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NationofChange / Op-Ed
Published: Friday 20 July 2012
Just over a month ago the Federal Reserve quietly released a proposal to implement Basel III, an international agreement signed by twenty-seven nations aimed at ensuring the global economy’s resilience against financial disintegration.
The Biggest Banking Scandal this Summer (Hint: It’s not LIBOR)
While corporate news media speculate on just how many luxury cars Mitt Romney owns or whether Chief Justice John Roberts is a Subaru-driving, soy-loving, closet-liberal, they’re missing what is arguably the most decisive political story of the summer: regulatory capital “reform.
Just over a month ago the Federal Reserve quietly released a proposal to implement Basel III, an international agreement signed by twenty-seven nations aimed at ensuring the global economy’s resilience against financial disintegration. The directive, drafted by a cadre of central bank representatives and national regulators known collectively as the Basel Committee on Banking Supervision, devised rules focused on both the type and amount of capital banks must hold to protect themselves against potential losses.
Since the first iteration of the Basel Accords in 1988 (Basel I), one of the most critical features of the international agreement has been the leverage ratio requirement. Financial leverage refers to the relationship, often expressed as a percentage, between the money a bank borrows and the capital (both liquid and long-term) it has available to it. More simply, leverage for a bank is essentially the amount of equity a bank possesses relative to its assets; the leverage rate is defined as the ratio of total assets to equity. That is, leverage is a measure of how much a firm borrows relative to its total assets and low leverage rates often indicate the strength and stability of a financial institution.
Prior to 2004 when the Securities and Exchange Commission (SEC) relaxed leverage requirements on lending institutions, most depository banks had leverage ratios of around 10:1.
But beginning in 2013 the Federal Reserve will require that banks with $500 million or more in assets (Tier 1 institutions) adhere to a leverage ratio of 3 percent, or 33:1. What exactly does this mean? A leverage ratio of 33:1 will limit banks from lending more than 33 times their capital. But isn’t this roughly the same leverage ratio held by Lehman Brothers, Merrill Lynch, and Bear Sterns at the time of their collapse in 2008?
Well, yes.
The high degree of leverage that each of these banks then carried—the ratio of total assets to shareholder equity—made them increasingly vulnerable to deteriorating market conditions. To be fair, the advantage of high leverage is that it helps banks acquire more money with which to invest or to loan to consumers. The disadvantage of high leverage, however, is that it makes financial firms exceedingly fragile, inflexible, and unresponsive to quickly changing markets. If there is a bank-run on an institution with a high leverage ratio of, say, 33:1, the lender will almost assuredly slip into insolvency.
The third Basel accord, which is to be phased in incrementally from 2013 through 2019, does increase top-quality capital requirements equivalent to 7 percent of their risk-bearing assets, but its regulatory advances are undermined by an unapologetically low minimal leverage ratio requirement.
Tighter international restrictions on bank leverage would certainly afford the global economy better protection. The Federal Reserve invites comment on the Basel III capital reforms from now until September 7th. This is a vital opportunity to tell the Federal Reserve Board that more prudent regulatory provisions on banks are necessary to ensure the safety of consumer deposits and the strength and stability of our economy. Five minutes of your time could go a long way.
You can submit your comments to the Federal Reserve
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ABOUT Christopher Petrella
Christopher Petrella is a NationofChange contributing author and a doctoral candidate in African American Studies at the University of California, Berkeley. He writes on the contradictions of modernity and teaches at San Quentin State Prison. His work has appeared in such publications as Monthly Review, Truthout, Axis of Logic, NationofChange, and The Real Cost of Prisons. Christopher also holds degrees from Bates College and Harvard University.
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By Ronnie Cummins
14 comments on "The Biggest Banking Scandal this Summer (Hint: It’s not LIBOR)"
July 26, 2012 1:44pm
Tax the Banks over the Fiscal Cliff in 2013!
July 23, 2012 1:06pm
Ya want scandal, here's former TARP special inspector general:
"..the..predictable consequences of the government’s [whoring for] Wall Street..have only become worse. As the banks amass size and power, Main Street continues to get pummeled."
He lists trainloads of flesh US Treasury delivered from we the sheople to Wall Street since '09:
bloomberg.com/news/2012-07-22/bungled-bank-bailout-leaves-behind-righteous-anger.html
has his outrageous revelations.
July 21, 2012 7:22pm
Don't waste time on Basel II or Basel III. They are band aids for the original Basel Committee f*ck up in 1974 where ten governments, Belgium, Canada, France, Germany, Italy, Japan, the Netherlands, Sweden, the United Kingdom, and the United States gave away their central banks to a future of perpetual indebtedness to a "world" banking system.
http://en.wikipedia.org/wiki/Group_of_Ten_(economic)
July 22, 2012 9:58am
Yes, Basel III regulations are hardly a scandal, rather reigning in banks a bit more -- at least on paper!
It's just another piece of the most monstrous conspiracy of all time: consolidating global banking into a supra-national financial monopoly beholden to no voters, culminating when the world hits bottom in a few years or so -- with US buried deepest in ground zero, due to being at least a dozen times the most bankrupt nation ever.
Whether or not Baron von Rothschild actually stated so, the motto of mega wealth is "Give us control of the world's money and we care not who makes whatever laws."
More succinctly: Debt Money Über Alles!
It's all Life on the Planet of Lessons.
Those more fortunate have already learned the cliché is true: It takes a village.
Monopoly, empire, corporatism, all the isms, fascism.. whatever the form, it's all just humans taking pack/herd animal behavior to extreme, the eternal pursuit of alpha, domination, exploitation = inhuman.
Mass society never worked, never will.
Charlie Chaplin movingly expressed what makes a truly human society in "The Great Dictator" climax:
"We all want to help one another; human beings are like that. We want to live by each other's happiness, not by each other's misery. We don't want to hate and despise one another. In this world there's room for everyone and the good earth is rich and can provide for everyone.
"The way of life can be free and beautiful.
"But we have lost the way.
"Greed has poisoned men's souls, has barricaded the world with hate, has goose-stepped us into misery and bloodshed... Machinery that gives abundance has left us in want... We think too much and feel too little. More than machinery, we need humanity. More than cleverness, we need kindness and gentleness. Without these qualities, life will be violent and all will be lost... "
americanrhetoric.com/MovieSpeeches/moviespeechthegreatdictator.html
True democracy can only flourish in a village, where everyone knows and works and shares with each other, grows and learns with each other, cares for each other.
May all sufferings blossom into everlasting wisdom!
Tragically far too late will most Americans catch on they missed the sole financial, golden lifeboat. They forgot gold money is part of what Founding Fathers fought, died, and legislated for.
Those who adequately sense the True Future agree with Chief Seattle "How can you buy the land?"
July 21, 2012 10:44am
The description of leverage seems to confuse a bank's assets and what it borrows: "Financial leverage refers to the relationship..between the money a bank borrows and capital..." or "..how much a firm borrows relative to its total assets."
Consumers rightly think of liabilities as what they owe a bank and assets as what they own.
Many don't realize it's the opposite for a bank: what borrowers owe a bank are the bank's assets: the bank thereby has claims on its borrowers' incomes and/or assets.
Funds a customer deposits in a bank are a liability to the bank; e.g, one can demand the funds in ones checking account at any time. A bank owes a customer the funds deposited in that customer's account(s).
It is true that leverage involves "the ratio of total assets to equity." But those assets are mostly what borrowers owe the bank, what the bank lent them, not what the bank owes to or borrowed from others. The latter are liabilities the bank owes, not part of the bank's assets.
The crucial issue about leverage boils down to when a bank goes bust and must be resolved. When the FDIC seizes a bank, it needs to find another financial institution to take over the bank's assets, that is, its loans, plus, most crucially, its liabilities. Usually FDIC seizure results in the bank's owners and investors losing all or at least part of their interest in the bank. In the case of publicly owned banks, much of that ownership is via common equity or shares.
Since bank assets must always balance liabilities plus equity (in simple terms), if there were little difference between a bank's liabilities to its depositors (plus other liabilities) and its assets (mostly what it is owed by its borrowers), a buyer would be assuming almost as much liabilities as assets in taking over a failed bank.
To induce buyers to take over a failed bank, the FDIC needs to pass on as few liabilities compared to assets as possible, so the buyer sees more potential benefits/gains than risks/obligations. Wiping out most to all of shareholders' and/or other owners' interests in the bank reduces the liability side of a bank's balance sheet, making the assets more a bargain to a buyer.
Maintaining an adequate leverage ratio keeps a failed bank a minimal risk to the FDIC by keeping it an attractive asset in case the bank must be liquidated. Bank liabilities, funds its depositors have in the bank's accounts, are what FDIC guarantees and is liable for -- that is, what taxpayers are liable for, ultimately.
During the financial crisis, many banks were picked up for minimal pennies on the dollar, a huge windfall to the vultures.
Also, you may have noticed many $Billions of losses were covered by extraordinary FDIC assessments against banks. Although only a very small percentage of banks failed (so far), all had to share the losses.
The biggest bully tends to win.
July 20, 2012 4:03pm
The old end around flea flicker football in the balls trick umm hummm.
I say it would be better to ask all citizens to donate to a fund for us citizens and accomplish what our represenatives wont do or cant do whatever ineptness that is there we need to do an end around them. First use the funds to pay off student debt which will cripple our young people not all at once but some students and some underwater mortgages pay off the loans and never use these banks again who needs the constant lies and deception. Once you have paid off the student loans and mortgages help people with current mortgages as well. Once you get rid of debt you can start improving our economy using funds donated as the govment will use the money for ducks with nervous tension or bulls without erections. I would donate if the money was going to help ourselves and not some sleezy politician. It is up to us to solve our own problems as no one else will. I was just thinking that if every month people on welfare would get a raffle ticket in each state and all welfare participants would get a 5$ deduction from their pay then raffle the welfare people into money only you can never accept welfare again but it does eliminate people off welfare that will work.
July 20, 2012 1:49pm
This is just more proof that common sense is not a necessary commodity in government or quasi government. From POTUS to SCOTUS to the Federal Legislature and Federal Reserve these are people who have no business in the business of governance. And yet we continue to support and re-elect these people. Until we all end up in the streets they will keep us in servitude and the wealthy getting wealthier. Americans need to wake up and take back our country before there is nothing to take back
July 20, 2012 12:49pm
Leverage? Leverage rates? Leverage ratio? Liquid capital? Long-term capital? Assets? Equity? This story is hopelessly mired in the same gobbledygook banksters use to befuddle, mislead and steal from their victims. I'm not a stupid person and I'm not uneducated. I think I understand the thrust of this article. I think it says the banksters arranged to allow themselves to gamble enormous sums of other people's money with no money of their own in reserve to cover their losses if they lose their bets. Is that it? If it is, why couldn't the author have simply said so? If it is so, I'd ask why, unlike the rest of us, banksters who welsh on their bets don't end up in a dark alley with their legs broken and a bullet in their heads?
July 20, 2012 11:36am
sorry, not "about" but "able"
July 20, 2012 11:36am
This lowering of reserves begs the question why? It's certainly not for boosting loans to the real economy. Therefore it must be that this had been requested because of or for the virtual economy and bigger bets in the quadrillion derivatives markets. As it is cash reserves are at around 400 to 1. And we all thought central banks we're the watchdogs of the economy, bringing stability to national currencies., when it's all about even more profit for the member banks at increasing risk to the real world.
July 20, 2012 11:35am
Finally I could read and understand an article about finance. Thank you. However, I still haven't been about to find the elusive "submit comments" link from the Federal Reserve link provided. They don't want to make it easy.
July 20, 2012 10:50am
And the Fat Cats tell us they need less regulation and more tax cuts. Where's the example of why we should trust them? They already break any law they want to and dare anyone to take em to court, where they keep it tied up in litigation for the next 100 years. I'm willing to bet Exxon hasn't paid for he Valdez oil spill yet. Right, I Googled it, it's been 17 years and they have not yet paid the class action settlement ordered by the court. 17 years and Exxon has been making record profits and receiving corporate welfare plus tax breaks, which sounds like socialism to me but I'm sure they don't call it that. Now we are being told that Romney, who stole millions from workers pensions funds is the man for the job. How is it that everybody keeps forgetting that fact? He is without morals and can justify anything he does. If he wins it's doomsday for the average joe.
July 20, 2012 2:34pm
I'm with you, Scott!
"Where's the example of why we should trust them?"
Just one example. There isn't one. Thieves.
July 20, 2012 10:42am
One of the problems facing our economy is inability to get bank financing. True, banks with fewer loans are safer, but the priorities need to also include stimulating the economy and credit availability is a piece in the puzzle.