[Opinion] Restoring the Legitimacy of the Federal Reserve

Isn't this basically the US implementation of Basel III?

 

Pretty lame state of affairs when reducing unemployment and making Americans better off is described as a petty "political " goal.

 

Sorry - I was just referring to increasing capital regulations on the largest banks. My understanding is that's part of the Basel III agreements.

 

This is correct. Basel III essentially reconciles the difference between different phases of implementation of II and I, and resolves some key issues around II; namely, the calculation of risk-weighted assets are not concentrated with credit rating agencies, and the buffers are significantly higher.

However, there are two key problems with Basel III---it's still based on the same risk-weighted clusterf**k that led to banks chasing a bunch of exotic derivatives to try to hold as much "quality" leverage as possible (essentially trying to run circles around of regulators to take on more risk), and its' implementation is at risk from the fact that all of the developed nations are playing hot potato with it until their banks are stronger. If it was implemented now in full force in Europe, for example, recap needs would have skyrocketed.

http://www.bloomberg.com/news/2012-...-billion-basel-iii-capital-gap-last-year.html

 

Basel III has a host of problems. But it's a significant upgrade with this regards from II.

http://www.publications.parliament.uk/pa/cm201012/cmselect/cmtreasy/writev/1866/cra16.htm

Basically, it's now a mix of regulators, the banks themselves and CRAs that determine risk-weighted assets. That has problems in its' own, but it's probably better than just leaving the CRAs to do it.

 

The author is probably referring to the banks deemed systematically important in the global economy---your regular cast of motley characters.

Of those, I'd say the two investment banks that became Fed-backed bank holding companies (GS and MS) and JPM, due to its' critical role in most aspects of the American economy (including being a Fed primary dealer, having their chairman sit on the NY Fed's board, and its' position as being one of the two firms that is a clearing banks in the repo market, high market cap and etc.) merit special scrutiny.

Capital requirements are a great sentiment for the path forward. But it's not the only thing that should be examined. And it's also important to maintain these regulations for the long term rather than implement them for the present, since the banks have, after being spanked by 2008, done some self-regulation, at least on this point (leverage ratios these days are actually quite low.)



We've got bigger problems here, a whole mass of incentives gone wrong.

 

I'll try answering your first two questions in one shot.

My reference was really to JPM's position as a clearing bank in the repo market (not the incentives that led to it). This role, alongside its' other roles, makes it nigh-invincible, because if JPM were to fail, the repo market would probably fail too. This marks JPM's position as a "megabank". Until issues like this are rectified, the Fed will back JPM to the hilt, and smart money knows this (subsequently credit and risk measures of JPM factor this into account)--->you get a too big to fail FDIC-insured, Fed window taking institution that somehow still manages to make "whale" CDS trades.

Which gets to an issue of concern a lot of securities regulators are up in arms about---the American repo market system and its' faults.

The full formal report from the BIS, if interested; http://www.bis.org/publ/cpss91.pdf

The summary---

http://repowatch.org/2012/03/06/part-2-are-jpm-and-bony-the-best-we-can-do/

Issues like this that call not just for expanded rules but a re-think of the American financial system are also key as well.

With regards to M3, I do think the Fed should re-publish that as well, although I think everyone has a general gist that the money supply is expanding.

I'm in agreement with your second point; I don't think for a second that the banks wouldn't re-leverage again if they had the climate to do so. That's why capital requirements have to be thought out in terms of a system that can continually work and innovate to address new changes decade-to-decade or sometimes year-to-year. America kinda lost the boat on that after the 1970s, and it really hurt in the end.

As for your last point, that gets exactly to what I wanted to show; a perverse set of incentives from banks, governments, hell foreign governments (here's looking at you, weak yuan China), to get Americans to spend, spend, spend, and leverage themselves to get off the declining economic curve down and for bankers to score personal gains. I'm a proponent of paradox of thrift, but at the same time, America just took that way the hell the other way. This should be a more pressing issue than government debt in isolation (which is just trying to cushion losing all that private debt that bubbled up).

 

I've always found it odd that a quasi-govt entity has been given the task of keeping unemployment low by the government.