Friday, May 8, 2009

Bank Holding Companies (Again)

Serial bloviator Simon Johnson writes:

In most countries, the course of action would be clear. The government would take over banks, remove “bad assets” from their balance sheets, inject fresh capital, and put them bank into the private sector. This is essentially what the FDIC does when it takes over a bank. There is some debate about whether the government currently has the power to do this for bank holding companies – Tim Geithner says no, Thomas Hoenig says yes – but if not, this is certainly something the Obama administration could press for.
Let's try this one more time: The government does not have the authority to seize a bank holding company and place it into receivership (or conservatorship). There is no debate about this. Johnson clearly doesn't understand Hoenig's argument, because he was very clear on this point. Hoenig wrote:
One of the difficulties with all of these options is that while there are time-tested, fast resolution processes in place for depository institutions, today's largest financial institutions are conglomerate financial holding companies with many financial subsidiaries that are not banks. The bank subsidiaries could be placed into FDIC receivership, but the only other option under current law for the holding company and other subsidiaries is a bankruptcy process.
Even an MIT professor should be able to understand that.


Anonymous said...

Presumably Johnson is referring to this quote (

"When Continental failed, its top management and directors were replaced with individuals who had experience operating large, complex organizations. John Swearingen, former chairman of Standard Oil of Indiana, became CEO of the holding company ..."

Given these facts, is it really, honestly clear that Continental Illinois did not involve a government takeover of the holding company? And I've never heard anyone argue that replacing the holding company CEO in Continental Illinois was illegal.

Economics of Contempt said...

The regulators got Continental's holding company to agree to a capital injection that gave the government the authority to replace the CEO of the holding company. The government had no authority to simply seize the holding company and replace the management. That's why Hoenig is advocating for a "negotiated conservatorship" of bank holding companies -- because the government would have to get the BHCs to agree to a government takeover.

The only reason Continental's holding company agreed to the government takeover was because the Continental Illinois bank -- which the FDIC did have the authority to seize -- was pretty much its only subsidiary. But today's BHCs own a lot more than just FDIC-insured banks -- Citigroup has over 2,000 principal subsidiaries -- and many (if not most) of their subsidiaries are organized in foreign countries. So even if the government got Citigroup or BofA's holding company to agree to a government takeover, most of the BHC's assets and liabilities would be beyond the power of any receivership or conservatorship. That means the government still wouldn't have the authority to "clean up" the BHC's balance sheet -- because it wouldn't have the power, in particular, to repudiate the BHC's outstanding contractual obligations. And if that's the case, then what would be the point of the government takeover in the first place?

Anonymous said...

The Federal Reserve's Role in Banking Supervision
It may be useful first to briefly review the Federal Reserve's bank supervisory responsibilities and how they interact with the other parts of our mission. The Fed has supervisory and regulatory authority over bank holding companies (including financial holding companies), state-chartered banks that choose to join the Federal Reserve System (state member banks), the U.S. operations of foreign banking organizations, and certain types of U.S. entities that engage in international banking.

Economics of Contempt said...

I don't understand your point. Sure, the Fed has "supervisory and regulatory authority" over BHCs. The problem is that those supervisory and regulatory authorities don't include the power to wind down failed BHCs. Bankruptcy is the only resolution process for failed BHCs.

Anonymous said...

So let them go into bankruptcy. Oh, that's right, I forgot we don't follow the law in the U.S. any more. Chrysler and GM bondholders get reamed when they should be made whole (or close to it) and bank bondholders get made whole when they should be taking losses. Capital structure - R.I.P.

But don't let this stop you from focusing all your blogging efforts on serial bloviators.

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