Do More to Avert a Liquidity Crisis
The Federal Reserve, Treasury Department and banking regulators deserve congratulations for his or her daring, mandatory actions to present liquidity to the U.S. monetary system amid the coronavirus disaster. But extra stays to be executed.
We thus suggest: (1) instant congressional motion to broaden the Federal Deposit Insurance Corp.’s authority to assure financial institution liabilities and to authorize the Treasury to use the Exchange Stabilization Fund to assure prime money-market funds, (2) regulatory motion to impact non permanent reductions in financial institution capital and liquidity necessities, which is able to allow banks to broaden their lending to shoppers and companies, and (three) extra Fed lending to banks and nonbanks. I’m joined in these suggestions by Glenn Hubbard and John Thornton, each co-chairmen of the Committee on Capital Markets Regulation.
We help the Treasury Department’s request and the Senate Phase three proposal to restore the Treasury’s authority to use the Exchange Stabilization Fund to assure prime money-market funds briefly.
An equally essential precedence for Congress must be to restore the FDIC’s authority to enhance deposit-insurance limits, notably on transaction accounts, because it did within the 2008 monetary disaster. Limits on transaction accounts want to be elevated on a limiteless foundation to defend the fee system, additionally as in 2008. If prime money-market funds had been absolutely assured and financial institution transaction accounts weren’t, it will create an incentive for uninsured depositors to transfer their funds out of banks into prime money-market funds.
Further, Congress ought to move a joint decision, as present regulation permits, authorizing the FDIC to assure newly issued long-term debt by banks—once more, as was executed in 2008. In parallel, Congress ought to present Treasury with the express authority to assure specified debt of nonbank monetary establishments, which play a essential function within the monetary system. Such pre-emptive actions can forestall a potential liquidity disaster.
Banking regulators just lately introduced that banks might use their capital and liquidity buffers to lend and reply to challenges offered by the consequences of the coronavirus. Banks might maintain voluntary capital buffers in extra of necessities or buffers which are required just like the capital conservation buffer. We urge the Fed to embrace each buffers.
Regulators just lately exempted banks, utilizing the newly created Money Market Mutual Fund Liquidity Facility, from each risk-based and leverage capital necessities that will in any other case apply to property bought via this facility. That’s a step in the fitting path, however we suggest they do extra.
First, they need to briefly droop financial institution liquidity necessities, such because the Liquidity Coverage Ratio, and associated supervisory necessities, such because the dwelling will course of. Second, they need to exempt central financial institution deposits and authorities securities from the Tier 1 leverage ratio. Third, they need to take no motion presently that will enhance financial institution capital necessities via the common annual stress take a look at or the scheduled integration of the stress capital buffer. This method would supply banks with the balance-sheet flexibility mandatory to broaden lending to one another, nonbanks, small companies and people, whereas persevering with to take deposits as folks convert different property into money.
We commend the Fed for exercising its Section 13(three) authority as lender of final resort to set up a Commercial Paper Funding Facility, Money Market Mutual Fund Liquidity Facility and Primary Dealer Credit Facility. We help Treasury’s use of the Exchange Stabilization Fund to present the CPFF and MMLF every with $10 billion in credit score safety. The Fed and Treasury ought to proceed to monitor these amenities to be certain that limitations on their use sq. with the liquidity wants of the markets. The Fed ought to revise the eligibility of property underneath the MMLF to embrace municipal securities with out a restriction on their maturity.
We suggest that the Fed take additional actions as lender of final resort. First, it ought to re-establish the Term Auction Facility, used within the 2008 disaster, permitting depository establishments to borrow towards a broad vary of collateral at an public sale value, to keep away from the stigma of borrowing on the low cost window. Second, it ought to take into account additional exercising its Section 13(three) authority to present extra liquidity to nonbanks, doubtlessly together with purchases of company debt (as well as to industrial paper) via a special-purpose automobile. Third, we observe that banks are usually not absolutely utilizing the Fed’s new repo facility due to capital expenses. The Fed ought to subsequently enable the Fixed Income Clearing Corp., a AAA clearinghouse (which won’t incur capital expenses), to be a counterparty on Fed repos. FICC can then present repo funding to its nonbank members. This has the extra good thing about releasing up financial institution capital for different lending.
Congress, the Fed and the FDIC ought to do no matter it takes to present liquidity to the monetary system on this disaster. Unlike 2008, this disaster was not the results of extreme danger taking by banks, and thus the availability of help gained’t create ethical hazard. The steps we suggest are daring however mandatory to forestall a potential liquidity disaster attributable to the still-spreading coronavirus.
Mr. Scott is an emeritus professor at Harvard Law School and director of the Committee on Capital Markets Regulation.
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