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Erin Denison, Michael Fleming, Warren B. Hrung, and Asani Sarkar
Second of two parts
Our previous post described the workings of the Term Securities Lending Facility Options Program (TOP), which offered dealers options for obtaining short-term loans over month- and quarter-end dates during the global financial crisis of 2007-08. In this follow-up post, we examine dealer participation in the TOP, including the extent to which dealers bid for options, at what fees, and whether they exercised their options. We also provide evidence on how uncertainty in dealers’ funding positions was related to the demand for the liquidity options.
Erin Denison, Michael Fleming, Warren B. Hrung, and Asani Sarkar
First of two parts
During the global financial crisis of 2007-08, collateral markets became illiquid, making it difficult for dealers to obtain short-term funding to finance their positions. As lender of last resort, the Federal Reserve responded with various programs to promote liquidity in these markets, including the Primary Dealer Credit Facility and the Term Securities Lending Facility (TSLF). In this post, we describe an additional and rarely discussed liquidity facility introduced by the Fed during the crisis: the TSLF Options Program (TOP). The TOP was unique among crisis-period liquidity facilities in its provision of options. A follow-up post will analyze dealer participation in the TOP.
It is widely said that a lack of “skin in the game” would distort lenders’ incentives and cause a moral hazard problem, that is, excessive risk‑taking. If so, does more skin in the game—in the form of extended liability—reduce bankers’ risk‑taking? In order to examine this question, we investigate historical data prior to the Great Depression, when bank owners’ liability for losses in the event of bank failure differed by state and primary regulator. This post describes our preliminary findings.
Nicola Cetorelli, Gerard Dages, Paul Licari, and Afshin Taber
The Committee on the Global Financial System, made up of senior officials from central banks around the world and chaired by New York Fed President William Dudley, recently released a report on “Structural Changes in Banking after the Crisis.” The report includes findings from a wide-ranging study documenting the significant structural adjustments in banking systems around the world in response to regulatory, technological, and market changes after the crisis, while also assessing their implications for financial stability, credit provision, and capital markets activity. It includes a new banking database spanning over twenty-one countries from 2000 to 2016 that could serve as a valuable reference for further analysis. Overall, the study concludes that the changed regulatory and market environment since the crisis has led banks to alter their business models and balance sheets in ways that make them more resilient but also less profitable, while continuing their role as intermediaries providing financial services to the real economy.
Editor's note: This post has been corrected to show that the $750 billion increase in common equity at CCAR banks since 2009 reflects a rise of more than 150 percent. (October 20, 2017, 2:06 p.m.)
On June 28, the Federal Reserve released the latest results of the Comprehensive Capital Analysis and Review (CCAR), the supervisory program that assesses the capital adequacy and capital planning processes of large, complex banking companies. The Fed did not object to any of the banks’ capital plans, an outcome that was widely heralded as a signal that these banks would be able to increase payouts to their shareholders. And in fact, immediately following the release of the CCAR results, several large banks announced substantial increases in quarterly dividends and record-sized share repurchase programs. In this post, we put these announced increases into recent historical context, showing how banks’ payouts to shareholders have increased since the financial crisis and describing how CCAR has affected the composition of payouts between dividends and share repurchases.
In a previous post, I documented that much of the expansion into nontraditional activities by U.S. banks began well before the passage of the Gramm-Leach-Bliley Act in 1999, the legislation that repealed much of the Glass-Steagall Act of 1933. The historical record actually contains many prior instances of the Glass-Steagall restrictions being circumvented, with nonbank firms allowed to operate as financial conglomerates and engage in activities that go beyond traditional banking. These broad industry dynamics might indicate that the business of banking tends to expand firm boundaries beyond a traditional—“boring”—perimeter.
Since the global financial crisis and Great Recession, many critics have called for regulatory and legislative reforms to restore a system of “boring” banks constrained to traditional banking activities like deposit taking and lending. The narrative underlying this argument holds that the partial repeal of the Glass-Steagall Act in 1999 by the Gramm-Leach-Bliley Act enabled banks to expand into nontraditional activities such as securities trading and underwriting, thereby contributing to the financial crisis some ten years later. The implication is that if we could restore the Glass-Steagall Act, banks would become boring once again, and financial stability would be enhanced. The reality, however, may be more complex; an in-depth look “under the hood” of banks’ organizational structure over the past forty years shows that bank holding companies (BHCs) began expanding into those financial activities in the early 1980s and that this expansion was, in fact, nearly complete by 1999.
Katherine Di Lucido, Anna Kovner, and Samantha Zeller
The Fed’s December 2015 decision to raise interest rates after an unprecedented seven-year stasis offers a chance to assess the link between interest rates and bank profitability. A key determinant of a bank’s profitability is its net interest margin (NIM)—the gap between an institution’s interest income and interest expense, typically normalized by the average size of its interest-earning assets. The aggregate NIM for the largest U.S. banks reached historic lows in the fourth quarter of 2015, coinciding with the “low for long” interest rate environment in place since the financial crisis. When interest rates fall, interest income and interest expenses tend to fall as well, but the relative changes—and the impact on NIM—are less clear. In this post, we explore how NIM fell during the low-interest-rate period, finding that banks mitigated some, but not all, of the impact of lower rates by shifting into less costly types of liabilities. Our analysis also gives insight into how NIM may respond to the new rising interest rate environment.
Regulatory reforms since the financial crisis have sought to make the financial system safer and severe financial crises less likely. But by limiting the ability of regulated institutions to increase their balance sheet size, reforms—such as the Dodd-Frank Act in the United States and the Basel Committee's Basel III bank regulations internationally—might reduce the total intermediation capacity of the financial system during normal times. Decreases in intermediation capacity may then lead to decreased liquidity in markets in which the regulated institutions intermediate significant trading activity. While recent commentary by market participants claims that this is indeed the case—a Wall Street Journal article [subscription required] notes that “three-quarters of institutional bond investors say that liquidity provided by bond dealers has declined in the past year...”—empirical studies have struggled to find evidence supporting this narrative. In this post, we summarize the findings of our recent article in the Journal of Monetary Economics that addresses the apparent disconnect between the market-participant commentary and the empirical evidence by focusing on the relationship between bond-level liquidity and financial institutions’ balance sheet constraints.
Quantitative easing (QE)—the Federal Reserve’s effort to provide policy accommodation lowering long-term interest rates at a time when the federal funds rate was near its lower bound—has generated a great deal of research, both about its impact and about the frictions that might limit that impact. For example, this recent study finds that weak competition in local mortgage markets limited the pass-through from QE to mortgage rates for borrowers, and another study suggests that QE expanded banks’ mortgage lending while crowding out their commercial lending. In this post, we look into a different friction—whether banks’ limited risk-taking capacity after the crisis led them to favor refinance mortgages over new mortgage originations.
Liberty Street Economics features insight and analysis from New York Fed economists working at the intersection of research and policy. Launched in 2011, the blog takes its name from the Bank’s headquarters at 33 Liberty Street in Manhattan’s Financial District.
The editors are Michael Fleming, Andrew Haughwout, Thomas Klitgaard, and Asani Sarkar, all economists in the Bank’s Research Group.
The views expressed are those of the authors, and do not necessarily reflect the position of the New York Fed or the Federal Reserve System.
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