Fed President Neel Kashkari has an ominous warning for bank regulators as market volatility surges
- Minneapolis Fed President Neel Kashkari tells us he's still concerned about banks being too big to fail.
- "The biggest banks need more capital, and that's the best way to protect taxpayers," he said in an interview.
- The Fed and other regulators may be moving in the opposite direction under President Donald Trump.
The Federal Reserve and other regulators are considering loosening post-crisis financial regulations aimed at preventing another historic meltdown of the sort experienced on Wall Street ten years ago.
That makes Neel Kashkari, president of the Minneapolis Fed, uncomfortable. And Kashkari has plenty of experience in this area: He oversaw the Treasury's massive bank bailout package during the financial crisis, known as the Troubled Asset Relief Program (TARP).
He believes central banks and other financial regulators should be tightening, rather than loosening, financial regulation, forcing banks to raise substantially more equity capital to prevent any need for taxpayer support in case of failure.
"The biggest banks need more capital, and that's the best way to protect taxpayers," Kashkari told Business Insider in an interview.
The Minneapolis Fed has devised a detailed blueprint for battling the problem of banks considered too large to be allowed to fail, which creates an implicit taxpayer subsidy that distorts economic incentives and gives an unfair advantage to the biggest financial institutions.
That roadmap calls for a sharp increase in common equity capital issuance at the largest banks, and a much higher leverage ratio than the ones currently imposed.
The regional Fed says its plan "reduces the risk of a financial crisis, and resultant bailout, over the next 100 years to 9%, with the net benefits equaling 15% of gross domestic product (GDP). The current regulations, put into place after the 2008 financial crisis, are considerably less effective in reducing risk, lowering the 100-year chance of a bailout from 84% to 67%," the study says.
After months of record-setting stock prices, global financial markets have experienced a surge in volatility in recent days, reigniting debate about the safety of the financial system, although few fear an imminent return to the Great Recession given solid underlying economic conditions.
Not the time
It may be a while before regulatory changes like those Kashkari advocates come to pass.
"I recognize the political headwinds are blowing against us right now," Kashkari said.
Donald Trump was elected on a platform of deregulation, and several of his early Fed appointments seem to be on board with that platform. Trump appointed Randall Quarles, a former Carlyle Group executive who has vowed to keep an open mind on loosening bank rules, to the position of vice chair for bank supervision at the Fed.
Moreover, Trump's pick for Fed chair, Jerome Powell, was also a former private equity magnate at Carlyle, and he has shown a similar willingness to consider weakening the post-crisis Dodd-Frank bank regulations.
During his confirmation hearing Powell declared the problem of too-big-to-fail banks effectively over, contradicting widespread market perceptions that goverments would still intervene in case of a market meltdown.
His just-retired predecessor, Janet Yellen, had a much less benign view, pleading that post-crisis rules be preserved in their essence.
Kashkari is in Yellen's camp, arguing that current plans to wind down large financial institutions are faulty, and post-crisis regulatory plans like the issuance of new debt securities that convert to equity in times of crisis are unlikely to work as planned. These convertible securities, known as contingent capital, are part of the broader plan to bolster financial institutions' defenses against a slump.
"I'm very skeptical of this," he said. "There's an increasing body of evidence that taxpayers are still on the hook whether they know it or not."
Kashkari isn't optimistic that new regulations will be put in place in the near future. Rather than fighting an uphill battle now, he simply wants to be ready for when the pendulum swings back toward more stringent oversight.
"If the political winds shift and there's some catalyst that motivates people to take this issue up again I feel like we'll be well positioned to contribute."
Kashkari has previously discussed how his experiences during the crisis have shaped his current concerns.
"The financial crisis was traumatic for a lot of people. I was at Treasury, one of the first responders, trying to keep the US economy from collapsing," he told NPR in 2016. "That's what's motivating this. I don't want anyone in the US, the people to ever face this again."