Complexity Office Faces Doubt It Will Dismantle Big Banks

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James Wigand FDIC
James Wigand of the FDIC said, “Prior to Dodd-Frank, the systemically important companies thought there was no other option but for the government to bail them out, so they didn’t sell, merge or recapitalize as regulators requested them to do.” Photo: FDIC

From a glass-walled room known as the Fishbowl at the Office of Complex Financial Institutions in Washington, James Wigand can survey his domain.

The 55-year-old head of the Federal Deposit Insurance Corp.’s newest division has the power to dismantle the country’s 22 largest banks, a projected staff of 156 to help him monitor their health, a $60 million budget and a 65-inch video screen mounted in the conference room that can connect to any FDIC office in a crisis.

What he doesn’t have are any resources outside the U.S. to unwind the lenders’ international operations, the “living wills” those companies are required to write under the 2010 Dodd-Frank Act or public confidence that his agency will use its clout to end the too-big-to-fail era.

“A segment of the market won’t believe it until the authority is used,” said Wigand, who majored in zoology at the University of Maryland and has sifted through the wreckage of more than 300 failed banks during almost two decades at the agency. “I hope we never have to use it, but we’ve been given the power. So once it’s used, the market will believe.”

Doubts about whether the government will let the largest banks fail have plagued Wigand’s office since its inception last year. They’ve been fed by the lack of international agreements on how to wind down the overseas operations of big U.S. lenders. Citigroup Inc. is active in more than 100 countries and JPMorgan Chase & Co. in more than 60, according to the websites of the two New York-based firms.

‘Orderly Liquidation’

“The orderly liquidation powers that Dodd-Frank Act gives to regulators will not by themselves prevent future government support of a handful of individual financial institutions,” Standard & Poor’s said in July after reviewing the FDIC’s new resolution powers.

Bank of America Corp. and Citigroup, the No. 1 and No. 3 U.S. lenders by assets, would have S&P ratings two levels lower if it weren’t for what the firm considers implicit government backing. While Moody’s Investors Service lowered estimates of systemic support baked into its ratings of the largest banks on Sept. 21, the company said it “continues to see the probability of support for highly interconnected, systemically important institutions as very high.”

U.S. banks with assets of more than $100 billion, the ones that fall under Wigand’s purview, have paid about half a percentage point less to borrow than smaller banks since 2008, the International Monetary Fund said in a May report. The differential, which shows investors’ belief in government backing for the top banks, didn’t exist between 2003 and 2007.

‘Right Incentives’

Edward Kane, a professor of finance at Boston College who has studied failed banks since the 1980s, said that while the FDIC has “the right incentives” to close big lenders, Treasury Secretary Timothy F. Geithner and other officials may not.

Former FDIC Chairman Sheila Bair, who opposed the government’s bailout of the biggest banks, has said she clashed with Geithner during the financial crisis. The U.S. injected $261 billion of capital into the banks, including $45 billion each to Citigroup and Charlotte, North Carolina-based Bank of America, to keep them going.

The Treasury Department declined to comment.

The FDIC has had the power to seize and dismantle smaller banks since it was created in 1933. At least 73 FDIC-insured lenders have failed this year, according to the agency. Among the largest listed was Superior Bank of Birmingham, Alabama, with assets of about $3 billion, which was closed in April and reopened under new owners.

Permanent Examiners

Wigand was deputy director of the agency’s resolution division, which is in charge of selling the assets of failed lenders, for 13 years before being appointed to his current job. The biggest bank collapse that occurred on his watch was Washington Mutual Inc., which had more than $300 billion of assets when it was seized in 2008. Previously, Wigand worked for the Resolution Trust Corp., created by the U.S. in 1989 to clean up the bad assets of the 747 savings and loans institutions that went bust.

In his new post, he’ll be able to call on the 2,200 employees at the agency’s resolution division to help sell the assets of any big banks that are wound down. His office will also have permanent examiners at banks in addition to inspectors from the Federal Reserve and the Office of the Comptroller of the Currency. At the top four lenders, which also include JPMorgan and San Francisco-based Wells Fargo & Co., Wigand’s division will have five people each. The Fed has about 20 inspectors at each of the largest firms, while the OCC has 70.

New Options

“Prior to Dodd-Frank, the systemically important companies thought there was no other option but for the government to bail them out, so they didn’t sell, merge or recapitalize as regulators requested them to do,” said Wigand, who also has a master’s degree in business administration from the University of Chicago Booth School of Business. “Now there’s a viable alternative, so they’ll pay attention to what regulators say.”

About half of the positions in Wigand’s division, which occupies two floors of a satellite office near the agency’s headquarters, aren’t filled yet. In the meantime, he has 40 employees on loan from other departments at the FDIC.

Among their responsibilities is analyzing the structure of the banks they’re assigned to cover, how units relate to each other and who their creditors and trading counterparties are.

Living Wills

“In the past, there was little attention paid to the terms,” said Jason Cave, deputy director of the complex-institutions office. “Regulators looked at capital and liquidity and were comforted when there appeared to be enough of each. But nobody looked at who’s providing the credit, on what terms, what are the trends in the industry on liquidity. We’ll pay more attention to those.”

Wigand’s office is waiting for banks to submit their living wills -- blueprints of their organizational structures and how they could be dismantled if necessary. Bank of America, Citigroup and 10 other lenders with assets of more than $250 billion need to submit such plans by July 2012. Others will have at least an additional year to comply. The exercise of preparing these documents will force the largest firms to simplify their organizations by closing unneeded legal entities, Wigand said.

“These institutions haven’t had a holistic view of the enterprise,” Wigand said. “Now they’ll have to.”

Legal Entities

The largest banks have hundreds of legal entities registered under different nations’ laws. When one collapses, local authorities tend to seize the assets held by the unit under their jurisdiction, which makes it tougher to sell businesses at the best value. Lehman Brothers Holdings Inc.’s more than 2,000 legal units are embroiled in at least 50 bankruptcy trials in as many countries. If other governments don’t cooperate, the FDIC’s efforts to seize a financial firm with multinational operations could fail.

Regulators from around the world have been discussing how to set up an international system to wind down globally active banks. They haven’t managed to come to an agreement because there’s little enthusiasm for overhauling existing laws or devising a way to share losses, people involved in the talks have said.

The lack of an agreement will hamper the FDIC’s ability to use its resolution authority, said two executives whose firms come under Wigand’s scrutiny and who asked not to be identified because they weren’t authorized to speak for their banks.

Heat Maps

Wigand said his division is reaching out to regulators in other countries where the top U.S. banks operate so there could be coordinated action. His office has created “heat maps” showing the core operations of the largest firms, according to Mary Azevedo, deputy director for international outreach. Those maps have helped the office identify 20 to 30 countries where the most vital operations are based, Azevedo said.

While banks have supported the FDIC’s new resolution authority, they have objected to some elements. In a joint letter in May, the American Bankers Association and the Securities Industry and Financial Markets Association said plans to claw back compensation from senior executives of a seized bank would be “destabilizing.”

Jamie Dimon, chief executive officer of JPMorgan, has called for rules to end the bailouts of big banks.

“We should be allowed to fail,” Dimon wrote in a 2009 opinion piece in the Washington Post.

Even if the FDIC wants to use its new authority, it will have to get the approval of Treasury and could be prevented from acting by political considerations.

Bailout Debate

Geithner ignored orders from President Barack Obama in early 2009 to consider dissolving Citigroup, according to “Confidence Men: Wall Street, Washington, and the Education of a President,” a new book by Ron Suskind. Geithner has denied the allegation.

S&P said in its July report that, in the event of another crisis, Congress could approve a bailout fund such as the $700 billion Troubled Asset Relief Program it passed in 2008. The Fed could also provide emergency funding as it has done before.

Margaret Tahyar, a partner at law firm Davis Polk & Wardwell LLP in New York who advises clients on bank mergers and recapitalizations, said Dodd-Frank has made backdoor bailouts that aren’t authorized by Congress more difficult. She said that even though banks haven’t submitted living wills yet, the FDIC could use its new resolution authority today.

“The day the president signed the law, resolution authority became effective,” Tahyar said.

Avoiding Option B

Martin Gruenberg, the agency’s acting chairman, said at a conference in Washington last week that the FDIC has drafted its own resolution plans for the largest banks, even though living wills haven’t been submitted. Those are already “quite granular” on details of how to wind down a complex financial firm, Gruenberg said.

Christopher Whalen, managing director of Institutional Risk Analytics who has been critical of the government’s failure to restructure troubled big banks, says he’s hopeful Wigand’s complexity office will do what regulators haven’t done before.

“Banks will want to do the necessary restructuring -- selling down assets, divesting from non-core businesses -- voluntarily, because option B is being taken over by the FDIC,” said Whalen, whose firm is based in Torrance, California. “Option B will crush the management and shareholders and perhaps even the creditors, so why would anyone opt for that?”

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