13 Hearings

By Bartlett Naylor

Americans understandably worry about interest rates frustrating the ability to buy a home, junk fees that bloat a bill, or discriminatory lending that disenfranchises vulnerable communities. These financial issues deserve congressional attention. But for the last 12 months, the House Financial Services Committee instead held 13 hearings about what’s known as the “Basel III endgame” proposal jointly issued by federal financial agencies.

Basel III does not refer to a strain of herb and the endgame isn’t some botanical apocalypse. Basel is a Swiss city that hosts international financial leaders who attempt to harmonize bank rules so that global banks compete on a level playing field. And the “endgame” refers to what would be the final effort, which is now on the third (III) iteration.

Basil might be served at a meal, but the Basel proposal is hardly a kitchen table issue. The proposed rule aims at standards for bank capital, a misleading term that means net worth. The agencies want to increase capital, or the minimum net worth for large banks, which would make banks safer. One might ask, isn’t it a good thing to hold hearings on bank safety? Alas, the goal of Republican leadership on the committee aims in the opposite direction; they lambast these proposed safety standards.

That’s 13 hearings in 12 months to complain about making banks safer. Phew.

Some basics: As with all business, capital (net worth) constitutes the fundamental metric of bank health. Net worth simply means the distance between the value of assets and the value of liabilities. The greater the distance, the healthier the bank. If liabilities exceed assets, the business becomes insolvent.

The 2008 financial crash resulted when bankers wrote too many bad mortgages that couldn’t be repaid. On their books (balance sheet), the mortgages appeared as assets. When those mortgages defaulted, bank assets declined below the level of their liabilities. Washington called on American taxpayers to bail out the mega-banks. Subsequently, in the spring of 2023, four regional banks failed. At Silicon Valley Bank, its long-term bond portfolio of assets declined in value. This sparked a classic bank run, forcing a federal takeover and a quasi-bailout when regulators guaranteed all deposits, even those above the federal maximum of $250,000.

Even in good times, the mega-banks operate dangerously close to insolvency. JP Morgan, the largest American bank, lists $3.6 trillion in assets, but also $3.3 trillion in liabilities, a gap of only 7.9 percent. By contrast, the average American’s net worth is much safer, with assets 40 percent greater than individual liabilities.

Bankers – and, clearly, several members of Congress who side with the banking industry –  oppose increased net worth/capital standards for two basic reasons. First, banks specialize in leverage, namely the use of debt. They borrow from customers in the form of deposits and from large lenders who purchase the bank’s bonds or make other loans to the bank. By using little of the banks’ own money, more specifically, the shareholders’ money, any profit is spread over fewer shares. The same principle applies to a house flipper who tries to invest as little capital as possible. Putting $10,000 down on a $100,000 home that is then resold for $150,000 yields a five-fold profit. Putting $25,000 down would only generate a two-fold profit. That may be attractive for some bank shareholders, but it’s especially appealing for bankers in the C-suite where the stock price determines the paycheck. That’s the second reason banks oppose greater capital standards. The quickest way to improve the return on equity, or R/E, is to reduce E.

Bank-friendly members of Congress, who should wear bank sponsor patches akin to NASCAR drivers to disclose who funds them, heard intensely from Wall Street lobbyists on this issue. A search of lobbying disclosure reports shows 83 entries for those working on the Basel issue. (Several entries are from the same institution.)  The usual suspects lead the list in expenditures, including the U.S. Chamber of Commerce; Securities Industry and Financial Markets Association, a trade group; Consumer Bankers Association, another trade group; Bank of America; HSBC, the largest bank in the world; and Capital One. The Chamber of Commerce, a front for mega-banks, lobbied extensively on the Basel III issue. It spent $23 million on lobbying in the first quarter of 2024, and $13 million in the second quarter on all issues, including Basel. (Its expenditures regarding Basel may represent only a small fraction given that these figures cover all issues on which the Chamber lobbied.)

Perhaps the issue of bank capital/net worth plays an outsized role in the minds of constituents of the leadership at the House Financial Services Committee? That’s not apparent from the government websites of committee leadership, which are usually set up to address what they perceive as their most urgent constituent priorities. Rep. Patrick McHenry (R-N.C.) chairs the committee.  He represents a district in central/west North Carolina, near Charlotte. His website does not highlight the 13 hearings on his  main page. Among the “issues” a North Carolina constitute might search, the first is not finance, but rather healthcare. Financial services are listed, but in a category that also includes jobs and the economy. Rep. McHenry lists the Second Amendment as one of the six highlighted issues. Within the jobs, economy and finance issue, he doesn’t mention the Basel III Endgame hearings, other than obliquely in reference to “related news.”

Nor does Rep. Andy Barr (R-Ky.), a subcommittee chair and outspoken critic of the safety rule, highlight the 13 hearings for his constituents on his government website. He lists agriculture as the first policy issue, relevant for his rural district. Under the financial services issue, he comes close to addressing the 13 hearings with this explanation:  “I have led the charge on holding the Federal banking regulators accountable. Presently, the regulators have proposed a sleuth (sic) of onerous regulations that will decrease access to and availability of capital and credit, which will hinder Americans’ ability to finance a car, achieve the American dream of homeownership, and much more.” Note that he avoids the safety policy behind these rules. Instead, he parrots Wall Street’s argument that a high net worth would lead to less and more expensive lending for borrowers.

That assertion fails apart under scrutiny. Bankers that emerged from the 2008 financial crash with greater net worth expanded lending more than peers with less capital. A study covering lending from 2013 to 2019 found that higher net worth requirements did not dull lending. A review of academic studies by economist Marc Jarsulic found that “higher levels of bank equity improve both economic performance and the availability of credit.”

In short, Reps. McHenry, Barr and many other members of the House Financial Services Committee probably hear more from bank lobbyists than their constituents on the issue of Basel III Endgame. The scarcity of specificity regarding Basel II on their public websites is telling.

Thirteen reform-bashing hearings may be working on one audience: the regulators. While they first proposed the safety measure in July 2023, they have yet to finalize it. In fact, Federal Reserve Chair Jerome Powell signaled they may re-propose it. Michael Barr, the Fed’s Vice Chair of Supervision, has led the effort. But amidst the bank-promoted blizzard of congressional hearings, he forecast a reduction in the capital reform standard from the initial July 2023 proposal and the new revision when it’s released.  To add insult, the House recently approved a bill that includes stripping Fed Vice Chair Michael Barr of his title.

Thirteen hearings orchestrated by the GOP-led House committee may be overkill. But Republicans don’t hold a monopoly in attacking bank safety rules. Some Democrats have fallen for the argument  that increased borrowing costs from better capital. Nor do Democrats enjoy clean hands-on financial policy generally. MIT Prof. Simon Johnson wrote about the effort by Clinton administration Treasury Secretary Larry Summers to stifle the effort of Brooksley Born, then chair of the Commodity Futures Trading Commission, to bridle excesses in the mortgage securities speculation market. Summers amassed a dozen+ financial leaders in a White House telephone call to the regulator. Summers told Chair Born, “[T]hey say if you go forward with this you will cause the worst financial crisis since World War II.” They blocked her and the nation suffered the worst financial crisis since the 1929 crash.  On Oct. 14, 2024, Prof. Johnson won the Nobel Prize for economics.

The name of the Prof. Johnson’s book:13 Bankers.. Apparently, 13 is the magic number that blocks needed reform.

We hope that the committee instead focuses on what can happen to consumers if banks go awry with insufficient safety guards. The mortgage fueled crisis and regional bank failures mustn’t be forgotten.