During a Senate Banking Committee hearing last week, Federal Reserve Vice Chairman for Banking Supervision Randal Quarles was asked a direct question by Republican Senator John Kennedy. The question: Are banks too big to fail?
It’s a question that lawmakers have been asking the government’s bankers for a long time but especially since the post-2008 financial crisis.
Back in November of 2017, during the confirmation hearing of Federal Reserve Chairman Jerome Powell, this question was also posed. At the time, what Powell said was, “I would answer no,” but also continued by saying, “I think we’ve made a great deal of progress on that.”
He then went on to reference things such as higher capital requirements for banks and new rules and regulations which the government imposed on banks following the 2008 crisis.
Last week, when posed the same question two years later, Powell’s Vice Chairman did not give as straightforward an answer.
Quarles danced around the issue attempting to reframe the context in order to avoid giving a direct answer. Or rather, he gave a direct answer to a question that had been indirectly shifted.
He said, “The way that I look at that question is, will regulators in the future or the government in the future, when it’s faced with stress at a large institution, have an option other than providing support for the continued life of the institution?”
So instead of answering the question, Quarles asked and then answered his own, new question with something closer to a definitive response stating, “I think those options will exist.”
Just as his boss did two years ago, Quarles spoke of the higher capital and liquidity requirements and how they would act as a failsafe to proactively stop banks from needing a government bailout if/when they fail.
In response to Quarles’ non-answer, Sen. Kennedy cautioned the Fed that the day may soon come where their theories may be put to the test. Kennedy warned, “Our economy’s much better and it is still healthy, but we know at some point we’ll have a recession.” He even quoted a homespun saying from billionaire investor Warren Buffet who likes to say, “You don’t know who’s swimming naked until the tide goes out.”
The change in the Fed’s tune is most likely related to a global initiative undertaken by the Financial Stability Board, this year. The board, a global forum for regulators, which Quarles is the chairman of, looked at whether the post-crisis reforms that the government has put in place have successfully created an environment where banks are, in fact, not too big to fail.
We are not yet sure if this study is the reason that the Fed seems to be softening its “no” on the too big to fail question because the study’s findings will not be published until June of 2020. For now, our only information comes from these Senate hearings and it seems like a serious takeaway is that the Fed is no longer certain that, even with their post-2008 measures, banks have become any less “too big to fail” than they were a decade or so ago.