Sunday, February 17, 2013

House Leader Introduces Legislation to End Too Big to Fail

Rep. John Campbell (R-CA), Chairman of the Financial Services Subcommittee on Monetary Policy, has introduced the Systemic Risk Mitigation Act, H.R. 613, to eliminate the problem of too big to fail. Currently, certain financial institutions, by nature of their size, scope and interconnectivity, are deemed  too big to fail as their potential insolvency would result in systemic economic collapse. Therefore, these institutions carry the implicit guarantee of massive, taxpayer-funded bailouts in the event of catastrophic failure. As a comprehensive reform measure, the Systemic Risk Mitigation Act would clearly articulate the lines between private sector risk and the taxpayers by means of significantly ratcheting up capital requirements for large financial institutions.

Too Big to Fail. According to Chairman Campbell, the legislation will disconnect the taxpayer from the implicit guarantee currently perpetuating a system built on future bailouts.  It will build a wall of private capital between the banking sector and the taxpayers. It will make the banking system more transparent, accountable, competitive, and stable.

The Systemic Risk Mitigation Act would set up a comprehensive regulatory structure requiring financial institutions to hold a second layer of capital for the purpose of minimizing the extent to which their failure would precipitate broader market and economic turmoil. Under this new structure, large financial institutions will be required to hold substantially more capital. In the event of a failure, investors will be explicitly denied any bailout and would only be repaid after all other systemically important and secured debts are satisfied.

Under the legislation, the Federal Reserve, in its role as a regulator of large financial institutions, would be required to monitor markets for signs of diminished confidence in an institution’s ability to satisfy claims by investors.  Should a financial institution become undercapitalized, the Federal Reserve would be empowered to intervene in order to notify the institution of the deficiency, conduct stress tests, and oversee the implementation of remediation plans. In the event that an institution is unable to raise sufficient capital, The Systemic Risk Mitigation Act would place it into receivership.

Importantly, this legislation gives financial institutions, not policymakers, the final decision on how they will decide to structure themselves. The Systemic Risk Mitigation Act does not force a financial institution to break itself up, but does require that it operate in a manner that is safe, accountable, and independent of any reliance on the U.S. taxpayer.