Bernanke: We Will Do What It Takes to End 'Too Big to Fail'

WASHINGTON — Federal Reserve Board Chairman Ben Bernanke on Wednesday said regulators would take additional steps to eliminate the problem of "too big to fail" if current efforts fall short.

Although he noted progress that regulators have made, including new capital and liquidity rules targeting the largest institutions, the central banker was clear that "too big to fail" has not yet been solved.

"We need to keep assessing," said Bernanke at a press conference following a two-day Federal Open Market Committee meeting. "If we don't achieve the goal, I think, we'll have to do additional steps. It's not something we can just forget about."

Bernanke said the issue remains a top priority for regulators.

"It may take some time, but 'too big to fail' was a major part of the source of the crisis and we will not have successfully responded to the crisis if we don't address that problem successfully," said Bernanke.

Regulators have been on the defensive lately as they've tried to beat back bipartisan criticism that the Dodd-Frank Act didn't cure the problem of "too big to fail." Instead, they have repeatedly pointed to the swath of tools supervisors now have to deal with megabanks: stringent capital requirements, authority to safely unwind banks, and liquidity buffers.

The issue came to a head recently during a Senate Banking Committee hearing, when freshman Sen. Elizabeth Warren, D-Mass., challenged the Fed chief on why regulators have not done more to eliminate the perception of "too big to fail." She was echoed by conservative Republican Sen. David Vitter of Louisiana, who said it was a "top concern" shared by many across the political spectrum who believe "'too big to fail' is alive and well."

At Wednesday's press conference, Bernanke said he shared Warren's concerns about "too big to fail," and didn't mean to suggest regulators had put the issue to rest.

"It's a major issue," said Bernanke. "I never meant to imply that the problem was solved and gone. It's still here."

Many critics say regulators have not done enough to rein in the Wall Street banks that receive billions of dollars in subsidies because the market perceives them as likely to be saved in the next financial crisis.

A recent study by an economist at the IMF concluded that the country's largest banks — JPMorgan Chase, Wells Fargo, Citigroup and Bank of America — reap substantial rewards because of the perception of "too big to fail. (Bloomberg View published a column on Feb. 20 quantifying the subsidy as roughly $83 billion.)

Bernanke said the Fed has not done its own analysis of how large that potential subsidy could be. But he said that capital requirements and surcharges on the largest financial institutions will help to "both equalize their cost of funding with other banks and make them safer so that the risk of their failure is limited."

Richard Fisher, president of the Federal Reserve Bank of Dallas, who has been a staunch critic of Dodd-Frank, also raised the profile of the issue in a speech on Saturday that reiterated his call for the largest banks to be broken up.

"These institutions operate under a privileged status that exacts an unfair tax upon the American people," Fisher said in a speech at the annual Conservative Political Action Conference. "They represent not only a threat to financial stability, but to fair and open competition."

Bernanke and other regulators have tried to stress the point that resolving "too big to fail" has no set end point and Dodd-Frank should be given an opportunity to work. It's an issue, they say, that can only be resolved gradually.

"It's not a zero-to-1 kind of thing," Bernanke said at the hearing last month. "It's over time you'll see increasing market expectations that these institutions can fail."

Fed Gov. Jerome Powell echoed a similar sentiment earlier this month in a speech before the Institute for International Bankers.

"It seems to me that efforts by U.S. and global regulators to fight 'too big to fail' are generally on the right track," said Powell. "The 'too big to fail' reform project is massive in scope. In my view, it holds real promise. But the project will take years to complete. Success is not assured."

Policymakers in recent months have floated possible additional regulatory requirements such as mandating that the largest institutions hold unsecured long-term debt, imposing a cap on nondeposit liabilities and strengthening a leverage requirement called for under Basel III.

Bernanke did not weigh in specifically on any of these proposals on Wednesday, but he said new liquidity regulations under Dodd-Frank and Basel III could help to address some risks, such as excessive reliance on short-term uninsured funding.

To some, these proposals suggest that policymakers recognize they should go further to deal with the issue of "too big to fail."

For example, Powell noted two remaining challenges for supervisors in their effort to safely unwind banks using a Dodd-Frank authority known as orderly liquidation. The first, he said in his speech, is that all systemically important firms have enough unsecured long-term debt with the parent in order to be able to recapitalize a bridge holding company, and the second obstacle: reducing cross-border impediments to resolving a multinational financial company.

"In consultation with the FDIC, the Federal Reserve is considering the pros and cons of a regulatory requirement that systemic U.S. financial firms maintain a minimum amount of long-term unsecured debt," said Powell. "Such a requirement would help ensure that equity and long-term debt holders of a systemic firm can bear potential future losses at the firm and sufficiently capitalize a bridge holding company."

He also endorsed a proposal suggested by Fed Gov. Daniel Tarullo in October for lawmakers to consider placing a limit on the size of the largest banks by limiting the nondeposit liabilities of financial firms to a specific percentage of gross domestic product.

"In addition to the virtue of simplicity, this approach has the advantage of tying the limitation on growth of financial firms to the growth of the national economy and its capacity to absorb losses, as well as to the extent of a firm's dependence on funding from sources other than the stable base of deposits," Tarullo said in a speech at the University of Pennsylvania Law School.

A third proposal, by Jeremiah Norton, a board member of the Federal Deposit Insurance Corp., called on U.S. regulators to consider imposing a stronger leverage ratio for banks. Regulators, he said, should require banks to meet a minimum ratio of tangible common equity to non-risk-weighted assets, warning that the current Basel III proposal relies excessively on risk-weightings that do not adequately capture risk.