AEIdeas

The public policy blog of the American Enterprise Institute

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Discussion: (9 comments)

  1. PLEASE, PLEASE, PLEASE stop this “most dangerous woman” nonsense. It cheapens what you write. It attracts the wrong eyes to the topics you write about. In this case, the woman’s ideas may be dangerous or unpopular or something else out of the ordinary. But she is probably dangerous to no one but her spouse. As an otherwise serious writer, please be more careful.

  2. I have nothing against much more bank equity… and I completely agree with that nothing bad (or at least nothing worse) would come out banks if they were holding 30% in equity.

    But, that said, I do fret immensely about bank equity Puritans who give little thought about how we go from where our banks find themselves today, to where we want our banks to be.

    I mean, realize it, Anat Admati´s ideal banks, might be trillions of dollars of equity away… and, while travelling there, should we not care about those who will not be able to survive that journey?

    But also, I most definitely do not belong to those arguing for more bank equity, before arguing about less discriminatory and distortive bank capital requirements than the current risk weighted ones because, as a true conservative, and though I might personally be afraid of risk-taking, I have truly learned to appreciated all those risk takers who have come before us and helped us to become what we are.

    In summary, I do not believe in the chances of a world where bankers make higher risk adjusted returns on equity when lending to The Infallible than when lending to The Risky… and much less so if you call yourself to be living in “the home of the brave”

    http://subprimeregulations.blogspot.com/2014/07/my-list-of-biggest-x-mistakes-of-risk.html

  3. It should be noted that Charles Calomiris has criticized Admati’s claims elsewhere;

    http://www.voxeu.org/article/25-bank-equity-requirement

    Things aren’t as straightforward as she claims. Maybe she is dangerous.

  4. First off, too think the Rep Frank is capable of writing any piece of worthwhile legislation is ridiculous. He was probably most responsible for the housing market collapse and the resulting recession. Going forward from that point, who ever thinks we can build something too big to fail is insane. Even the sun will fail someday. A far better solution would be to overturn DoddFrank and allow smaller banks back into the market place. While large banks are convenient, when they go down in flames, and they will, the wreckage is far harder to clean up.

  5. Does this woman even have the fainted knowledge of how the economy works?

    1: It would cause our economy to collapse. Much of our money supply is due to the bank multiplier effect. Since all money pretty much ends up in banks, if the bank gets a dollar and lends out 95 cents – that 95 cents gets deposited and the bank lends out 90 cents more … So in the end it increases the money supply 20 fold. Increase the hold to 30% and the multiplier is only 3.3. We would end up with only 1/6 the money in our economy.

    2: Banks don’t lend their own money, they lend other people money. That 5% is the reserve. (if someone deposits money long term the bank must hold 5% of that back) They aren’t venture capitalists. Banks also will bundle and sell loans so they are at less risk of exposure. The exposure then ends up with someone like fannie Mae.

    Maybe the real answer is to not insure the deposits any longer, so people won’t put money into weak banks

    1. I’m fairly sure she does know that.
      But you are ignoring the fact that the current reserve amounts did cause our economy to collapse. Current reserves amounts are ridiculous especially if we have too big to fail banks.

      And your analysis ignores the fact that the Fed could correct any tightening in the money supply.

      And you ignored the fact that she’s not serious about the 30% figure; she’s really just pointing out that the 5% figure is way too low.

      Plus your analysis ignores the fact that the system is not completely efficient (e.g. money under mattresses, and abroad doesn’t get multiplied) nor can banks lend money based on all their accounts, only deposit type accounts.

    2. Jane Johnson

      There seems to be some confusion between banks’ reserves requirements and banks’ capital requirements. The former requirements sets the limit on the money multiplier, as one commenter says. But that is about all that it does; it does not signify the solvency or stability of a bank. Capital requirements, on the other hand, do have a role in a bank’s solvency or stability; they represent the equity, or “cushion” that a bank can fall back on if it encounters financial problems.

      The reserve requirement is expressed as reserves divided by deposit liabilities. The capital requirement is expressed as total equity divided by total assets. So reserve requirements and capital requirements are two entirely different things.

      If a bank experiences bad loans, it must dip into its capital, not into its reserves. If capital is insufficient to cover the loan losses, then we would say the bank is “undercapitalized.”

    3. Fred Svedarsky

      What you describe is a dangerous Ponzie scheme in which the banks take in short term deposits and lend them out in long term loans. As long as the short term deposits keep coming in (and there is no major shift in interest rates) the scheme works and the bank skims off a few percentage points of interest and loan fees from loaning out somebody else’s money. The problem comes when there is a disturbance in the reliable in-flow or replacement of short term deposits. When that happens, the scheme collapses because the big banks cannot raise enough cash to meet the depositor’s withdrawal demands.

      Regarding the money supply: It is true that this scheme involving, essentially, the collateralizing new loans with old ones, all based on a relatively small reserve of actual deposits, dramatically increases the money supply — just as margin trading in the stock market allows risk-tolerance stock traders to double and triple-down there bets on the behavior of individual stock prices. This creates excessive risk in financial institutions and exaggerates the effects of a financial downturn. The exaggerated effect of inflated valuations driven by too much liquidity in the economy turn every cyclical downturn into a potential crash.

  6. I am certain Anat Admati would be happy with reaching a much more modest goal, like 20% and I am sure she understands very well the implications on the multiplier. What she in my opinion does not care sufficient about though, is how do we get from here to there, without hurting our economies more than they have already been hurt.

    But then of course, again, immensely more important for me than just higher bank equity (I would be satisfied seeing 15% at the end of the tunnel) is having capital requirements that are not risk-weighted and therefore do not distort the allocation of bank credit…

    If capital requirements were 30% and still risk weighted, no “risky” medium and small business, entrepreneur or start up would ever get a bank loan… only the “infallible sovereign” and the AAA-ristocracy would be offered these.

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