Does the performance of banks improve or worsen when banks enter into new business activities? And does it matter which activities a bank expands into, or retreats from, and when that decision is made? These important questions have remained unaddressed due to a lack of data. In a recent publication, we used a unique data set detailing the organizational structure of the entire population of U.S. bank holding companies (BHCs). In this post, we draw on that research to show that while scope expansion on average hurts performance, entering into activities that are highly synergistic with core banking at a given point in time yields net performance benefits.
Regulations are not written in stone. The benefits derived from them, along with the costs of compliance for affected institutions and of enforcement for regulators, are likely to evolve. When this happens, regulators may seek to modify the regulations to better suit the specific risk profiles of regulated entities. In this post, we consider the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) passed by Congress in 2018, which eased banking regulations for smaller institutions. We focus on one regulation—the Liquidity Coverage Ratio (LCR)—and assess how its relaxation affected newly exempt banks’ assets and liabilities, and the resilience of the banking system.
The 25 percent of low-income Americans without a checking account operate in a separate but unequal financial world. Instead of paying for things with cheap, convenient debit cards and checks, they get by with “fringe” payment providers like check cashers, money transfer, and other alternatives. Costly overdrafts rank high among reasons why households “bounce out” of the banking system and some observers have advocated capping overdraft fees to promote inclusion. Our recent paper finds unintended (if predictable) effects of overdraft fee caps. Studying a case where fee caps were selectively relaxed for some banks, we find higher fees at the unbound banks, but also increased overdraft credit supply, lower bounced check rates (potentially the costliest overdraft), and more low-income households with checking accounts. That said, we recognize that overdraft credit is expensive, sometimes more than even payday loans. In lieu of caps, we see increased overdraft credit competition and transparency as alternative paths to cheaper deposit accounts and increased inclusion.
Liberty Street Economics authors ask whether, based on precedent, global banks are likely to provide additional support to the economic recovery following COVID-19 in the locations they serve.
The Treasury repo market is at the center of the U.S. financial system, serving as a source of secured funding as well as providing liquidity for Treasuries in the secondary market. Recently, results published by the Bank for International Settlements (BIS) raised concerns that the repo market may be dominated by as few as four banks. In this post, we show that the secured funding portion of the repo market is competitive by demonstrating that trading is not concentrated overall and explaining how the pricing of inter-dealer repo trades is available to a wide-range of market participants. By extension, rate-indexes based on repo trades, such as SOFR, reflect a deep market with a broad set of participants.
The Main Street Lending Program was the last of the facilities launched by the Fed and Treasury to support the flow of credit during the COVID-19 pandemic of 2020-21. The others primarily targeted Wall Street borrowers; Main Street was for smaller firms that rely more on banks for credit. It was a complicated program that worked by purchasing loans and sharing risk with lenders. Despite its delayed launch, Main Street purchased more debt than any other facility and was accelerating when it closed in January 2021. This post first locates Main Street in the constellation of COVID-19 credit programs, then looks in detail at its design and usage with an eye toward any future programs.
Changes in the distribution of banks’ reserve balances are important since they may impact conditions in the federal funds market and alter trading dynamics in money markets more generally. In this post, we propose using the Lorenz curve and Gini coefficient as a new approach to measuring reserve concentration. Since 2013, concentration, as captured by the Lorenz curve and the Gini coefficient, has co-moved with aggregate reserves, decreasing as aggregate reserves declined (such as in 2015-18) and increasing as aggregate reserves increased (such as at the onset of the COVID-19 pandemic).
Did the 2007-09 financial crisis or the regulatory reforms that followed alter how banks change their underwriting standards over the course of the business cycle? We provide some simple, “narrative” evidence on that question by studying the reasons banks cite when they report a change in commercial credit standards in the Federal Reserve’s Senior Loan Officer Opinion Survey. We find that the economic outlook, risk tolerance, and other real factors generally drive standards more than financial factors such as bank capital and loan market liquidity. Those financial factors have mattered more since the crisis, however, and their importance increased further as post-crisis reforms were phased in in the middle of the following decade.
“Arbitrageurs” such as hedge funds play a key role in the efficiency of financial markets. They compare closely related assets, then buy the relatively cheap one and sell the relatively expensive one, thereby driving the prices of the assets closer together. For executing trades and other services, hedge funds rely on prime brokers and broker-dealers. In a previous Liberty Street Economics blog post, we argued that post-crisis changes to regulation and market structure have increased the costs of arbitrage activity, potentially contributing to the persistent deviations in the prices of closely related assets since the 2007–09 financial crisis. In this post, we document how post-crisis changes to bank regulations have affected the relationship between hedge funds and broker-dealers.