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An Annotated Bibliography of Select Mercatus Research on Financial Regulation
Risk-Based Capital Regulation
Simpler, Higher Capital Requirements
Monetary Policy and the Banking System
Risk-Based Capital Regulation
James R. Barth and Stephen Matteo Miller, “A Primer on the Evolution and Complexity of Bank Regulatory Capital Standards” (Mercatus Working Paper, Mercatus Center at George Mason University, Arlington, VA, February 2017), https://www.mercatus.org/research/working-papers/primer-evolution-and-complexity-bank-regulatory-capital-standards.
Republished as James R. Barth and Stephen Matteo Miller, “On the Rising Complexity of Bank Regulatory Capital Requirements: From Global Guidelines to their United States (US) Implementation,” Journal of Risk and Financial Management 11, no. 4 (2018): 77, https://www.mdpi.com/1911-8074/11/4/77.
This article argues that capital requirements are important as a first line of defense in ensuring a safer and sounder banking industry.
Stephen Matteo Miller, “The Recourse Rule, Regulatory Arbitrage, and the Financial Crisis” (Mercatus Working Paper, Mercatus Center at George Mason University, Arlington, VA, August 2017), https://www.mercatus.org/research/working-papers/recourse-rule-regulatory-arbitrage-and-financial-crisis.
Republished as Stephen Matteo Miller, “The Recourse Rule, Regulatory Arbitrage, and the Financial Crisis,” Journal of Regulatory Economics 54, no. 2 (2018): 195–217. https://link.springer.com/article/10.1007/s11149-018-9364-z.
This article argues that risk weighting of assets can create perverse incentives that should be factored into the design of capital adequacy standards. Though it is often claimed that higher bank capital requirements create incentives for more risk-taking, risk weights that lower bank capital may do the same, even on seemingly safer assets.
Stephen Matteo Miller, “Regulation & Unintended Consequences: The Recourse Rule,” FinRegRag, August 31, 2017, https://www.finregrag.com/p/regulation-unintended-consequences-consider-the-recourse-rule-part-i-c6d12c011bb.
This blog post argues that securitizing banks on average did indeed increase their estimated holdings of the private-label, highly rated tranches relative to total assets in the period leading up to the 2007–2008 financial crisis. Moreover, securitizing banks with at least $50 billion in total assets on average were the ones that increased their holdings the most. On average, they increased their holdings from about 1 percent of total assets in 2001, just before the rule was finalized, to about 6 percent of total assets on the eve of the crisis. More importantly, the author finds evidence that holdings for the largest securitizing banks on average equaled or exceeded their regulatory capital buffer on the eve of the crisis.
Stephen Matteo Miller, “The Rise of ‘Must’ In Bank Regulatory Restrictions,” FinRegRag, October 16, 2017, https://www.finregrag.com/p/the-rise-of-must-in-bank-regulatory-restrictions-9205fcbbea32.
This blog post reports the frequency of words and phrases in legal documents that indicate obligation. Much of the rise in the frequency of the word “must” has occurred in response to the 2007–2008 financial crisis. Current Federal Register guidelines suggest that “must” is the only term of obligation (“shall” may sometimes get interpreted as “may”; occurrences of “must” can also include “must not”), so the rise of “must” may indicate that the Office of the Comptroller the Currency, the Federal Reserve, and the Federal Deposit Insurance Corporation want to ensure compliance.
Stephen Matteo Miller, “Bank Capital Requirement–Related Regulatory Restrictions,” FinRegRag, October 18, 2017, https://www.finregrag.com/p/bank-capital-requirement-related-regulatory-restrictions-72fbf7d54133.
This blog post chronicles US capital requirements since 1970, breaking this history into three broad periods. In the first period, the “pre-Basel period,” regulators exercised considerable discretion in determining adequate bank capital. The response to the Latin American debt crisis gave rise to Basel I, which opened the way for capital requirements to become increasingly complex. The author finds that an increasingly important contributor to the rise in regulatory restrictions (words and phrases in legal documents that indicate obligation) by bank regulators is capital requirement regulatory restrictions.
Stephen Matteo Miller, “The ‘Ever Expanding’ Call Report & Growing Fed Regulatory Burden,” FinRegRag, October 23, 2017, https://www.finregrag.com/p/the-ever-expanding-call-report-growing-fed-regulatory-burden-ae029bcea054.
The rise in regulatory restrictions (words and phrases in legal documents that signify obligation), in addition to being driven by an increase in capital requirements, also mirrors the growing complexity of the call reports that bank holding companies (parent corporations to banks), have to complete. There does not appear to be any evidence of bank holding company deregulation. Instead, regulatory complexity for bank holding companies has grown since the mid-1990s. The growing length of holding company call reports also reflects this growing regulatory complexity.
Stephen Matteo Miller, “What Banking or Securities Market Deregulation, 1970–2016?,” FinRegRag, January 23, 2018, https://www.finregrag.com/p/what-banking-or-securities-market-deregulation-1970-2016-cd99d733abd9.
This blog post tracks the growth in regulatory restrictions and word counts in the Code of Federal Regulations for the three primary federal bank regulators in Title 12 (the Office of the Comptroller of the Currency, the Federal Reserve, and the Federal Deposit Insurance Corporation) and the two primary securities market regulators in Title 17 (the Securities and Exchange Commission and the Commodity Futures Trading Commission). It critiques the claim that there were “more than 30 years of deregulation” leading up to the 2007–2008 financial crisis.
Stephen Matteo Miller, “The Recourse Rule and Its Role in the Last Crisis: An Update,” FinRegRag, September 18, 2018, https://www.finregrag.com/p/the-recourse-rule-and-its-role-in-the-last-crisis-an-update-b2f6ce87b2c8.
This article dives deep into the origins of the Recourse Rule. It observes which banks commented on the rule and concludes that (a) bank holding companies with commenting subsidiaries increased estimated holdings of the assets affected by the regulation and (b) bank holding companies with commenting subsidiaries reduced holdings of lower-rated assets affected by the regulation.
Stephen Matteo Miller, “On the Rising Regulatory Burden of Basel-Style Bank Capital Requirements,” FinRegRag, December 13, 2018, https://www.finregrag.com/p/on-the-rising-regulatory-burden-of-basel-style-bank-capital-requirements-7a5c51eef0d8.
This blog post argues that the debate over the causes of and responses to the 2007–2008 financial crisis ignores the impact of the implementation of the Basel Accords capital adequacy standards. With each round, the Basel Accords added more standards. The US implementation of the Basel Accords has contributed greatly to regulatory complexity and verbosity, and capital requirements are not created equally.
Stephen Matteo Miller, “The Recourse Rule: How Regulatory Capture Gave Rise to the Financial Crisis” (Mercatus Policy Brief, Mercatus Center at George Mason University, Arlington, VA, January 2019), https://www.mercatus.org/research/policy-briefs/recourse-rule-how-regulatory-capture-gave-rise-financial-crisis.
This policy brief explores the relationship between the 2007–2008 financial crisis and the Recourse Rule. After the Recourse Rule reduced bank capital requirements for a narrow class of financial products, including those at the heart of the crisis, some bank holding companies (parent corporations to banks) increased their holdings of those financial products. Why might demand have been so great for the securities that spread insolvency risk throughout the financial system? The Recourse Rule created incentives for the largest securitizing bank holding companies—which were heavily involved in commenting on the regulation during the notice-and-comment process—to hold more of the very assets that wiped out bank capital.
Stephen Matteo Miller and Blake Hoarty, “On Regulation and Excess Reserves: The Case of Basel III” (Mercatus Working Paper, Mercatus Center at George Mason University, Arlington, VA, August 2020), https://www.mercatus.org/research/working-papers/regulation-and-excess-reserves-case-basel-iii.
Republished as Stephen Matteo Miller and Blake Hoarty, “On Regulation and Excess Reserves: The Case of Basel III,” Journal of Financial Research 44, no. 2 (2021): 215–47, https://onlinelibrary.wiley.com/doi/abs/10.1111/jfir.12239.
This paper shows that profit‐maximizing banks substitute from higher-risk‐weighted loans to lower-risk‐weighted reserves and Treasuries if the risk‐based capital ratio, but not the leverage ratio, increases.
Stephen Matteo Miller, “Which Trading Assets Drove Too-Big-to-Fail Subsidies During the 2007–2009 Crisis?,” FinRegRag, December 17, 2020, https://www.finregrag.com/p/which-trading-assets-drove-too-big-to-fail-subsidies-during-the-2007-2009-crisis-697655af6856.
This article shows how quarterly changes in estimates of the so-called too-big-to-fail subsidy for each bank holding company relate to various proprietary trading asset holdings, each measured as a share of total assets. Collateralized debt obligation holdings on average had a large positive association with changes in the estimated too-big-to-fail subsidy, whereas other trading asset holdings had little or even no association with changes in the subsidy.
Stephen Matteo Miller, “Large Bank Holding Company Capital Ratios before and after Basel III” (Mercatus Policy Brief, Mercatus Center at George Mason University, Arlington, VA, June 2021), https://www.mercatus.org/research/policy-briefs/large-bank-holding-company-capital-ratios-and-after-basel-iii.
The number of capital ratios for US bank holding companies has proliferated, but the fundamental measure of the ratio of Tier 1 to risk-weighted assets on average changed little after the US implementation of Basel III.
Stephen Matteo Miller, “Basel III and Excess Reserves: Another Case Study of the Unintended Consequences of Risk-Based Capital Requirements” (Mercatus Policy Brief, Mercatus Center at George Mason University, Arlington, VA, June 2021), https://www.mercatus.org/research/policy-briefs/basel-iii-and-excess-reserves-another-case-study-unintended-consequences.
This policy brief argues that attempts to make the largest bank holding companies operate with more capital since the 2007–2008 financial crisis appear also to have the perhaps unintended consequences of making those banks increase holdings of the lowest-risk-weighted assets. Even though the regulation allows bank holding companies more flexibility to comply with regulation, it still leaves them with the opportunity to fund with less capital than they would have without the risk-based regulation. With relatively little capital, bank holding companies have a higher likelihood of facing distress.
Stephen Matteo Miller, “Did Basel III Regulations Dampen Lending at Large Banks?” (Mercatus Policy Brief, Mercatus Center at George Mason University, Arlington, VA, November 2021), https://www.mercatus.org/research/policy-briefs/did-basel-iii-regulations-dampen-lending-large-banks.
A simpler, alternative approach to bank capital regulation would increase the equity-to-asset leverage ratio. Doing so would eliminate the distortions to the assets’ portfolio created by risk-based capital requirements while addressing concerns about bank insolvency.
Stephen Matteo Miller, “Regulation, CDO Exposures, and Debt Guarantees through the Financial Crisis” (Mercatus Working Paper, Mercatus Center at George Mason University, Arlington, VA, January 2023), https://www.mercatus.org/research/working-papers/regulation-cdo-exposures-and-debt-guarantees-through-financial-crisis.
This paper shows that collateralized debt obligation holdings, more than other trading asset classes, had the largest association with estimated debt guarantees. These results point to regulatory capital requirements as a driver of the demand for securities that contributed to large bank holding company distress.
Simpler, Higher Capital Requirements
Stephen Matteo Miller, “More Capital, Safer Banks,” U.S. News & World Report, September 15, 2014, https://www.usnews.com/opinion/economic-intelligence/2014/09/15/higher-capital-requirements-can-help-end-bank-bailouts.
This op-ed argues that although raising capital requirements may lower banks’ profitability because equity is expensive, it also will make banks safer because they will be better capitalized to take a loss.
Stephen Matteo Miller, “How to Bring Market Discipline Back to Banking,” American Banker, July 23, 2015, https://www.americanbanker.com/opinion/how-to-bring-market-discipline-back-to-banking.
This op-ed argues that the United States’ current legal and regulatory framework continued to invite bank failure even five years after the passage of Dodd-Frank. Legislation focused on size does not address the problem because it does nothing to reestablish the market discipline missing in the United States since before the Great Depression. Measuring equity at market value would restore that much-needed discipline.
Stephen Matteo Miller, “The Circle of Crisis and Capital,” U.S. News & World Report, March 21, 2016, https://www.usnews.com/opinion/economic-intelligence/articles/2016-03-21/keep-banks-capital-requirements-high-to-protect-against-financial-crises.
This op-ed argues that postcrisis banking reforms must include simpler, higher capital requirements without ad hoc risk weights.
Stephen Matteo Miller and J. W. Verret, “No Need for Title VI with Simpler, Higher Capital,” in The Case against Dodd-Frank: How the “Consumer Protection” Law Endangers Americans, ed. Norbert J. Michel (Washington, DC: Heritage Foundation, 2016), https://www.mercatus.org/research/book-chapters/no-need-title-vi-simpler-higher-capital.
In this book chapter, the author argues that, instead of enacting new laws and finalizing new regulations to handle the last crisis, which may have the potential to create unpredictable instability elsewhere in the financial system, policymakers should introduce market discipline into bank regulation. In a banking system with deposit insurance, simpler and higher capital requirements at the level of a bank, rather than at the level of the bank holding company, can serve as a cost-effective foundation for a sound financial system.
Stephen Matteo Miller and Chad Reese, “Hensarling Bill Gives Credence to ‘Capital Is King,’” American Banker, June 28, 2016, https://www.americanbanker.com/opinion/hensarling-bill-gives-credence-to-capital-is-king.
This op-ed responds to concerns about the Financial CHOICE Act of 2017. Higher capital requirements have the potential to move the burden of financing risky banking activities from taxpayers to bank shareholders. Simpler capital requirements help balance the playing field between large firms, which can game a complex system, and small firms, which can compete on customer service but not on regulatory expertise.
Stephen Matteo Miller, “On Simpler, Higher Capital Requirements,” in Reframing Financial Regulation, ed. Hester Peirce and Benjamin Klutsey (Arlington, VA: Mercatus Center at George Mason University, 2016), 35, https://www.mercatus.org/research/books/reframing-financial-regulation.
In this book chapter, the author argues that bank capital adequacy regulations have relatively low enforcement costs and relate directly to bank solvency. In enabling these regulations to serve their intended purpose, the key challenges are preventing capital adequacy regulations from being weakened by exemptions on assets through risk weighting and ensuring that the definition of capital does not include sources of funding that cannot be used in a time of distress.
Stephen Matteo Miller and James R. Barth, “A Higher Leverage Ratio Can Prevent Crises, and That Matters,” American Banker, February 14, 2017, https://www.americanbanker.com/opinion/a-higher-leverage-ratio-can-prevent-crises-and-that-matters.
In this op-ed, the authors report research findings that replacing the current capital adequacy standards with a simpler, higher leverage ratio shows promise for ending too big to fail.
Stephen Matteo Miller, “Calm Your Financial Fears,” U.S. News & World Report, August 15, 2017, https://www.usnews.com/opinion/economic-intelligence/articles/2017-08-15/dodd-frank-reforms-will-not-necessarily-lead-to-another-financial-crisis.
This op-ed argues that the Financial CHOICE Act of 2017 wouldn’t necessarily rollback aspects of postcrisis reforms or put the economy in danger of another crisis.
James R. Barth and Stephen Matteo Miller, “Benefits and Costs of a Higher Bank Leverage Ratio” (Mercatus Working Paper, Mercatus Center at George Mason University, Arlington, VA, November 2017), https://www.mercatus.org/research/working-papers/benefits-and-costs-higher-bank-leverage-ratio.
Republished as James R. Barth and Stephen Matteo Miller, “Republished as Benefits and Costs of a Higher Bank ‘Leverage Ratio,’” Journal of Financial Stability 38 (2018): 37–52, https://www.sciencedirect.com/science/article/abs/pii/S1572308917306526.
The authors examine the feasibility, in terms of costs and benefits, of a simpler, higher capital requirement. They examine the equity leverage ratio in particular. Although higher bank equity capital requirements may come at a cost, the key benefit is the reduced likelihood of a banking crisis.
James R. Barth and Stephen Matteo Miller, “Yes, the Benefits of a Higher Leverage Ratio Can Exceed the Costs” (Mercatus Policy Brief, Mercatus Center at George Mason University, Arlington, VA, April 2018), https://www.mercatus.org/research/policy-briefs/yes-benefits-higher-leverage-ratio-can-exceed-costs.
The authors find that increasing bank capital through a higher leverage ratio can help reduce the probability of banking crises and thus prevent the harmful effects that crises exert on the economy. These benefits are high enough to offset the costs of raising the equity-to-assets ratio for banks.
Thomas Hoenig, “Bank Leverage, Regulatory Capital, and the Illusion of Safety,” FinRegRag, March 14, 2023, https://www.finregrag.com/p/bank-leverage-regulatory-capital.
The poor performance of the risk-weighted capital program during the 2007–2008 financial crisis should have made clear that the real policy issue regarding capital is the importance of equity and the effects of leverage on a bank’s resilience to financial stress.
Stephen Matteo Miller, “How and Why Bank Capital Addresses Concerns About Crises,” FinRegRag, February 24, 2017, https://www.finregrag.com/p/how-and-why-bank-capital-addresses-concerns-about-crises-35d20dbcb2c2.
This blog post argues that a simpler, higher capital requirement; double (or unlimited) liability for bank shareholders; and absence of restrictions on interstate banking can minimize the costs of bank failures.
Stephen Matteo Miller, “Let’s Kill the ‘Bank Capital Kills the Economy’ Talk,” FinRegRag, March 14, 2017, https://www.finregrag.com/p/lets-kill-the-bank-capital-kills-the-economy-talk-24c015b1575e.
This blog post argues that recent concern that holding higher capital would kill the economy by impeding banks’ ability to lend is misplaced. Simpler, higher capital requirements provide stability even amid bank failures.
Stephen Matteo Miller, “Market Discipline Can Reduce the Cost of Future Crises,” FinRegRag, April 22, 2017, https://www.finregrag.com/p/market-discipline-can-reduce-the-cost-of-future-crises-f5bd07663031.
This blog post shows that the United States has relied more on regulatory discretion during the last three crises than it did before, and the cost of each subsequent crisis has ratcheted upward. If capital in the form of equity, long-term bonds, or both were measured at market value, a higher capital ratio could introduce market discipline.
Stephen Matteo Miller, “Should Legislators or Regulators Decide on Bank Capital Requirements?,” FinRegRag, March 28, 2018, https://www.finregrag.com/p/should-legislators-or-regulators-decide-on-bank-capital-requirements-a4171369f132.
This blog post argues that legislators should focus on general aspects of policy, such as the direction of capital adequacy standards, and leave regulators to work out the specifics of those standards.
Monetary Policy and the Banking System
Thomas Hoenig, “SVB: So Many Reasons to Fail,” FinRegRag, March 14, 2023, https://www.finregrag.com/p/svb-so-many-reasons-to-fail.
This blog post discusses the causes of the failure of Silicon Valley Bank, including monetary policy; the bank’s decision to purchase long-term, low-yielding government or government-guaranteed securities; and regulators’ allowing the bank to systematically increase its risk profile.
Thomas Hoenig, “SVB: The Blame Game Begins,” FinRegRag, March 14, 2023, https://www.finregrag.com/p/svb-the-blame-game-begins.
This blog post discusses the role of regulators in the failure of Silicon Valley Bank. The Federal Reserve and its monetary policy encouraged the bank to purchase long-term, low-yielding government and government-guaranteed securities, which exposed the bank to duration risk. Bank supervisors also failed to heed red flags in how the bank was funding its growth.
Stephen Matteo Miller, “On SVB’s Failure and Other Bank Distress: What’s Going On?,” FinRegRag, March 15, 2023, https://www.finregrag.com/p/on-svbs-failure-and-other-bank-distress.
This blog post argues that the failures of Silicon Valley Bank and Signature Bank were individual cases, not necessarily the beginning of a banking crisis.
Brian Knight, “Some Reasons to Not Raise the FDIC Insurance Cap, at Least Not Yet,” FinRegRag, March 15, 2023, https://www.finregrag.com/p/some-reasons-to-not-raise-the-fdic.
This blog post objects to the idea of eliminating of the deposit insurance cap. Doing so may not be necessary, it is a subsidy to banks, it is likely regressive, it further weakens market discipline, and it increases government power.