Posted by Leonard Steinberg on February 20th, 2013
Are those huge banks that are too big to fail not as profitable as we thought, and are the profits they are making a tax-payer funded(government paid) subsidy? Banks that are potentially the most dangerous can borrow at lower rates, because creditors perceive them as too big to fail. Economists have tried to pin down exactly how much the subsidy lowers big banks’ borrowing costs. Two researchers, Kenichi Ueda of the IMF and Beatrice Weder di Mauro of the University of Mainz, put the number at about 0.8 percentage point. The discount applies to all their liabilities, including bonds and customer deposits.
Small as this may sound, a 0.8 percentage point makes a big difference. Multiplied by the total liabilities of the 10 largest U.S. banks by assets, it amounts to a taxpayer subsidy of $83 billion a year. Thats the equivalent to the government giving the banks about 3 cents of every tax dollar collected.
The top five banks — JPMorgan, Bank of America Corp., Citigroup Inc., Wells Fargo & Co. and Goldman Sachs Group Inc. – – account for $64 billion of the total subsidy, an amount roughly equal to their typical annual profits. The banks occupying the commanding heights of the U.S. financial industry, with almost $9 trillion in assets, more than half the size of the entire US economy, would just about break even in the absence of corporate welfare. In large part, the profits they report are essentially transfers from taxpayers to their shareholders.
Neither bank executives nor shareholders have much incentive to change the situation. On the contrary, the financial industry spends hundreds of millions every election cycle on campaign donations and lobbying, much of which is aimed at maintaining this subsidy. The result is a bloated financial sector and recurring credit gluts. Left unchecked, the superbanks could ultimately require bailouts that exceed the government’s resources. (Picture a meltdown in which the Treasury is helpless to step in as it did in 2008 and 2009).
Regulators can change the game by paring down the subsidy. One option could be to make banks fund their activities with more equity from shareholders, a measure that would make them less likely to need bailouts. Another idea would be to shock creditors out of complacency by making some of them take losses when banks run into trouble. A third is to prevent banks from using the subsidy to finance speculative trading, the aim of the Volcker rule in the U.S. and financial ring-fencing in the U.K.
Once shareholders fully recognized how poorly the biggest banks perform without government support, they would be motivated to demand better. This could entail anything from cutting pay packages to breaking down financial juggernauts into more manageable units. The market discipline might not please executives, but would it be an improvement over paying banks to put the US taxpayer in danger? How are other industries taxpayer subsidized? How would a significantly reduced banker payroll affect the New York real estate market?