Banks and Metals Don't Mix

None of your business.

Photographer: SeongJoon Cho/Bloomberg

Senator Carl Levin, in his last major effort as the Democratic chairman of the Senate's Permanent Subcommittee on Investigations, has declared that some of the largest U.S. banks are more deeply involved in the commodities business than they should be. He's right.

The committee's 400-page report makes clear how far some banks have strayed from banking. Morgan Stanley recently controlled more than 55 million barrels of oil storage capacity, 100 oil tankers and 6,000 miles of pipeline; Goldman Sachs has delved into the purchase, storage and sale of uranium to U.S. utilities, trading about 13 million tons of the stuff in 2013; JPMorgan Chase & Co. has owned or controlled dozens of U.S. power plants.

Why is this a problem? For two reasons.

First, banks get government support (in the form of emergency lending from the Federal Reserve, and in other ways). This recognizes their special role in the economy and the need to keep the financial system working well -- but it also confers a subsidy that gives banks an unfair edge in other businesses they may choose to enter.

Second, if banks take risks in conducting those other businesses and the bets go wrong, taxpayers may end up paying the bill. What's more, efforts to wind down distressed banks would be complicated by their role in commodity supply. (For example, they've become major purveyors of natural gas to municipalities.)

The report also documents cases of dubious conduct that have nothing to do with banks' special privileges. For instance, Goldman Sachs made deals that blocked withdrawals of aluminum from warehouses it controlled, effectively increasing the warehouses' rental income and possibly distorting prices. JPMorgan gamed electricity-market rules in California and Michigan, resulting in a $410 million settlement with the Federal Energy Regulatory Commission in 2013. In all cases, the extent of banks' involvement in commodities markets created the potential for them to gain an unfair advantage in the trading of derivatives tied to those markets, and even to manipulate prices -- a possibility that cannot be discounted given recent scandals over the rigging of benchmark interest rates and currency markets.

The Fed is well aware of the risks that the banks' commodities businesses present to the financial system. In a notice earlier this year, the central bank said that disasters involving "environmentally sensitive commodities" could trigger losses well in excess of the banks' capital and insurance policies.

The Fed is preparing a rule to curtail banks' extracurricular activities in the commodities markets. As the report makes clear, it's not before time.

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