Banks stick with dividend plans despite potential for blowback

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WASHINGTON — Several banks have signaled they will pay dividends to investors despite the economic toll from the coronavirus pandemic, and the Federal Reserve appears to endorse that move. But the banks' decisions are getting blowback from industry critics and former regulators.

In earnings calls this week, numerous large-bank executives reported first-quarter profit declines and billions in loss reserves set aside over concerns about the pandemic. But many banks — including Wells Fargo and U.S. Bank — also indicated they would continue returning money to investors.

“There has to be an underlying ability for companies to be able to pay [dividends], and so to the extent that they have that ability to pay, I certainly think it’s the right thing to do,” said Wells Fargo CEO Charlie Scharf.

But for some former regulators and others, that stance triggers flashbacks of 2008. They say issuing dividends is inconsistent with shoring up capital for a long-term, pandemic-induced downturn.

“It strikes us as an absolute no-brainer that banks should not be allowed to eject capital out the front door through dividends when the Fed is injecting capital throughout the financial system to prevent its collapse,” said Dennis Kelleher, the president and CEO of Better Markets.

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Fed Chair Jerome Powell has said he doesn’t currently see a need for banks to suspend dividend payments to shareholders, noting that banks have substantial capital buffers that are padded with post-financial-crisis protections.

In remarks last week, Powell noted that the eight largest U.S. banks and some regional banks have pulled back on share repurchases, but "they haven't stopped dividends."

"I don’t think that’s something that needs to be done at this point," he said. "I think our banks are highly capitalized, far more highly capitalized, with more high-quality capital than they were before the financial crisis. And, you know, we’ll be watching to see how things evolve, but I don’t think that step is appropriate this time.”

But others feel that it wouldn’t hurt for banks to hold onto additional cash as an insurance policy.

“If things work out well, banks can distribute income later on,” said former Fed Chair Janet Yellen, Powell's predecessor, in an interview with The Wall Street Journal earlier this month. “If not, they’ll have a buffer that will be needed to support the credit needs of the economy.”

In an op-ed for Yahoo Finance this week, former Federal Deposit Insurance Corp. Chair Sheila Bair called it a “mystery” that the Fed hadn’t yet ordered banks to halt cash dividend payments, something that both the Bank of England and the European Central Bank have done.

“Every dollar of capital a big bank distributes to shareholders and top executives is a dollar that does not support credit which struggling businesses and households need,” she wrote. “Why hasn’t the Fed put banks under similar restrictions?”

Some in the industry say the strong financial position of U.S. banks — including $1.3 trillion in common equity as well as $2.9 trillion in high-quality liquid assets — puts them in good standing to pay dividends. And while European banks pay one dividend at the end each fiscal year, the quarterly payments for U.S. banks make them easier to adjust based on the economic environment.

Neither the Fed nor any large U.S. bank has indicated that it would at this point consider suspending payments to investors.

Scharf said the money shareholders would earn from dividends is an “income stream that people come to rely on.”

But others worry that banks are being allowed to issue dividend payments at the same time that the Fed has encouraged them to dip into their capital buffers in order to continue to lend, and has temporarily eased the supplementary leverage ratio that requires banks to retain a non-risk-weighted percentage of capital against its assets.

“To its credit, the Fed has publicly and repeatedly directed the banks to support the credit needs of the real economy, but it is also creating incentives for them to do the opposite,” Bair wrote.

Paying dividends now could also come back to haunt banks later reputationally, similar to the financial crisis, added Benjamin Dulchin, the director of the Fed Up campaign at the Center for Popular Democracy.

“There is going to be a lot of public blowback if corporations in sectors that are receiving publicly financed bailout money are also paying off their shareholders first,” he said. “That was a big part of why the public reacted so negatively to the bailouts in ‘08.”

To be sure, there are a long list of differences between banks now and banks before the financial crisis. The Dodd-Frank Act required banking regulators to increase capital requirements at riskier firms and conduct regular stress tests to examine how prepared banks are for financial stress. Those stress tests are partly used to determine the maximum amount of dividends a firm can issue.

“I think, generally speaking, all banks are in a good position right now, which is why we're all able to help our customers while protecting employees, which is exactly what we're focused on,” said U.S. Bancorp President and CEO Andrew Cecere in the bank’s earnings call Wednesday.

“Importantly, based on what I know today, even if the economic downturn persisted through the most of the year, we still believe we can maintain the dividend, which is also an important factor for our shareholders,” Cecere continued.

Banks are “really in great shape from a capital perspective,” agreed Hu Benton, vice president of banking policy at the American Bankers Association.

The banking industry and its representatives currently oppose a blanket requirement to suspend dividends.

The decision to suspend dividends should lie with individual banks, and not the Fed, said Chris Cole, executive vice president and senior regulatory counsel at the Independent Community Bankers of America.

“It would not be a good safety and soundness policy to just come out and say, 'No dividends to shareholders,' ” he said. “We think it needs to be on a case-by-case basis, depending on how safe and sound the bank is.”

A blanket ban on dividend payments would especially impose hardships on S subchapter banks, said Cole. Shareholders of such banks pay taxes on the bank’s earnings regardless of whether the earnings are distributed, and many use dividend payments in order to pay those taxes.

But for larger banks, the Fed's limiting of dividend payments may be appropriate, Cole said.

“I think shareholder dividend restrictions on the big banks might, particularly the top four, might make sense,” he said. “I know some of those banks have been aggressive with how much they pay their shareholders in the form of dividends.”

However, it would be difficult for any one bank to hold off on dividend payments without facing backlash from investors, said Kelleher.

“Either all banks have to do it, or none of them really can do it, because they will be a price to pay in the marketplace,” he said, adding that banks “are looking to the Fed to order it.”

If banks pay out earnings to shareholders yet need assistance from the federal government further down the line, they could face immense pushback, said Dulchin.

“It would be both wrong and also from a public relations point of view, very unwise of the banking sector to be seen as paying their shareholders before they actually protect themselves, and then expect to get bailed out by taxpayer-backed money,” he said.

In general, banks have tried to get out in front of the economic crisis spurred by the coronavirus.

In March, the eight largest U.S. banks announced that they would suspend share repurchases through June, and they have been working around the clock to stand up the Small Business Administration’s Paycheck Protection Program to offer loans to small businesses hurt by the pandemic.

“The real thing that has got everybody's attention now … is these new programs that are making funds available so that liquidity for various kinds of assistance can flow to folks suffering [economically] from the pandemic — businesses that are suffering, and [people] who may have been laid off,” said Benton.

But that could all be for naught if a persistent downturn puts banks in a bad spot, warned Kelleher.

“It is interesting that they do seem to have learned some of the lessons of '08, '09, where their tone-deaf actions and statements properly fueled a backlash,” he said. “And yet, they may actually snatch defeat from the jaws of victory here by continuing to pay dividends in the face of a financial calamity that could deteriorate very fast and necessitate bailouts.”