Biden’s college loan forgiveness misses the point by Thomas P. Vartanian and William M. Isaac published by The HIll on September 13, 2022

Biden’s college loan forgiveness misses the point by Thomas P. Vartanian and William M. Isaac published by The HIll on September 13, 2022

It’s possible that President Biden’s badly misguided attempt to forgive student debt has poked a hornet’s nest and will focus enough attention on the deep flaws in the U.S. educational system that just may result in greater accountability throughout the education complex.
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After the president completed his magical mystery forgiveness tour, we received a lot of feedback on our article on the subject. We were contacted by a man who had been paying his children’s educational loans for 20 years and was, of course, happy to receive the government’s gift. But he was also incredulous that any rational authority would take such an action and not try to cure the root cause of the problem — escalating college and university tuitions subsidized by the taxpayers.

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Federal home loan banks should serve the public, not themselves by William M. Isaac and Cornelius Hurley published by The Hill on September 13, 2022

Federal home loan banks should serve the public, not themselves by William M. Isaac and Cornelius Hurley published by The Hill on September 13, 2022

It’s not every day that a regulator for a $1 trillion, nearly 100-year-old bureaucracy signals that a total revamp might be in order. But this is what occurred when the newly confirmed head of the Federal Housing Finance Agency, Sandra Thompson, told Congress that she is commencing a comprehensive review of the mission and operations of the Federal Home Loan Banks (FHLBs).

It appears that the FHLBs long history of resisting change is about to end. That history has served them, if not the nation, well over the years. One can only hope that the obscurity in which they have operated for 90 years is about to end.

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Biden’s Loan Bailout ends Skin in the Game by Thomas Vartanian & William M. Isaac published by The Hill on September 2, 2022

Biden’s Loan Bailout ends Skin in the Game by Thomas Vartanian & William M. Isaac published by The Hill on September 2, 2022

The Hill published on September 2, 2022 an article co-authored by my long-time colleague and good friend, Tom Vartanian, and me highly critical of President Biden’s recent decision to forgive hundreds of billion dollars in student loan debt without at least requiring some sort of public service in return.  He acted alone without public debate or even a vote in Congress.  His action represents a huge acceleration of a long-term trend of destroying any semblance of marketplace discipline so critical to a successful free-market economy. And it is grossly unfair to millions of citizens who have already paid off their student loans, millions more who never sought student loans, and even more who chose not to attend college.  I urge you to read the article, a link to which is below:

President’s Biden’s forgiveness of up to $20,000 of the amounts owed on 45 million outstanding student loans represents the official death knell of any semblance of market discipline in America. Unfortunately, his administration has not been alone in giving away taxpayer money without attaching strings to ensure that everyone has some skin in the game.

Higher education is a good thing, and the more well-educated people we have, and the better educated they are, the better it is for the nation. But there are much better ways to achieve those goals than by using taxpayer money in undisciplined ways that distort the incentives underlying financial markets.

Government subsidies abound, and it may indeed be in the public interest from time to time to accept the moral hazard that accompanies a massive taxpayer-funded bailout when the benefit outweighs the moral hazard created. But this delicate balance increasingly seems to be relying on political expediency rather than financial reality.

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Time to get smart about financial technology — and how to regulate the $10T market by Thomas P. Vartanian and William M. Isaac published by Business Observer on June 30, 2022

Time to get smart about financial technology — and how to regulate the $10T market by Thomas P. Vartanian and William M. Isaac published by Business Observer on June 30, 2022

If you truly understand cryptocurrencies, stablecoins, Web3.0, NFTs, blockchain and the metaverse, you are in a select minority. Most of these terms have definitions that change based on who is using them and for what purpose they are being used.

As former federal bank regulators who have handled more than a thousand bank failures over the last 50 years, we think that it is long past time for reasonable oversight to be brought to financial technology businesses. That should not be a controversial concept — every industry that solicits consumer funds is regulated. Yet, the hallmark of this new fintech world is the absence of regulation. That is always dangerous, particularly since the cryptocurrency business — comprised of 18,000 cryptocurrencies, 600 crypto exchanges, $3 trillion of crypto derivative securities and trillions of dollars of leverage — is a $10 trillion market relying on software, networks and systems that are not secure and have coughed up $16 billion of cryptocurrency to hackers. For perspective, the entire U.S. banking industry has $22 trillion of assets.

Recent events should send a sobering message to Congress and regulators. Bitcoin is trading at around $20,000, down from its high just last year of $68,000. Terra and several other stablecoins have run into financial problems, and the extent of marketable assets purportedly backing stablecoins has been challenged in at least one case by the federal government. Crypto exchanges are similarly experiencing financial pressures that are resulting in crypto holders learning that their funds may not be held in a legally separate form but as general reserves available to any creditor in bankruptcy. Confidence — an absolutely critical element of surviving in the financial services business — has been evaporating almost as fast as it expanded.

We have some recommendations derived from our experience as bank regulators and advisers about how to proceed.

  1. Financial services that consumers rely on should be regulated based on the activities performed and the systemic impact they might have, with focus on who provides them. It make no sense to spend 100% of the country’s prudential regulatory resources regulating banks when more than 50% of the country’s financial services occur through entities other than banks.
  2. Cryptocurrencies should be regulated as money and securities to the extent that they purport to be, or act like them.
  3. The people who establish and operate financial technology services should be required to pass the same integrity litmus tests any bank or securities firm organizer, director or controlling party must.
  4. The Internet must be reconstructed to be more secure, emphasizing real person authentication, good governance and strong online enforcement.
  5. Federal, state, and global supervisors must be transformed so that a leaner, modernized system of regulation can deploy technologies such as artificial intelligence to successfully regulate technologically enabled financial markets.

Governments have spent the past 25 years under-regulating technology while over-regulating banks. The ubiquitous nature of ransomware, the exponential growth and unwinding of crypto empires and the malicious use of technology by nation states, criminal cartels, terrorists and hackers highlight the dark side of technology which has gone unregulated far too long. We can only hope that policymakers will agree and create a smarter financial regulatory mechanism that matches modern finance.

Isaac and Vartanian Author Letter to the Editor of the Wall Street Journal in Response to an Op-Ed piece Suggesting that Crypto Does Not Require Regulation, June 21, 2022

Isaac and Vartanian Author Letter to the Editor of the Wall Street Journal in Response to an Op-Ed piece Suggesting that Crypto Does Not Require Regulation, June 21, 2022

In “Sick Stablecoins Can’t Infect Financial Markets” (op-ed, June 13), Niall Ferguson and Manny Rincon-Cruz are narrowly focused on the here and now. Having handled the collapse of more than 1,000 banks and thrifts ourselves at the Federal Deposit Insurance Corporation and Federal Savings and Loan Insurance Corporation, we believe that policy makers should be focused on what will happen if cryptocurrency continues to grow in an unregulated fashion throughout the world.

Crypto already has an estimated global footprint of $10 trillion when considering direct amounts issued, derivative crypto instruments and leverage created to purchase those instruments. If crypto continues to penetrate financial and banking markets, the loss of confidence from the inevitable crash-of an instrument that often has no intrinsic value ­ as well as its contagion impact could be devastating.

Is crypto about to crash the U.S. banking system today? No. Will it cause massive problems if allowed to continue spreading without proper regulation and controls? Bet on it.

Ten economic warning signs policymakers ignored by Thomas P. Vartanian and William M. Isaac published by The Hill on June 16, 2022

Ten economic warning signs policymakers ignored by Thomas P. Vartanian and William M. Isaac published by The Hill on June 16, 2022

Policymakers are running for the exits when it comes to answering for the state of the economy. Excuses range from Russian President Vladimir Putin to COVID-19. Those excuses have some merit. But whatever peripheral justification is pulled out of the hat, the fact remains that economic duress was inevitable given the way politicians on both sides of the aisle have used and abused the economy over the last two decades.

We, and just about every other financial expert, have been writing about the inevitability of inflation and economic duress for years. So how did our leaders not see the financial damage being done by the continuous injection of fiscal and monetary poison into our economic veins? It seems it simply was not politically convenient to be concerned about the economy as it was being stuffed with more pork.

We as a country must take responsibility for what is happening. We are doing this to ourselves by electing people who are markedly unqualified for leadership positions.

Leadership is not about being able to deliver people good news – fabricated or not. It is about being able to explain the inevitable bad news and providing tangible solutions that make sense. When was the last time you saw that in Washington or in most state capitols? Who was the last American leader who reminded us that there is no free lunch? Does anyone represent the concerned middle anymore?

We have heard all the excuses for not seeing inflation and economic shortages coming. Here’s the evidence. You be the judge.

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BankThink The dark side of financial data sharing by Thomas P. Vartanian and William M. Isaac published by American Banker on June 1, 2022

BankThink The dark side of financial data sharing by Thomas P. Vartanian and William M. Isaac published by American Banker on June 1, 2022

Cryptocurrencies are proving that technology makes it difficult for policymakers to find the balance between encouraging valuable financial innovations and regulating dangerous economic hype. Data-sharing applications that facilitate open banking are the latest examples of technological innovations that boast of valuable new competitive opportunities for financial institutions and their customers. But by now, policymakers should realize that cyberspace is a buyer-beware zone.

Sharing data so that consumers can complete financial transactions more efficiently sounds terrific. Third-party providers who will get their hands on this valuable information will certainly think so. But financial institutions should be cautious about sharing the massive amounts of highly confidential data they maintain about customers who often misunderstand the relative risk/reward ratio of sharing it.

Open banking typically relies on innovative application programming interfaces (APIs) that allow consumers to share their bank and credit card transaction data with everyone from financial to health care providers to increase functionality and efficiency. While platforms that share data with such applications and services may save consumers time and money, the moment data is shared across companies or industries, the risk of execution failure and the potential for fraudulent third-party provider access increases, not to mention the creation of serious economic infrastructure and national security risks. The more providers that touch or are unaccountable for a user’s data, the greater the number of vulnerabilities there are.

Rising interest rates will be tough on small businesses by William C. Dunkelberg and William M. Isaac published by American Banker

Rising interest rates will be tough on small businesses by William C. Dunkelberg and William M. Isaac published by American Banker

For the past few years, the availability of qualified workers has been the top business problem for small firms, trumping taxes and government regulations, historically popular choices. Today, the No. 1 issue is inflation. The Federal Reserve says it has the tools to bring inflation back down to 2%, which, by the way, is not “price stability,” one of the Fed’s two goals (the other is full employment).

The Fed’s policy posture has changed dramatically, from patiently waiting for inflation to go away while maintaining near-zero interest rates and heavy purchases of bonds, to an end to bond buying and prospects of accelerated increases in interest rates. The Fed Funds rate could go from zero to 3% in a matter of months. This, in conjunction with the withdrawal of the Fed from the bond market, could raise the yield on the 10-year bond to 5% or more. The strategy is to slow spending in the economy, reduce growth and, with less pressure from spending, cause prices to fall, all without a recession.

The yield on the 10-year bond is an important rate, often the base for determining mortgage rates (which have already risen in anticipation of Fed actions). But the cost of loans for small businesses has always been closely related to the 10-year yield. Since 1973, the National Federation of Independent Businesses has asked a random sample of its member firms what rate they paid on their most recent short-term loans. Historically, those rates have been several percentage point above the yield of the 10-year, rising and falling in sync with it.

If Fed policy takes the fed funds rate to 3%, the 10-year will likely increase to about 5%. In that case, one might anticipate average rates charged to small businesses could rise to the 8% range, well above what firms report paying now. This will be the inevitable outcome of the Fed’s fight against inflation. Small businesses already see this coming. Many borrowers with variable-rate indexed loans are asking their lender banks to convert to fixed rates loans at the rates they currently have. The banks, of course, don’t fall for it, as they read the news too.

Are Large Regional Banks Systemically Risky? by William M. Isaac

Are Large Regional Banks Systemically Risky? by William M. Isaac

Mergers among large regional banks have become a hot button topic of late, resulting in a recent feud among the board members of the Federal Deposit Insurance Corporation. Acting Comptroller of the Currency, Michael Hsu, raised the issue again recently at a Wharton Financial Regulation Conference.

I applaud the Acting Comptroller for highlighting and pursuing this issue. It’s important that we have this policy debate in the open so we are ready to deal intelligently with the next banking crisis before it arises.  The last thing we need is a repeat of the grossly mishandled crisis of 2008-2010 led by the Treasury rather than the Fed and the FDIC. That calamity was followed by a very costly lost decade for the US economy.

A top priority going forward should be to avoid another massive taxpayer outlay along the lines of the $700 billion outlay then Treasury Secretary Hank Paulson demanded and received from Congress in the Troubled Asset Relief Program legislation of 2008 (“TARP”). It was a terrible idea for the government to purchase troubled assets from financial institutions, as evidenced by the fact that the TARP program as sold to Congress was never implemented. 

Instead, the Treasury used the $700 billion slush fund to bailout car companies, insurance companies, Wall Street firms and nearly everything else in sight. Significant regional banks such as WaMu and National City, which could have easily been kept from failing, were forced to be taken over by larger banks, without even a bidding process, rather than waiting for the crisis to abate before deciding what needed to be done.

Major Wall Street firms were obliterated at great cost to our economy when they could have been stabilized and dealt with much less expensively in a less frantic atmosphere. Bank of America was ordered to purchase Wall Street’s largest firm and retail giant, Merrill Lynch, causing massive problems at our nation’s most important retail bank and helping to create significantly more concentration in financial services throughout the nation.  This in turn led to mergers of other regional banks.

Acting Comptroller Hsu and other regulators are right to devote attention to how prevent another material increase in concentration in financial services, particularly when significant financial institutions experience serious troubles. He is rightly concerned about the possibility of tucking troubled regional banks into already too-big-to-fail global banks. 

Large banks are already required to develop and maintain living wills which spell out their plans for downsizing and even resolution should they get into serious trouble.  They can be broken up and sold to other domestic and foreign banking companies in an orderly process, assuming we do not experience a concurrent breakdown affecting the entire financial system and economy.

Unfortunately, our government financial leaders in the 2008-2010 period did not reflect on how a potentially far more serious financial crisis was handled successfully during period from 1978 through the early 1992. Instead of implementing tactics similar to those employed under the leadership of the Federal Reserve and FDIC, in consultation with the Treasury, during the earlier period – implementing orderly resolutions of serious problems with as little fanfare as possible – government leaders turned what should have been a serious but manageable real estate debacle into a full-blown crisis.  

The Treasury Secretary proclaimed to Congress and the media that the financial system was about to collapse if Congress did not enact a deeply flawed and enormously expensive TARP program immediately without debate.  Government leaders yelled “fire” in a crowded auditorium and then seemed surprised when panic ensued. Even more panic was created by allowing or even causing one large institution after another to fail with highly inconsistent and unpredictable resolutions – bailing out some, letting others simply fail, and doing government-assisted deals on others.

I’m delighted Acting Comptroller Hsu is raising the questions he is raising about how we will handle the resolution of large regional banks should they get into trouble down the line.  The question is critically important because the day could come again when regulators will need to deal with such issues.

I’m not particularly concerned about our ability to work our way through these potential problems in a fashion that maintains public confidence and stability throughout our financial system so long as we study and understand the successful resolution and restructuring of the financial system from the late 1970s through the early 1990s. And we must also study and understand the serious mistakes made during the 2008-2010 period and the lost decade that followed.