GAO Report Finds Large Bank Subsidy Diminished

WASHINGTON — A highly anticipated report by the Government Accountability Office has found that the subsidy the largest banks receive from the perception that they will be bailed out by the government has been reduced or even eliminated.

While the report is not due out until this afternoon, a top GAO official previewed it in written testimony made available on Thursday morning.

Lawrance Evans, the agency's director of the financial markets and community investment division, said although views vary, "many believed that recent regulatory reforms have reduced but not eliminated the likelihood the federal government would prevent the failure of one of the largest bank holding companies."

"Our analysis suggests that large bank holding companies had lower funding costs than smaller ones during the financial crisis but provides mixed evidence of such advantages in recent years," he said.

Sens. Sherrod Brown, D-Ohio, and David Vitter, R-La., requested the study in January 2013, and have since worked together on legislation to raise capital standards at the largest institutions.

Brown has scheduled a hearing later today in the Banking Committee's subcommittee on financial institutions and consumer protection in conjunction with the report's release.

The report, "Large Bank Holding Companies: Expectations of Government Support," includes qualitative data from interviews with market participants about their perceptions of the Dodd-Frank Act's resolution authority and the odds that the government would again bail out a large financial institution.

Researchers also reviewed the existing literature on the size of the market subsidy, and conducted an extensive analysis of their own using 42 methodologies to assess banks' funding costs from 2006 to 2013. The analysis did not explicitly factor in how increased compliance costs under Dodd-Frank might offset potentially lower funding costs, a common industry argument, though Evans noted that new fees and higher regulatory standards may disproportionately impact the biggest banks.

Even so, the study found that in more than half of its models, big banks actually had higher funding costs than smaller institutions from 2011 to 2013.

"For 2013, 30 of our models suggest that the larger banks had higher funding costs, and 12 of our models suggest that the larger banks had lower funding costs," Evans said.

The topline findings have already been welcomed by the financial services industry, which has repeatedly said that the industry, in implementing the Dodd-Frank Act, is working to end concerns about "too big to fail" institutions.

The report's results are "good news for free markets, consumers and taxpayers," said Tim Pawlenty, president and chief executive of the Financial Services Roundtable. "Policy makers should now turn their attention to finishing Dodd-Frank implementation in a common sense way that strikes the right balance between properly protecting against future risk while not stifling the sound investments needed to start businesses and grow jobs."

Paul Saltzman, president of The Clearing House Association, added that the government now has "the tools to effectively resolve any bank regardless of size or complexity without taxpayer support. As a result, market participants are factoring these developments into their assessment of bank credit risk."

Obama administration officials have also repeatedly emphasized the role Dodd-Frank has had in changing market expectations.

"These findings reflect increased market recognition of what we have consistently said — Dodd-Frank ended 'too big to fail' as a matter of law," said a Treasury official in a statement. "Of course, regardless of the conclusion of GAO's report, we must remain vigilant on this issue given the evolving nature of our financial system."

Still, the study is unlikely to end the debate over "too big to fail" anytime soon, and the GAO report also provides additional fodder for those concerned about the problem.

"While our results do suggest bond funding cost differences between large and smaller bank holding companies may have declined or reversed since the 2007-2009 financial crisis, we also found that a higher credit risk environment could be associated with lower bond funding costs for large bank holding companies than for small ones," Evans said in his testimony.

As such, critics, including Brown and Vitter, warned that the subsidy could again increase in the event of another crisis.

"Today's report confirms that in times of crisis, the largest megabanks receive an advantage over Main Street financial institutions," said Brown and Vitter in a joint press release. "Wall Street lobbyists may try to spin that the advantage has lessened. But if the Army Corps of Engineers came out with study that said a levee system works pretty well when it's sunny — but couldn't be trusted in a hurricane — we would take that as evidence we need to act."

Camden Fine, president and chief executive of the Independent Community Bankers of America, added that the subsidy "still exists, it's just been mitigated because of the Federal Reserve's quantitative easing. Once rates go back to normal, the subsidy will increase again."

"While they may have a slightly different slant on the size of the subsidy, the GAO does not deny that a subsidy exists, and to that extent it agrees with every other impartial, academic report out there," Fine said.