Fed's Plosser adds voice to too-big-to-fail criticisms

NEW YORK Thu May 9, 2013 2:14pm EDT

Philadelphia Federal Reserve President Charles Plosser speaks at an Economics21 event in New York, March 25, 2011. REUTERS/Brendan McDermid

Philadelphia Federal Reserve President Charles Plosser speaks at an Economics21 event in New York, March 25, 2011.

Credit: Reuters/Brendan McDermid

NEW YORK (Reuters) - The United States is falling short in its effort to end the problem of too-big-to-fail banks and should require higher capital and adopt a fresh approach to winding down firms that face bankruptcy, a top Federal Reserve official warned on Thursday.

In a speech, Philadelphia Fed President Charles Plosser threw his weight behind growing momentum among regulators and politicians to crack down on big banks some five years after the global financial crisis led to massive government bailouts and a deep recession.

"Can we end too big to fail? I think we can, but I believe the current efforts may come up short," Plosser told the Annual Simon New York City Conference.

The debate about too-big-to-fail banks, which are perceived as implicitly relying on taxpayers to bail them out no matter how risky their business conduct, has heated up in Washington in the last few weeks.

Plosser called for banks to hold higher levels of capital than currently proposed. The requirements of the international Basel III agreement, meant to avoid a repetition of the chaotic 2007-2009 financial crisis, "may simply be too low," he said.

U.S. officials could, he said, require higher leverage ratios at banks that rise based on the institution's size, interconnectedness and complexity.

Plosser, a hawkish central bank official who usually speaks publicly about monetary policy and not bank supervision, said higher capital requirements are unlikely to be prohibitively costly for banks.

GROWING MOMENTUM

Critics of Basel III, including many regulators, have said it is too easy on the banks, and that it relies too much on letting banks use complex calculations to determine how much equity they should hold.

Last week, the Fed's regulation czar Daniel Tarullo called for more conservative borrowing limits than what is required of banks under the landmark Dodd-Frank financial reform legislation.

Earlier on Thursday, Richmond Fed President Jeffrey Lacker argued the too-big-to-fail problem lingers and needs urgent attention. This echoed recent comments by Fed policymakers Eric Rosengren who warned about the risks of broker dealers, and Richard Fisher who has gone as far as to call for the break-up of big banks.

For his part, Plosser said that although creditors still believe the government will bail out big banks, he has "serious doubts" about Fisher's approach.

RESOLUTION REGIME

The 2010 Dodd-Frank bill demands higher capital for banks. It also gives the Federal Deposit Insurance Corporation, a regulator alongside the Fed, authority to resolve failing banks.

Plosser said that so-called resolution regime is too arbitrary, unpredictable, and vulnerable to political influence, given it relies on regulatory bodies such as the Fed to agree which firms are so big that their failure would harm financial markets and the economy.

A more standard bankruptcy mechanism, such as a new Chapter 14 that would involve a judge's discretion, is a superior approach, he said.

"By being more systematic and rule-like, a bankruptcy resolution would largely eliminate the potential for bailouts," Plosser said.

"Rather than providing firms with incentives to take actions that might increase their systemic-risk potential, a bankruptcy resolution mechanism would likely increase the firm's incentives to avoid actions that might result in bankruptcy.

(Reporting by Jonathan Spicer, editing by Chizu Nomiyama)

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