquidity
A regulation known as the liquidity coverage ratio, or LCR, directs Wall Street banks to pile up enough easy-to-sell assets to survive for 30 days if markets turn into deserts. The purpose of that cushion, the Fed and other regulators argue, is to keep banks lending as economic conditions deteriorate.
In fact, regulators and lawmakers have routinely said that the strengthened banking system could serve as a safety net for other companies in situations like what they’re facing with coronavirus arise.
Petrou said that view is misguided because banks are very aware of how quickly pain can spread.
“All of the post-crisis regulation that makes the banks very strong will not at the same time make the banks so strong that they’re going to be able to risk that strength on others,” she said. “The buffers disappear very fast in the midst of a crisis.”
Dimon’s Gripe
Several banking insiders and former Fed officials who asked not to be named agreed. They said banks would likely insist on maintaining strong liquidity and proving they’re fully capitalized to avoid the potential wrath of investors. A version of the debate played out last October when JPMorgan Chief Executive Officer Jamie Dimon said his bank wanted to help calm severe strains in short-term funding markets but liquidity rules tied its hands.
Even without fresh loans, coronavirus is already impacting bank liquidity. Corporations under duress by lost business and plummeting oil prices are maxing out billions of dollars of credit lines.
Goldman Sachs analyst Richard Ramsden projects that if all the credit lines are drawn across the travel, commodities and energy industries, liquidity coverage ratios -- assets on hand to cover anticipated cash outflows -- would come close to minimums required by regulators.
No Rule-Cutting
While the Fed is pushing banks to help consumers, there’s no sign it’s willing to ease major post-crisis rules, including by postponing the annual stress tests that assess whether banks can endure a severe recession.
The Fed, in another move to boost lending, said it would no longer require banks to hold reserves against customer deposits. Currently, lenders must set aside cash equal to a percentage of their total deposits so that they have emergency funds on hand in case of a run on the bank. The Fed said it “reduced reserve requirement ratios to zero percent” effective March 26.
--With assistance from Hannah Levitt and Craig Torres.
To contact the reporter on this story: Jesse Hamilton in Washington at jhamilton33@bloomberg.net
To contact the editor responsible for this story: Jesse Westbrook at jwestbrook1@bloomberg.net
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