Fed And Treasury Work To Nix Collins’ Amendment Mandating More Capital For Risky Banks

Last week, an amendment to Sen. Chris Dodd’s (D-CT) financial regulatory reform bill proposed by Sen. Susan Collins (R-ME) was quietly adopted by unanimous consent. It’s safe to say that the amendment has gotten nowhere near the amount of attention heaped upon more high-profile amendments, like Sen. Sam Brownback’s (R-KS) auto dealer exemption or Sen. Carl Levin (D-MI) and Jeff Merkley’s (D-OR) proposal to institutionalize the Volcker rule.

The main goal of the amendment is ensuring that bigger banks with riskier profiles are subjected to higher capital requirements (meaning they have to hold more capital on hand, to cover themselves in the event that their risky activities don’t pay off). While it doesn’t set absolute standards, it does set a floor for regulators to work from. However, both the Treasury Department and the Federal Reserve have been working behind the scenes to get the amendment tossed aside:

Officials from the Treasury Department, Federal Reserve and Wall Street are working to kill an amendment to the Senate’s financial regulations bill that was adopted unanimously last week and that could force big U.S. banks to hold billions of dollars in additional capital. This could also potentially complicate international negotiations on banking rules. The amendment, written by Sen. Susan Collins (R,. Maine) with backing from Federal Deposit Insurance Corp. Chairman Sheila Bair, would force banks with more than $250 billion in assets to meet higher capital requirements.

In the run-up to the financial crisis, one of the big problems was that systemically risky financial firms were very overleveraged, with nowhere near enough capital on hand to cover their losses if they went bust. While not directly laying out new capital requirements, Collins’ amendment sets a minimum, ensuring that there is some statutory requirement that regulators can’t be talked into dismissing.

As Kevin Drum put it, “there’s no way to get around the fact that regulators need a fair amount of discretion no matter what kind of rules you set up…But we can set reasonable floors, and when both Treasury and the banks are fighting those floors tooth and nail it doesn’t bode well for how seriously they take this stuff.” Mike Konczal explained further:

No more capital loopholes! No more playing BS games where a firm creates a trust and does financial engineering alchemy to pretend that debt is equity. Serious, quality capital is required for our largest and most systemically risky banks. This is probably the real fight. When it comes to increasing capital under the Dodd Bill you can practically hear the banks say: “Yes we’ll hold more capital as long as massive amount of risky debt turned into ‘safe’ equity through the shenanigans of our financial engineers can count as that capital.” Do we need to do that all over again?

Ensuring that banks have enough capital on-hand to weather the bad times, and to incentivize them to take fewer risks, is a key part of creating a safer, stabler financial system. Collins’ amendment gets right to the heart of the matter and should be preserved.