No, Obama Didn't Kill Too Big To Fail

President Barack Obama came into office promising to curb some of the Wall Street excesses that led to the recession and trillions of dollars in taxpayer-backed bailouts.

But Obama's 2010 reform of financial regulations, known as Dodd-Frank, wasn't enough to satisfy everyone, including Sen. Sherrod Brown (D-Ohio) and Sen. David Vitter (R-La.). They said Obama's changes didn't go far enough to end the perception that giant banks such as JPMorgan Chase were too big to be allowed to fail.

The senators in 2013 pushed what they saw as a solution to the too-big-to-fail problem, but lost to Obama and the banks. Massive financial institutions remained too big and too risky, they said, and still posed an outsized threat to the U.S. economy.

On Wednesday , the idea behind the senators' failed bill got a big boost from the Federal Deposit Insurance Corp. and the Federal Reserve, which jointly announced that seven of the nation’s eight giant banks had failed to convince at least one of the regulators that the companies could enter bankruptcy without endangering the U.S. financial system.

The regulators were basically saying banks such as Wells Fargo and Bank of America remain too big to fail.

“The goal to end too big to fail and protect the American taxpayer by ending bailouts remains just that: only a goal,” said Thomas Hoenig, vice chairman of the FDIC.

The Obama administration, after having spent years claiming that no bank remains too big to fail, now finds itself facing calls to support additional restrictions on America’s banking behemoths -- and the possibility that, once again, Obama and his lieutenants could be fighting on the side of big banks against proposals meant to shrink them.

“For Wall Street reform to work, regulators and members of Congress must continue to focus on reining in the largest and riskiest Wall Street institutions,” Brown warned on Wednesday.

Three years ago this month, Brown tried to do just that.

His proposal with Vitter, dubbed the “Terminating Bailouts for Taxpayer Fairness Act,” effectively imposed a tax on big banks for borrowing from financial markets to fuel their growth. It almost certainly would have forced companies such as JPMorgan Chase and Citigroup to break themselves into smaller units to avoid the proposal’s tough restrictions.

Some financial regulators supported the bill on the grounds that big banks that borrow excessively in order to make loans and buy securities present too much risk to the financial system. Those banks were so big that if they ever neared failure, taxpayers would have to give them bailouts, those regulators believed.

But the Obama administration and big banks were vehemently opposed. Administration officials were adamant that Dodd-Frank, which the White House called “Wall Street reform,” had forever killed too big to fail. “One of the main reasons the president put so much of his personal effort into passing Wall Street reform was to end too big to fail,” then-Obama adviser Gene Sperling said in March 2013 .

To undermine Brown and Vitter, administration officials and big bank representatives launched separate campaigns to convince a skeptical public that the problem of too big to fail had already been solved.

Treasury Department officials repeatedly claimed Dodd-Frank, because of its restrictions on taxpayer-funded bailouts, ended too big to fail “as a matter of law .” And if doubts lingered by year’s end, Treasury Secretary Jack Lew suggested in a July 2013 speech  that the administration was prepared to take additional actions.

Instead, Lew took a victory lap  that December after Brown and Vitter’s bill died in the Senate, never receiving a vote.

Big banks that fought against the Senate proposal now face the possibility of having to contend with the very restrictions that Brown and Vitter included in their legislation. 

“Today's announcement should remind us of the central role that the big banks played in the last crisis -- and it is a giant, flashing sign warning us about the central role they will play in the next crisis unless both Congress and our regulators show some backbone … and demand real changes at these banks,” said Sen. Elizabeth Warren (D-Mass.). “Our top regulators warned us about the danger of the biggest banks -- and we would be foolish to ignore their warnings.”

JPMorgan, BofA, Wells Fargo, State Street, and Bank of New York Mellon have until October to convince federal regulators that they could file for bankruptcy (should they near failure) without endangering the broader financial system. If they again are unsuccessful in making the case that they're not too big to fail, regulators can impose tougher requirements, such as restricting activities in certain financial markets, or forcing them to fund more of their loans and securities with equity from shareholders, rather than borrowed money.

Goldman Sachs failed to persuade the FDIC it could safely file for bankruptcy, and Morgan Stanley failed to convince the Fed. But because the two regulators didn’t jointly make that determination, Goldman and Morgan dodged the potential clampdown that the other five banks now face. Citigroup effectively passed regulators’ test, though its so-called resolution plan, or “living will,” had some shortcomings.

Citi’s success should give other banks some comfort that they, too, could meet regulators’ expectations. The banks said they're committed to addressing regulators' concerns.

“No financial company should be considered too big to fail,” said John Dearie, acting chief of the Financial Services Forum, a Washington trade group that represents chief executives of the nation’s largest financial institutions. “It is in the best interest of the industry that all large institutions have credible resolutions plans.”

Otherwise, the White House may once again have to come to the industry’s rescue.

“These regulatory assessments add yet more weight to the case for aggressive action to realize the promise made in the Dodd-Frank Act that ‘too big to fail’ will be ended,” the advocacy group Americans for Financial Reform said.