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Monday, September 22, 2014

12:30 p.m. - 1:30 p.m.


Randall D. Guynn, Partner; Chair, Financial Institutions Group, DAVISPOLK

The single point-of-entry (SPOE) strategy for solving †the too-big-to-fail (TBTF) problem was first publicly announced by FDIC Chairman Martin Gruenberg in May 2012. The speed with which it has been endorsed as the most promising solution to the TBTF problem by a wide range of US and foreign regulators, think tanks, rating agencies, and other stakeholders has been nothing short of phenomenal. To work properly, the SPOE strategy requires the top-tier parents of global systemically important banking groups (G-SIBs) to have a cushion of long-term unsecured debt at least equal to their equity capital. In the event their equity is wiped out, this long-term unsecured debt can be converted to equity to recapitalize these large G-SIBs instead of risking a fire-sale liquidation of their assets or relying on taxpayer injections of capital to bail them out. The strategy also assumes the ability of recapitalized and otherwise healthy G-SIBs to convert their illiquid but valuable assets into cash by pledging them to a fully secured lender of last resort.

While this strategy should be able to solve the TBTF problem, its discussion and implementation are creating two new risks for regional, mid-size and even community banks. First, a large unsecured debt shield not only eliminates the risk of taxpayer bailouts of G-SIBs, but also insulates the Deposit Insurance Fund (DIF) against losses. As a result, lawmakers and regulators have a powerful incentive to extend any long-term unsecured debt requirement to the top-tier parents of regional, mid-size and even community banks in order to protect the DIF. This could effectively double their regulatory capital requirements. Second, a growing number of lawmakers and regulators are asserting that there is no difference between providing taxpayer injections of capital to insolvent banks and providing fully secured liquidity through the Fedís discount window to healthy banks. Both are bailouts according to this point of view. As a result, there is a risk that new limits will be placed on the Fedís authority to provide fully secured liquidity to healthy banks through the discount window, including to regional, mid-size or even community banks. This means that even healthy banks may not be able to convert their illiquid assets into cash during some future economic crisis by pledging them to the discount window the way they did during the global financial panic of 2008.

This lunch presentation will discuss †the SPOE strategy for solving the TBTF problem and whether it is a viable solution to that problem or a source of new risk for regional, mid-size and community banks. And, if the latter, what can be done to mitigate such risks.

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