Tag Archives: Too-big-to-fail

“Report by the Parliamentary Investigation Committee on the Conduct of the Authorities in the Context of the Emergency Takeover of Credit Suisse”

The report (in German). From the press release:

The Parliamentary Investigation Committee (PInC) attributes the Credit Suisse crisis to years of mismanagement at the bank. It is critical of FINMA’s relaxation of capital requirements and regrets the lack of effectiveness of its banking supervision. The PInC also criticises the hesitant development of the TBTF legislation and identifies shortcomings in the flow of information between authorities. It does not find any misconduct on the part of the authorities as a causative factor in the Credit Suisse crisis and acknowledges that the authorities prevented a global financial crisis in March 2023. In its report, however, the PInC calls for specific improvements: a more international approach to TBTF regulations, more effective rules for systemically important banks, and clearer directives on coordination with the authorities responsible for financial stability in Switzerland.

… the Federal Council and Parliament gave too much consideration to the concerns of systemically important banks (SIBs) in the implementation of international standards (Basel III, BCBS and FSB principles), particularly from 2015 on. For example, the Federal Council repeatedly granted SIBs extended transitional periods to comply with further legal developments; it also suggested delaying the adoption of international standards. The PInC believes the Federal Council acted too hesitantly, particularly with regard to the introduction of a public liquidity backstop (PLB).

The PInC also scrutinised FINMA’s conduct of business, finding that its supervisory activities – while intensive – lacked sufficient impact. Despite numerous enforcement proceedings and warnings issued by FINMA, Credit Suisse continued to be plagued by a series of scandals. The PInC finds it regrettable that FINMA did not opt for a withdrawal of recognition for guarantees of proper business conduct during this period.

Moreover, the PInC fails to understand why FINMA granted Credit Suisse extensive easing of its capital adequacy requirements in 2017 in the form of a regulatory filter. … While the filter was legal, the PInC questions its usefulness. … without the filter, Credit Suisse would have failed to meet capital adequacy requirements – just marginally in 2021 but significantly in 2022. The PInC sees an urgent need for action in the granting of alleviations to systemically important banks.

… The exit scenarios prepared from the outset included those set out in the TBTF rules (liquidation; ELA) and several additional options (TPO; ELA+; takeover). The PInC believes that the most important scenarios were analysed. However, it criticises the fact that not all the authorities involved had the same level of knowledge during this phase, which may have hindered the possibility of taking decisive action at an earlier stage. In particular, the information given to the Federal Council in autumn 2022 should have been more comprehensive. The PInC also considers that the informal meetings initiated by the then finance minister and the Chairman of the SNB’s Governing Board in the autumn of 2022 were of limited use, as they were not sufficiently coordinated within the regular crisis structures. If the PLB had already been in place, the authorities could have intervened in the autumn to restore confidence without the need for emergency legislation. Furthermore, any scope for action was limited by the regulatory filter introduced in 2017.

… Negotiations between Credit Suisse and UBS proved difficult, and the outcome was uncertain. The authorities therefore continued to pursue a number of fallback options in parallel: restructuring of Credit Suisse, temporary public ownership, or even a forced merger as a last resort. It remains unclear which solution would have been adopted if the emergency takeover had failed.

… The emergency legislation was applied in accordance with the law. In view of the acute situation, the PInC understands that an alternative solution with a foreign bank was no longer feasible at that point in time, even if it might have been more advantageous for Switzerland’s competitive position in the longer term. Additionally, the PInC notes that the chosen solution has revealed certain weaknesses in the existing TBTF regulations.

… The PInC acknowledges the achievements of the authorities in March 2023 in preventing a global financial crisis. However, it believes that lessons must be learnt from their handling of the Credit Suisse crisis, especially given that this was the second time the state had to intervene to save a systemically important bank and also due to the fact that Switzerland now has only one remaining global systemically important bank (G-SIB).

… the current TBTF legislation focuses too heavily on Switzerland, particularly in terms of emergency planning, and that the resolution plan for a G-SIB operating internationally from Switzerland must consider international interdependencies. Furthermore, the current TBTF regulations are not designed to deal with a crisis of confidence and overlook some important market indicators. The PInC recommends restricting future easing of capital and liquidity requirements. It also identifies need for action regarding the current rules on audit oversight.

Coordination between the individual authorities and the involvement of the Federal Council as a whole was found to be suboptimal, with particular attention needed in the exchange of information. Improvements are also needed in risk management and early crisis detection.

UBS, now Switzerland’s only G-SIB, is many times larger relative to the country’s gross domestic product (GDP) than other financial institutions are relative to their country’s GDP. The PInC considers it essential that this fact be given due consideration in the regulations.

“Retail CBDC and the Social Costs of Liquidity Provision,” VoxEU, 2023

VoxEU, September 27, 2023. HTML.

From the conclusions:

… it is critical to account for indirect in addition to direct social costs and benefits when ranking monetary architectures.

… the costs and benefits we consider point to an important role of central bank digital currency in an optimal monetary architecture unless pass-through funding is necessary to stabilise capital investment and very costly.

… the interest rate on CBDC should differ from zero and from the rate on reserves.

From the text:

Notes: The dark grey area represents the efficiency advantage of CBDC needed to make it less costly than a two-tier system with optimum reserve holdings. The light grey area displays the same object but based on actual US reserve holdings rather than model-implied optimal ones. These distributions allow for pass-through costs and tax distortions, quantified by assuming taxing households causes deadweight burdens of 25% per tax dollar. The distributions are based on two million realisations.

“Why the Digital Euro Might be Dead on Arrival,” VoxEU, 2023

With Cyril Monnet. VoxEU, August 10, 2023. HTML.

… promoting the digital euro requires an aggressive marketing strategy because private incentives for adoption are limited. However, the pursuit of such an aggressive approach is unlikely as this runs counter to the ECB’s fourth, implicit objective of protecting banks’ existing business model.

This is problematic and could turn the project into a significant missed opportunity, for the potential social benefits of the digital euro substantially exceed its private ones.

“Der digitale Euro könnte zur Totgeburt werden (Digital Euro, Dead on Arrival?),” NZZ, 2023

Neue Zürcher Zeitung, July 5, 2023. PDF. HTML.

Ein digitaler Euro könnte den Wettbewerb fördern, mehr Transparenz schaffen und das Too-big-to-fail-Problem entschärfen. Mit ihrer Minimalvariante aber priorisiert die EZB das Ziel der Bewahrung des Status quo im Bankensystem.

“Finanzplatz steuert auf eine Verstaatlichung der UBS zu (Switzerland on its Way to Nationalizing UBS),” NZZ, 2023

Neue Zürcher Zeitung, March 22, 2023. PDF.

  • How to respond? Nationalization now rather than later? Breaking UBS up? Placing government representatives on the supervisory board?
  • Illiquidity crises and the lender of last resort.
  • Vollgeld, higher reserve requirements, and CBDC as partial solutions to TBTF problems.

“Dirk Niepelt im swissinfo.ch-Gespräch (Interview with Dirk Niepelt),” swissinfo, 2020

Swissinfo, December 14, 2020. HTML, podcast.

We talk about CBDC, the Swiss National Bank, whether CBDC would render it easier to implement helicopter drops, and how central bank profits should be distributed.

UBS Business Solutions AG

In the NZZ, Hansueli Schöchli reports about further steps by UBS, the Swiss bank, to prepare for the next financial crisis. In the future, a legally independent service unit—UBS Business Solutions AG—provides other business units with critical internal services, including payments, trading systems as well as legal services. A “Master Service Agreement” specifies that the service unit remains operative even if other business units fail.

Die UBS vollzieht nun einen weiteren Schritt. Sie überträgt dieser Tage die konzerninternen Dienstleistungen für das Schweizer Geschäft in die rechtlich selbständige Dienstleistungseinheit UBS Business Solutions AG. Übertragen werden damit im Inland rund 8000 Mitarbeiter. Weltweit soll diese Service-Einheit bis Ende Jahr etwa 18 000 Beschäftigte umfassen. Zu den betroffenen internen Dienstleistungen zählen unter anderem Informatik, Zahlungsverkehr, Handelssysteme, Risikomanagement, Rechtsdienst, Personal und Marketing. Hauptzweck der Übung: Auch wenn Teile des Konzerns in den Konkurs schlittern, sollen kritische Dienstleistungen weiterhin sichergestellt sein. «Dies ist eine Lehre aus der Pleite von Lehman», sagt Markus Ronner, Chef Notfallplanung bei der UBS.

Ein globales «Master Service Agreement» regelt die Service-Lieferungen gegenüber gut 130 UBS-Gesellschaften. Nebst Preisen und Qualitätserfordernissen ist dabei auch geregelt, dass die Service-Einheit im Fall des Konkurses eines Konzernteils ihre Dienstleistungen gegen Bezahlung noch mindestens zwei Jahre lang weiterführen muss. Wenn interne Kunden zahlungsunfähig werden, muss die Service-Gesellschaft genügend Liquidität haben, um in einer Übergangszeit ihre Dienste aufrechterhalten zu können; die Rede ist von sechs Monaten als Referenzmarke.

“Bankensektor im Umbruch (Structural Changes in Banking),” FuW, 2015

Finanz und Wirtschaft, April 18, 2015. PDF. Ökonomenstimme, April 20, 2015. HTML.

  • Banks increasingly face competition in bread-and-butter businesses like term deposits, lending and payments.
  • Two trends shape the sector’s changes: Falling trust in banks, both at the political level and by individual clients; and the rise of the internet.
  • Trust has been squandered. But with cheap access to information, it also has lost importance.
  • Asymmetric information in financial markets might become less of a friction. This could turn into an existential threat for banks.
  • When trust is less important and technology more versatile, increasing returns to scale in the provision of financial services might be a thing of the past. And so the universal bank. New regulatory and tax regimes could foster the process of structural change.

Here are some links to background information:

Single-Point-Of-Entry, Orderly Liquidation Authority and Chapter 14

In the thirteenth, fourteenth, fifteenth and sixteenth chapters of “Across the Great Divide: New Perspectives on the Financial Crisis,” Randall Guynn, Kenneth Scott, David Skeel and Michael Helfer discuss legal strategies to resolve financial institutions, including single-point-of-entry, orderly liquidation authority under the Dodd-Frank act, or proposals for a new chapter in the bankruptcy code.

Proposed in 2012 by the FDIC, the single-point-of-entry strategy has widely been acknowledged as useful, both in the US and internationally (for example in Switzerland by FINMA). Guynn writes:

The key to solving the TBTF problem without taxpayer-funded bailouts is a high-speed recapitalization of the failed financial group that imposes losses on shareholders and other stakeholders but avoids unnecessary value destruction and preserves the group’s going-concern value. …

The SPOE strategy can be implemented under the existing Bankruptcy Code, although a new Chapter 14 could increase the likelihood of its success, particularly if it were coupled with a secured liquidity facility from the government that would be able to provide such liquidity under the most severe economic conditions.

“How Efforts to Avoid Past Mistakes Created New Ones: Some Lessons from the Causes and Consequences of the Recent Financial Crisis”

In the first chapter of “Across the Great Divide: New Perspectives on the Financial Crisis,” Sheila Bair and Ricardo Delfin argue that regulatory responses to past crises sow the seeds of the next ones:

  • The “Greenspan put” fostered risk-taking and overconfidence.
  • Low interest rates and the search for yield led to a lowering of lending standards and stronger demand for mortgages; a rise in housing wealth accompanied falling household incomes. The Fed’s strong policy response to the Great Recession may create new risks.
  • The 1980s savings and loans crisis led to stronger reliance on the originate to distribute model and securitisation of mortgages. Market participants lost sight of the risks. Regulatory incentives led banks to take the securitised loans back on their balance sheets and additional sources of maturity mismatch arose from strong reliance on short-term funding.
  • The “self-correcting markets myth” led Congress to deregulate financial services. The Gramm-Leach-Bliley Act fostered competition and consolidation; the Commodity Futures Modernization Act loosened oversight over the OTC derivatives market. Financial regulators also relaxed restrictions; Basel II replaced standardised regulator-set capital charges with internal models of banks.The Dodd-Frank Act reversed this trend, allowing for more discretion and micro-management.
  • The pre-crisis incentives led to large, “too-big-to-fail” institutions and bred moral hazard. Dodd-Frank improve things, by establishing consolidated oversight, living will requirements, enhanced prudential standards and enabling the FDIC to resolve systemic entities that cannot be resolved safely in bankruptcy. Clearing houses may require more regulation.

Perspectives on the Financial Crisis

A Hoover Press book edited by Martin Baily and John Taylor collects articles about the financial crisis. The contributions in “Across the Great Divide: New Perspectives on the Financial Crisis” include (with links to PDF files):