Why We Don't Need Brown-Vitter — Yet

Patience is among the many virtues lacking in politics.

The consensus in Washington is that "more needs to be done" to end "too big to fail," but the bulk of the reforms Congress and the Basel Committee adopted in the wake of the 2008 crisis have yet to be adopted. So no one truly knows if we've done "enough" yet.

Will proposed counterparty limits reduce interconnectivity among the giant firms and in turn cure contagion risks? Will higher, stronger capital requirements lead the largest banks to shrink? Will living wills work? Will regulators have the backbone to take over and unwind a big firm that gets into trouble?

I could go on, but every major question about the safety and soundness of the financial system is addressed in either the Dodd-Frank Act of 2010 or the Basel III rules agreed to by international regulators on the Basel Committee that year.

We just don't know yet whether the answers will be effective, and that's where impatience comes in.

Sens. Sherrod Brown, D-Ohio, and David Vitter, R-La., jumped into the "do more" breach last week with their bill to crank up the equity capital ratio on the largest banks to 15% of assets.

The lawmakers want to make the system safer and figure the more capital, the better.

But is it? I don't know, and neither do Brown and Vitter.

Neither has explained how their Terminating Bailouts for Taxpayer Fairness Act will affect the largest banks, the industry or the economy. Is 15% the right level? Is $500 billion the right size? Will lending crater? Will economic growth suffer?

Let's assume the legislation is enacted as written and the largest banks all decide to break themselves up to get below the $500 billion asset threshold to qualify for a lower capital requirement of 8%. That would make the largest bank in the U.S. the 51st largest in the world, just ahead of Banque Federative du Credit Mutuel in France.

It would also mean those six giant firms turned into 21 companies.

How would these smaller U.S. banks compete with foreign rivals that get to hold half as much capital? Would foreign government retaliate if the U.S. pulls out of Basel III? Would the U.S. still be the center of global finance?

We need to consider these questions and the repercussions of the answers.

Brown and Vitter have presented no analysis of the costs and benefits of their bill and haven't yet made a convincing case that adopting this legislation will improve our financial system.

That may be why so few lawmakers or regulators are embracing it. About the only enthusiastic support has come from the Independent Community Bankers of America. "It's time to put capital back into capitalism," ICBA president Cam Fine says.

And capital is at the heart of Brown-Vitter. Financial firms with assets of more than $500 billion would have to hold 15% of assets as tangible equity capital. Banks with $50 billion to $500 billion would have to meet an 8% ratio.

The bill's impact would be magnified by the fact that it would expand what's considered an asset by including some off-balance-sheet assets and uncollateralized derivatives.

Brown-Vitter takes another step beyond the 15% and the broader definition of asset, requiring a "surcharge" to offset "any distortion of capital levels" resulting from federal government programs like deposit insurance.

Duke law professor Lawrence Baxter considers himself "generally sympathetic" to the Brown-Vitter legislation, but says in an email that he's "far from convinced" it's the right approach.