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Wall Street Funding Advantage Is All Too Real

With the Government Accountability Office scheduled to release its report on the "too big to fail" subsidy this fall, Wall Street consultants, think tanks and lobbyists appear to be doing their best to swing the report in their favor. Abby McCloskey of the American Enterprise Institute has even argued the funding advantage for these large and systemically risky institutions, which benefited from trillions of dollars in federal assistance during the financial crisis, is actually a disadvantage. Unfortunately for the "too big to fail" set, the facts are not in their favor.

McCloskey takes issue with a 2012 report from International Monetary Fund economists Kenichi Ueda and Beatrice Weder di Mauro that found "too big to fail" firms had a cost-of-funds advantage of 80 basis points. A Bloomberg View analysis concluded this amounted to an $83 billion annual funding advantage for the largest financial firms compared to smaller institutions that cannot borrow at the same artificially reduced rates as the big boys.

McCloskey thinks this estimate is a bit high. Why? Because at the time of the study they say the funding advantage skewed higher than its historical average. After all, in the years following the financial crisis they caused, these institutions were in the process of benefiting from trillions of dollars in financial assistance from American taxpayers. Poor Wall Street—I guess the IMF economists just caught them at the wrong time, precisely when they were failing. 

McCloskey is more comfortable with funding-advantage estimates at the bottom of the spectrum, which come in at roughly 20 basis points. This, she says, more accurately reflects the long-term cost-of-funds advantage and amounts to a mere $20 billion annual taxpayer subsidy for "too big to fail" firms. To them, this must seem like a small price to pay for having institutions so large and risky, they pose an existential threat to our financial system.

Nevertheless, there have been numerous studies on the funding advantage enjoyed by the largest financial institutions, and virtually all of them have concluded that such an advantage exists. I would expect no different from the GAO.  There is no better time to measure the subsidy than when it is obvious.

Further, while the credit ratings agencies have downgraded the megabanks due to Wall Street reforms, that doesn't mean the government guarantee has disappeared. Standard & Poor's said in April that passage of the Brown-Vitter Act, still pending in Congress, which would boost capital requirements at the largest institutions, could result in lower credit ratings for the megabanks. This assertion shows the rating agencies continue to price the "too big to fail" guarantee into these institutions' credit ratings.

Worse than nitpicking about the size of their multibillion-dollar cost-of-funds advantage, McCloskey attempts to deduct the regulatory costs of being "too big to fail." Citing an estimated $34 billion annual cost of complying with the Dodd-Frank Act, she claims that Wall Street actually operates at a disadvantage. This is absurd. As Boston University professor Cornelius Hurley wrote, large bank compliance costs and penalties should not be discounted from these funding estimates. These are the costs of being unmanageable, and taxpayers should not be on the hook for them. As Hurley noted, the GAO should focus on the gross benefit of being "too big to fail," not the benefit net of fines, penalties and regulatory burdens. The fact is community banks have a proportionate disadvantage to taxpayer-subsidized megabanks as the crushing burden of regulation meant to stop the abuses of Wall Street rain down excessively on Main Street.   

After bringing us fraudulent and destabilizing mortgage-backed securities, Libor-rigging, the London Whale trading fiasco and more, Wall Street and its proponents should not be allowed to engage in a bit of numerical sleight of hand. We can only hope that, after all that our nation has been through in the past five years, the GAO will see through the smoke and mirrors.   

Camden R. Fine is president and CEO of the Independent Community Bankers of America.


(3) Comments



Comments (3)
In his piece, "Wall Street Funding Advantage is All Too Real," Camden Fine claims that I misrepresent the size of the big banks' funding advantage to make it appear less than it really is. Mr. Fine makes assertions concerning my piece that are at times factually incorrect, at times illogical, and at times both.

Mr. Fine accuses me of cherry-picking a subsidy estimate. In my piece, I put forward the IMF's official subsidy estimate for banks worldwide - 20 basis points. This subsidy level is substantiated across the literature, (see Baker and McArthur (2009), Li, Qu, and Zhang (2011), and Acharya, Anginer, and Warburton (2013)). Ironically, Mr. Fine links to the latter paper in his op-ed, which concludes that on average large banks had approximately a 28 basis point funding advantage from 1999-2010, the same ballpark as the IMF.

The literature clearly shows that the funding advantage for big banks grows during bad economic times, reaching a high in 2009 after the financial crisis and bank bailouts. Mr. Fine and Bloomberg rely on a subsidy estimate from 2009 - the highest funding advantage in recent history - to represent the "annual" funding advantage of big banks. This is misleading.

Regardless of good times or bad times - large banks should not have unfair advantages over small banks from government privilege. Mr. Fine proceeds as if the source of the subsidy is the US taxpayer, but this is far from clear. There is very little (if any) agreement in the literature as to whether the funding advantage comes from competitive advantages or government support, (see Jacewitz and Pogach (2013), Cohen (2012), Bipartisan Policy Center (2013), Li, Qu, and Zhang (2011), IMF (2010)). In fact, some research indicates that the funding advantage may be derived from economic uncertainty, (see Baker and McArthur (2009)).

Lastly, Mr. Fine disputes that subtracting higher regulatory costs is appropriate when assessing the impact of policy. This is to say that cost-benefit analysis is somehow unfair and just looking at one side of the equation is more accurate. The IMF (2010) explicitly warns against ignoring the costs already imposed on banks, saying that corrective taxes for the subsidy would need to take costly regulatory changes into account so efforts are not duplicated. Federal Reserve Chairman Ben Bernanke (2012) says that the cost of new capital rules and the Dodd-Frank Act could offset funding advantages for large banks.
Posted by AbbyMcCloskey | Thursday, October 31 2013 at 9:35AM ET
Mr.Fine has it right - again. Meanwhile, Mr. Abernathy continues to seek the use of the sterling reputation of community banks while his members experience the lack of trust and respect for the mega bank business model. This is not about division or infighting, it is the reality of a further defined market - call it high definition. Wall Street's dirty little secret is out, Washington and the regulators see the excessive risk at taxpayer expense and they also now see the high level of responsibility and common sense of the community bank model.

There is no doubt that a real and serious unfair funding advantage exists for the mega banks, denying that it exists is reminds me of a few years back when certain folks and associations denied too big to fail existed, well we proved that point all too we'll unfortunately, let's just hope the GAO can see through all of the diversions that Wall Street is throwing at them.
Posted by grsb | Wednesday, October 30 2013 at 7:04PM ET
Mr. Fine has demonstrated that there is anything but consensus among those who have studied the relative funding costs faced by banks today. His own citing of the various studies suggests that his statement, that "virtually all" studies have found the existence of a funding advantage, is a bit of an exaggeration. Moreover, many of the "studies" that Mr. Fine likes do little more than regurgitate what other studies have said rather than provide new information. The ones that present new information are not "nitpicking" but rather are doing the hard work of trying to find in reality whether any funding advantages exist and are likely to persist. It would be a good idea for policymakers to rely on that kind of hard, detail work.

Of course, all the while there are those seeking to foment division and in-fighting within the banking industry, the non-banking share of the financial services industry continues to grow, eating the banks' lunch.
Posted by WayneAbernathy | Wednesday, October 30 2013 at 5:10PM ET
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