Regulator Proposes Walling Off Wall Street Investment Banks

Updated on
  • FDIC Vice Chairman Hoenig wants separation of bank functions
  • Trump White House recently reaffirmed Glass-Steagall interest

President Donald Trump has worried Wall Street by promising to bring back a Depression-era law that separated investment banking from consumer lending, but he hasn’t offered details on what his modern version might look like. Now a key regulator may be filling the void.

U.S. financial firms should partition their investment banking activity, putting it into a separate “intermediate holding company” with its own board, management and capital, Federal Deposit Insurance Corp. Vice Chairman Thomas Hoenig said Monday. The companies could even have a special class of stock, he said.

Hoenig’s plan, which would require new legislation, wouldn’t exactly recycle the Glass-Steagall Act, he told reporters after his speech at the Institute of International Bankers conference in Washington. But it could meet the Trump administration’s goal of enacting a modern take on the law that divided banking functions for more than six decades, he said. Glass-Steagall’s repeal in 1999 opened the door to the creation of modern megabanks.

“The proposal would not reduce the ability of a universal bank to conduct any of its current portfolio of activities,” though it would keep “nontraditional bank activities” from the safety net of government programs, such as deposit insurance, Hoenig said in his speech. The carrot for Wall Street: It would also eliminate the need for thousands of pages of current rules, he said.

Trump’s Support

On the campaign trail last year, Trump had promised what he called 21st Century Glass-Steagall Act. White House Spokesman Sean Spicer said last week that Trump still supports the idea, though nobody from the administration has yet described what it might look like.

Under Hoenig’s proposal, elaborate capital demands put in place since the 2008 financial crisis would be boiled down to reliance on a simpler 10 percent limit on leverage for Wall Street banks. That would mean rules requiring banks to maintain risk-based capital could be set aside while they’d have to have “tangible equity” equal to at least a tenth of their overall assets.

“Such a level of capital provides a deeper industry buffer against the contagious panic that causes systemic failure when any one large banking firm fails, making bankruptcy more feasible,” Hoenig said in his prepared remarks.

Also, the proposal could negate the need to rely on liquidity rules, stress-testing and the annual “living wills” that map out how firms can safely go bankrupt, Hoenig said. The Volcker Rule’s limits on banks’ trading could also be “dramatically reduced,” he said.

Bigger Stage

The vice chairman’s ideas have been influential with key members of Congress, including House Financial Services Committee Chairman Jeb Hensarling. Though Hoenig’s proposals largely stayed on the sidelines during the Obama administration, a Republican Congress and White House could give him a bigger stage.

Hoenig said his new proposal -- repeatedly described as “provocative” by those questioning him at the conference -- was shared with Hensarling’s staff and with other lawmakers last week. Though he hasn’t briefed the Trump administration, he said his outline could stand as the modern Glass-Steagall the president is advocating, even though it doesn’t completely separate banking functions like the 1933 law did.

A return to complete separation would mean a fundamental overhaul of the way Wall Street does business. Though Hoenig’s concept puts a thin wall between the investment bank and the rest of the firm, it would allow some limited activity between the affiliates and some funding from the parent company.

Hoenig envisions a three-year period for the industry to restructure, and more years for banks to adjust their capital. The plan’s potential for reducing regulations goes even further than what’s been “called for by the new administration,” he said.

(Updates with Hoenig comments starting in the third paragraph.)
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