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Is What's Good for MetLife Good for Us All?

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On Oct. 25 MetLife announced that the Federal Reserve had denied its request for approval of its capital distribution plan that included a dividend increase and resumption of stock repurchases. Likely it is a reflection of a prudent regulator. Rather than make an isolated determination on a single company, the Fed probably prefers to await results from its planned 2012 cross-institution analysis of the largest U.S. bank holding companies. MetLife's participation in that analysis underscores its systemic importance.

What is more troubling, though hardly surprising given its third quarter net income of $3.6 billion (versus $286 million on 3Q 2010), in large part a result of high net derivative gains, is MetLife's response to its growing regulatory burden.

As I noted in an article published the day before in Economists' Voice, for insurance providers like MetLife that are also bank holding companies, the regulatory capital requirements associated with derivatives-based hedging could create challenges that will likely drive them to exit or curtail involvement in a number of important markets.

Derivatives embed leverage that can in some circumstances increase risk, but for insurance companies this leverage also provides one of the few mechanisms for hedging long-dated liabilities that outpace inflation, such as long-term care costs. Perhaps anticipating these developments, nearly a year ago MetLife announced it would stop accepting new applicants for long-term care insurance, though it would continue to honor previously written contracts; a study by the MetLife Mature Market Institute (released the same day the news broke about the Fed's denial of MetLife's request), indicated that "long-term care rates continue to outpace the medical inflation rate." The MetLife Mature Market Institute is MetLife's information and policy center on aging-related issues.

In the past year, MetLife has additionally decided to seek buyers for the depository and forward mortgage businesses of its banking subsidiary, MetLife Bank (MetLife has said it plans to retain its reverse mortgage business). And it is seeking to deregister as a bank holding company, underscoring the regulatory challenges to its business.

MetLife is an interesting case study for a number of reasons. First, it is the seventh-largest bank holding company, with total assets of over $770 billion as of June 30. As a result of this status, it falls under the supervision of the Fed and is subject to regulatory capital requirements. Second, unlike some of its industry competitors that became bank holding companies in order to have access to the Fed's lending facilities and the U.S. Treasury's Troubled Assets Relief Program, MetLife was a bank holding company well before the onset of the recent financial crisis. Yet one can assume from its exit plan that the impetus for MetLife to become a bank holding company more than a decade ago has evaporated.

One need only think back to the AIG experience to feel nervous about MetLife's intention to deregister and join the ranks of the "shadow" financial sector, especially in light of signs that point to the firm’s systemic importance.

For example, it was included in the list of 19 firms subject to the Federal Reserve's "stress tests" in May 2009. MetLife's press release Tuesday provided further confirmation of the company's status, noting that the reason offered for the Fed's rejection of MetLife's capital plan was that it needed to be tested under an adverse scenario being developed by the Federal Reserve for its 2012 Comprehensive Capital Analysis and Review.

The recent global financial crisis reminded us all of the importance of stringent capital regulations for safeguarding financial institutions, given the important role such institutions have in the global economy. In attempting to prevent unbridled risk-taking, regulatory capital policy must take care not to inhibit risk-mitigation or drive systemically-important institutions away from supervisory oversight.

From a systemic perspective, we'd all probably be better off if MetLife remained a bank holding company. From a business perspective, it is understandable why it might prefer not to be.

Robin L. Lumsdaine is the Crown Prince of Bahrain Professor of International Finance at American University's Kogod School of Business, a senior fellow at the Center for Financial Stability, and a research associate at the National Bureau of Economic Research. She was formerly an associate director and head of quantitative risk management in the Division of Banking Supervision and Regulation at the Board of Governors of the Federal Reserve System.

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