Minneapolis Fed’s ‘Too Big to Fail’ Proposal Still Too Complex

The Federal Reserve Bank of Minneapolis recently published a final version of an earlier draft that claims to make “a stronger case than did the draft Plan for raising capital requirements on the largest banks, while drastically reducing burden on the smallest.”

Why it matters: Following the financial crisis in 2008-2009, policymakers continue to look for ways to reduce the chances of another collapse. Some, like the Minneapolis Fed, argue that the best way to do so is to ensure that banks are well-capitalized and able to absorb losses without failing or requiring a bailout.

What you need to know about the plan: Senior Research Fellow Stephen Matteo Miller recently shared his thoughts on the Minneapolis Fed’s latest plan. Miller argues that the plan should be applauded for acknowledging that the status quo has not addressed the ‘too big to fail’ problem, but also notes that there are a few opportunities for improvement.

• Regulators would still be responsible for identifying which institutions’ failure could trigger a crisis, but it’s not clear that can actually be done
• The plan still relies in part on “risk-weighted capital requirements,” which can potentially lower the effectiveness of higher capital requirements while adding additional compliance costs for banks
•  The plan should consider more carefully the importance of market discipline’s role in ending the threat of ‘too big to fail’ institutions
• While the plan does consider both the total amount of assets and ‘systemic risk,’ it might make more sense to focus on specific activities that can pose a risk to the financial system rather than specific institutions

Read more: Stephen Matteo Miller recently weighed the economic benefits and costs of raising capital requirements on banks. Miller and his coauthor James Barth argue that, within certain ranges, the benefits of raising capital requirements consistently outweigh the costs.

Listen: David Beckworth hosted Anat Admati on his Macro Musings podcast to discuss the claim that banks take on too much leverage, which Admati argues should lead to higher capital requirements from financial regulators.

Keep in touch: You can follow Miller on Medium or Twitter, and subscribe to Beckworth’s Macro Musings podcast to stay up to date on their latest work!