Blog Post: Wall Street Throws the Kitchen Sink at Bank Capital Proposals

Wall Street Throws the Kitchen Sink at Bank Capital Proposals

By Alexa Philo

We should be clear about the motives of the banks’ strong opposition to the bank capital proposals released by federal regulators on July 27. The proposals will make it harder for bank executives to pursue riskier short-term financial gains and mobilize capital for their own benefit by paying excessive dividends and buying back shares. It is that simple, and any debate that does not include this fact is disingenuous.

Every time regulators have worked to create a more resilient banking system, banks have dished out the same nonsense. Their arguments range from misleading the public as to what bank capital actually is, to threatening to cut back small business lending. This time, they have added the claim that increasing capital requirements will lead to fewer affordable housing options for Black and Brown communities. 

American banks could very easily raise their current capital levels by simply retaining earnings, which are plentiful right now, instead of buying back shares or paying dividends. JPMorgan Chase, Wells Fargo, and Citigroup reported $22 billion in profit in the third quarter of 2023. Other major banks affected by the new rules, like Truist, U.S. Bancorp, Capital One, and PNC are all robustly profitable.

Banks and their proponents have been throwing everything and the kitchen sink at regulators, Congress, and the public for decades to avoid playing by rules that decrease the likelihood of another boom-and-bust cycle ending in a major financial crisis. Each time their dire predictions have not materialized. 

Let’s dissect the most common claims one by one.

Claim #1: Capital is money locked away that doesn’t support the economy

Truth: Capital is not money squirreled away somewhere with a sign that says “Break Glass in Case of Emergency.” (Banks do hold reserves, and their level affects lending, but that’s a different matter entirely.) Bank capital is the difference between their assets and liabilities, and assuming assets are greater than the liabilities, it is the equity in the company owned by its shareholders, and it functions as a cushion against losses. 

When banks fail – when capital cushions are too thin – the fallout is not limited to their shareholders. Taxpayers, workers, and the greater economy bear the brunt of the failure. For these reasons, we require banks to hold onto some of their capital rather than distributing all in the form of dividends, stock buybacks, or executive compensation. Well-capitalized banks are less likely to default and have a greater cushion during economic downturns. By opposing larger capital cushions, banks are trying to privatize their gains and socialize any losses. 

Claim #2: Higher capital levels will lead to lower lending 

Truth: As the Bank Policy Institute, the main lobby group against the rules, recently admitted at an event, the proposed capital requirements for credit risk in particular are lower than current requirements. So, claims that the capital proposals will lower lending don’t hold water. In fact, many studies have actually found that higher capital requirements support increased lending. Economists Stephen Cecchetti and Kermit Schoenholtz, coauthors of the leading textbook Money, Banking and Financial Markets, compiled data on how higher capital levels affected lending. Between 2013 and 2019, when bank capital levels were going up, the rate of overall credit availability remained robust—and the portion of credit provided by banks, as opposed to nonbanks not subject to the new rules, actually went up. Banks made more loans even as they increased capital. Also, better-capitalized banks extend more credit during downturns, which is precisely when small businesses need it most. 

In small business, with about a third of lending coming from regional banks and about half from non-banks, a significant majority of small business lenders will not be impacted by the large bank capital proposal. That is not stopping Goldman Sachs and other megabanks from running intensive advertising campaigns about the negative impacts of the Basel III Endgame proposal on small businesses. However, the mega banks have made clear that they do not actually support policy steps that advance equitable small business lending, as evidenced recently by their opposition to a new rule (implementing section 1071 of Dodd Frank) that will for the first time gather and make public detailed data on small business lending, including demographic information, so that agencies, businesses, and communities can better understand credit needs and address problems. 

Claim #3: Higher capital will reduce affordable housing in communities of color

Truth: Mortgage loan risk weights do not kill programs for affordable homes; their impacts are minor.  This false narrative helps the banks gain support from progressive groups on some core issues.

The agencies should make sure risk weights for home mortgages are appropriately weighted to address any genuine negative impacts,  and they have indicated willingness to do so. If affordable housing was the big banks’ real concern, that would give them a lot of comfort, but it is not.  Big-bank interest in this business has waned for a long time. When they have had lower capital requirements, they have notably failed to serve Black and Brown communities; the major originators are now non-banks such as Rocket Mortgage and Pennymac.

The Truth Hiding Behind These Claims

With every iteration of Basel standards since the 2008 crisis, banks have used the same bad arguments to avoid a hit to their own bottom lines. By threatening to lend less and provide less housing finance, they try to win over even the best-intentioned lawmaker. 

But the truth they avoid debating is that higher bank capital by design restricts how much banks can grow and engage in the riskier aspects of their business, notably their trading and investment bank operations, which are Wall Street’s version of the casino. The code for this change in the Fed’s current proposal is “market risk” or “operational risk.” And that is what banks are fighting to protect, above all else, not their small business loans or affordable housing portfolio. 

Here is an excerpt from the President and CEO of the Bank Policy Institute, Greg Baer, at an event hosted by Capital Account, who admits that the capital requirements would in fact be lower for “credit risk,” i.e. making loans:

“Clearly, under the proposal the best thing you could do is be a bank that all it does is make loans…You will see generally lower capital requirements for credit risk. That’s offset by hard charges for operational risk… And the biggest charges really come in capital markets. … But [that activity could result in] a charge of 70 percent higher capital, which for certain desks, for certain businesses is truly existential.” 

Wall Street wants to keep its profitable casino humming and its share prices high. But that’s not in the public interest. The Fed should move ahead with its proposal as soon as possible.