Bernie Sanders and Elizabeth Warren usually get the most attention in the ongoing debate over reining-in Wall Street, but this week the two liberal firebrands shared the spotlight with an unexpected ally — former Bush administration official and Goldman Sachs alumnus Neel Kashkari.
Kashkari, who helped design and execute the 2008 financial industry bailout, gave a stemwinder of a speech this week in Washington, denouncing big banks for the effect their troubles had on the wider economy. Recently appointed to head the Minneapolis Federal Reserve Bank, Kashkari promised an extended search for solutions to “TBTF” — the too-big-to-fail acronym that has become economic shorthand for the threats posed by financial giants whose collapse would threaten the wider economy.
“I believe the biggest banks are still too big to fail and continue to pose a significant, ongoing risk to our economy,” Kashkari stated.
Kashkari’s full-throated assertion that “too big to fail” is still a problem, nearly 6 years after passage of the landmark Dodd-Frank law, highlights the rut in which big banks find themselves in Washington. After failing to win any favorable changes in year-end legislation in 2015, they see no prospect of regulatory pressure easing, according to Brian Gardner, an analyst with Keefe, Bruyette & Woods.
“The Kashkari speech is another strong signal that the regulatory pendulum for the big banks is stuck and will not be swinging back to the mythical middle anytime soon,” Gardner wrote in a research note.
The speech also left bank lobbyists privately seething that one of their own would spring that kind of critique on the industry with no warning, and speculating that the effort amounts to an audition for a job in a future Democratic administration.
Whatever the motivations, Kashkari’s speech helps keep alive a debate that has preoccupied Washington since the 2008 financial crisis, and plays into the hands of Wall Street’s most implacable critics. And it could put Republicans on the spot to back concrete measures to end the problem, even as it threatens to inflame the longstanding divide between large and small banks in Washington.
This question of “too big to fail” lies at the heart of the government’s response to the 2008 financial crisis, when Kashkari was acting assistant secretary of the Treasury for financial stability. Together with Secretary of the Treasury Hank Paulson, Kashkari concluded that the government had to help rescue a series of firms — Bear Stearns, American International Group — and inject massive amounts of capital into others, including Goldman, rather than risk failures that would inflict damage on the broader economy.
After the Bush team left office, Wall Street still had enough sway in the Obama administration and Congress to prevent a new law that would have downsized the largest banks to the point where their collapse wouldn’t threaten the rest of the economy. But lawmakers and regulators knew they needed to find ways to let capitalism’s basic law — you won’t make good decisions if it’s not possible to fail — apply to banks again.
So they imposed a variety of rules on big banks. They had to create “living wills” that would explain how they would be wound down in the event of impending bankruptcy. Banks had to hold more capital as a buffer against big losses. Bank supervisors scrutinize the health of individual banks each year.
Sen. Warren, D-Mass., never bought into the notion that the problem had been solved. Together with Senators John McCain of Arizona and David Vitter, both Republicans, she sponsored legislation in 2013 to reinstate the Depression-era Glass-Steagall law, which forced banks to separate investment banking — the issuance of securities — from commercial banking, which mobilizes the savings of small depositors to make business loans.
“It will take a lot of tools to get rid of too big to fail, but one of them ought to be that if you want to do high-stakes gambling, good on you, but you do not get access to people’s checking accounts and savings accounts,” Warren told Bloomberg News at the time.
In his speech this week, his first in his current position, Kashkari announced plans to institutionalize the critique of “too big to fail” — he even embraced the formal use of the acronym, beloved in liberal circles — at the Minneapolis Fed. It will hold a series of conferences on the question and produce a report by the end of the year, which Kashkari plans to take to Congress as a potential legislative blueprint in 2017.
It’s a striking position for Kashkari, an Ohio-born Indian-American trained as an aerospace engineer. After working at Goldman and Treasury, he went to work for bond-trading giant Pimco in California, spearheading its push into equity trading. And after that, he ran for governor on the Republican ticket, losing decisively to incumbent Democrat Jerry Brown.
The political taint of Goldman and the bank bailout ensured that his appointment as head of the Minneapolis Fed in November came as a surprise to critics and allies of Wall Street alike. Now, with his wholehearted embrace of the TBTF ethos, Kashkari is all but allying himself with Warren, whose signature talent since being appointed to run the congressional oversight board for the bank bailout has been to use her star power to shape the context in which decisions are made by regulators and lawmakers.
The easiest way for Warren to rail against Wall Street has been in the context of regulations passed as a result of Dodd-Frank. As that tide of new rules ebbs, critics of Wall Street will need new ways to tell their story, and one will surely be that the Republican-former-Goldman-Sachs-Bush-advisor-turned-Fed-official thinks more has to be done to constrain big banks.
“Warren is very good at creating new lines of attack, new ideas, to keep that narrative going,” said Kelly Gibson, a Democratic media strategist and partner at HGCreative.
That said, in his speech Kashkari didn’t endorse breaking up big banks as the only solution to the TBTF problem, though he did hold it out as one possible approach. The other two scenarios he outlined called for forcing banks to hold enough capital in reserve to ensure the firms can always meet obligations, or heavily taxing the use of debt, a measure that would have much the same effect.
Republicans have criticized the too-big-to-fail problem as well, but generally from a very different perspective than Kashkari.
Rep. Jeb Hensarling, the Texas Republican who chairs the House Financial Services Committee, has argued that the fund administered by the Federal Deposit Insurance Corporation as part of the new powers it received under Dodd-Frank to break up and sell off failing institutions amounts to a new form of bailout. This fund, Hensarling argued, “enshrines ‘too-big-to-fail’ into law.”
The authors of Dodd-Frank have countered that the fund would cover solely administrative costs to the FDIC, and that a bank’s shareholders would be wiped out.
Republicans haven’t pushed the kinds of solutions that Kashkari has called for, and have actively opposed some of them. An amendment to Dodd-Frank that would have forced banks to divest large swaths of business failed in the Senate, and they’ve criticized the Treasury Department’s imposition of tougher rules on companies that could inflict wider damage if they fail.
Kashkari also endorsed the politically-explosive notion that lawmakers should openly exploit the longstanding split between large and small banks by pairing solutions to the TBTF problem with measures that would reduce the regulatory burden on smaller institutions. “Perhaps that’s a tradeoff that members of Congress would find compelling,” Kashkari said.
The Independent Community Bankers of America, which represents small banks, was very nearly gleeful at the idea that it has a new ally in the Federal Reserve System. “A top Fed policymaker is taking the scourge of TBTF very seriously and advancing proposals that ICBA has advocated for years,” Cam Fine, the group’s president, said in an email.