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Report
Resolving “Too Big to Fail”
Using a synthetic control research design, we find that ?living will? regulation increases a bank?s annual cost of capital by 22 basis points, or 10 percent of total funding costs. This effect is stronger in banks that were measured as systemically important before the regulation?s announcement. We interpret our findings as a reduction in ?too big to fail? subsidies. The size of this effect is large: a back-of-the-envelope calculation implies a subsidy reduction of $42 billion annually. The impact on equity costs drives the main effect. The impact on deposit costs is statistically ...
Discussion Paper
Introducing a Series on Large and Complex Banks
The chorus of criticism levied against mega-banks has, in some cases, outrun the research needed to back the criticism. To help the research catch up with the rhetoric, financial economists here at the New York Fed have engaged in a systematic study of the economics of large and complex banks and their resolution in the event of failure. The result of those efforts is a collection of eleven papers, each of which was subject to review (internal and external). The papers are now online in our Economic Policy Review. Today, we begin a two-week series of posts that present the key findings of ...
Working Paper
Origins of Too-Big-to-Fail Policy
This paper traces the origin of the too-big-to-fail problem in banking to the bailout of the $1.2 billion Bank of the Commonwealth in 1972. It describes this bailout and those of subsequent banks through that of Continental Illinois in 1984. Motivations behind the bailouts are described with a particular emphasis on those provided by Irvine Sprague in his book Bailout. During this period, market concentration due to interstate banking restrictions is a factor in most of the bailouts, and systemic risk concerns were raised to justify the bailouts of surprisingly small banks. Sprague?s ...
Working Paper
Bank Complexity, Governance, and Risk
Bank holding companies (BHCs) can be complex organizations, conducting multiple lines of business through many distinct legal entities and across a range of geographies. While such complexity raises the the costs of bank resolution when organizations fail, the effect of complexity on BHCs' broader risk profiles is less well understood. Business, organizational, and geographic complexity can engender explicit trade-offs between the agency problems that increase risk and the diversification, liquidity management, and synergy improvements that reduce risk. The outcomes of such trade-offs may ...
Journal Article
Do big banks have lower operating costs?
This study examines the relationship between bank holding company (BHC) size and components of noninterest expense (NIE) in order to shed light on the sources of scale economies in banking. Drawing on detailed expense information provided by U.S. banking firms in the memoranda of their regulatory filings, the authors find a robust negative relationship between size and normalized measures of NIE. The relationship is strongest for employee compensation expenses and components of ?other? noninterest expense such as information technology and corporate overhead expenses. In addition, the authors ...
Discussion Paper
Resolving \\"Too Big to Fail\\"
Many market participants believe that large financial institutions enjoy an implicit guarantee that the government will step in to rescue them from potential failure. These ?Too Big to Fail? (TBTF) issues became particularly salient during the 2008 crisis. From the government?s perspective, rescuing these financial institutions can be important to avoid harm to the financial system. The bailouts also artificially lower the risk borne by investors and the financing costs of big banks. The Dodd-Frank Act attempts to remove the incentive for governments to bail out banks in the first place by ...
Discussion Paper
Did Too-Big-To-Fail Reforms Work Globally?
Once a bank grows beyond a certain size or becomes too complex and interconnected, investors often perceive that it is “too big to fail” (TBTF), meaning that if the bank were to fail, the government would likely bail it out. Following the global financial crisis (GFC) of 2008, the G20 countries agreed on a set of reforms to eliminate the perception of TBTF, as part of a broader package to enhance financial stability. In June 2020, the Financial Stability Board (FSB), a sixty-eight-member international advisory body set up in 2009, published the results of a year-long evaluation of the ...
Speech
Reform in a time of rapid change
Remarks at the Standard and Poor's Ratings Services Global Bank Conference, New York City
Journal Article
The 1970s Origins of Too Big to Fail
In 1972, bank regulators bailed out the $1.2 billion Bank of the Commonwealth partly because they viewed it as ?too big to fail.? We describe this bailout and subsequent ones through that of Continental Illinois in 1984 and use the descriptions to draw lessons about too-big-to-fail policy. We argue that some of the same issues that motivated bailouts during this earlier period, particularly worries about banking concentration, are relevant today.
Working Paper
Enhancing prudential standards in financial regulations
The financial crisis has generated fundamental reforms in the financial regulatory system in the U.S. and internationally. Much of this reform was in direct response to the weaknesses revealed in the precrisis system. The new ?macroprudential? approach to financial regulations focuses on risks arising in financial markets broadly, as well as the potential impact on the financial system that may arise from financial distress at systemically important financial institutions. Systemic risk is the key factor in financial stability, but our current understanding of systemic risk is rather limited. ...