How This Government Report Could Hurt Bank of America

The hue and cry in favor of breaking up some of the nation's largest banks into more manageable entities has died down somewhat lately, but the issue is certain to resurface again thanks to the Government Accountability Office. The GAO has released the first part of its in-depth study of the subsidies bestowed on the banking system -- both explicit and implicit -- both during the financial crisis and beyond.

Fury over TBTF advantages spurs review
The GAO's report was requested by Senators Sherrod Brown, D-Ohio, and David Vitter, R-La., two lawmakers who have been extremely vocal in asserting that the biggest bank holding companies are still a danger to the economy. The two introduced legislation last spring that would safeguard against another taxpayer bailout by substantially increasing capital requirements for banks like Bank of America (NYSE: BAC  ) , Citigroup (NYSE: C  ) , and JPMorgan Chase (NYSE: JPM  ) .

The impetus behind the senators' campaign can be traced to direct bank subsidies like the Troubled Asset Relief Program, as well as an implicit subsidy tied to borrowing costs. The latter lets banks enjoy the sweetest of borrowing terms, since creditors can sleep easy knowing that the next government bailout will guarantee their positions. This backstop is worth about $64 billion to the biggest five banks, which include the aforementioned three, as well as Wells Fargo and Goldman Sachs.

What did the GAO find?
The first part of the study addressed only those benefits bestowed upon banks under TARP, and legislation -- such as Dodd-Frank -- that could affect the largest bank holding companies. The second part of the report, due sometime next year, will address the economic benefit to the banks because of the commonly held belief that they are still too big to fail.

Not surprisingly, the GAO found that the megabanks received oodles of aid from the federal government during the financial crisis of 2007-2009. These programs, administered by the Federal Reserve, the Federal Deposit Insurance Corporation, and the Treasury Department, were available to many institutions, but were of greatest benefit to those with at least $50 billion in assets. Additionally, assistance to the securitization markets, Fannie Mae and Freddie Mac, and insurance giant AIG helped the big banks immensely.

How will the report impact the implicit subsidy?
The study notes that Dodd-Frank contains many regulations that will restrict any future taxpayer bailouts, but that the execution of the necessary policies is woefully incomplete. The GAO recommends that the Federal Reserve Board establish a timeline for creating these policies and procedures, noting that their completion is essential to change market expectations regarding a government backstop for the biggest banks.

Bank of America and Citigroup could be damaged by the removal of the implicit subsidy once markets accept the fact that another bailout is unlikely. Of all the bank holding companies, these two are most dependent upon that backstop -- so much so that its elimination would cause their profits to plummet.

How likely is this to happen? The snail's pace of financial reform has lulled everyone into a false sense of security that nothing would ever change, but this report seems to have helped cement the notion that TBTF may soon be a thing of the past.

Just hours after the report's release, Moody's Investors Service followed up on its promise last summer to reevaluate the bank holding companies. Moody's noted the "substantive progress" made by regulators toward preventing another bailout of troubled banks, and downgraded the senior debt and subordinated debt of JPMorgan Chase, Goldman Sachs, and Morgan Stanley by one notch, based upon this opinion.

The ratings agency did not touch Bank of America's and Citigroup's debt, a very good outcome for both banks. Things could have been far worse, since much of the debt held by each is rated significantly lower than that of JPMorgan Chase and other big banks . Any downgrade could have plunged BofA's and Citi's entire debt load into the junk category.

For now, Bank of America has gotten a reprieve, but the perception that a government guarantee no longer exists for the megabanks is beginning to take hold. The GAO noted that the Federal Reserve has accepted its recommendation to speed up the process of tightening its lending policies toward troubled banks -- though accepting a suggestion and carrying it out are two different things.

The second half of the GAO's report will be the juiciest, and is sure to inflame the TBTF crowd all over again. The 2014 study will reveal "any funding or economic advantages the largest bank holding companies have received as a result of implied government support."

For Bank of America, in particular, the injury to its bottom line from the eventual elimination of the implicit subsidy may pale in comparison to a new wave of public outrage against big banks. Due to its chronically tarnished image, this anger will likely hit BofA the hardest.

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Read/Post Comments (6) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 16, 2013, at 9:52 AM, glenns45 wrote:

    Corrupt Globalist Bankers should be audited and put in Prison, they have been robbing the wealth of citizens of this Nation and other Nations for years. Next lets audit the private corrupt Federal Reserve and end the central Banking system that has destroyed and devalued the Dollar. A system based on a fiat Currency backed by nothing where money is created out of thin air will lead to hyper inflation and the total collapse of the Dollar.

  • Report this Comment On November 16, 2013, at 1:58 PM, Uncleben wrote:

    first I must say I laughed at loud at Glen45....he must be drinking lots of colt 45! the dollar is gaining in strength and so is the economy.....the hyper inflation myth is decades old.....never going to happen....I suppose Glen wants the collapse of society so everyone can be on his level !

    the author of this article has been bad mouthing BAC, C and JPM for years....she must have lost a fortune

  • Report this Comment On November 16, 2013, at 8:22 PM, Uncleben wrote:

    I can't stop laughing at gpdoll the lemming.....how funny....did you forget the 10,000 lies per year from the Bush admin?

    it is always easy to spot the broke losers posting on the internet.....did you miss the stock mkt doubling?

    keep flipping burgers!

  • Report this Comment On November 16, 2013, at 11:46 PM, Rusty56 wrote:

    Uncleben - The author didn't lose a fortune, are you kidding. these are all just want punk kids writing junk on stuff they know little about. She doesn't have a fortune to lose - period.

  • Report this Comment On November 17, 2013, at 1:16 AM, sluggo47 wrote:

    All of these doom and gloom articles are written to

    stir up more hatred for the big banks and make the Obama crowd salivate over the possibility of sticking it to the banks. The bottom line is that the House will have a big say in this as well as the huge bank lobby. In other words don't hold your breath. Sorry 99%ers.

  • Report this Comment On November 17, 2013, at 5:12 AM, DJDynamicNC wrote:

    "Next lets audit the private corrupt Federal Reserve and end the central Banking system that has destroyed and devalued the Dollar."

    Destroyed and devalued the dollar? If the dollar is "destroyed and devalued" then how do you buy anything with it? And why are you on a stock site that discusses trades exclusively in dollar-denominated securities?

    "A system based on a fiat Currency backed by nothing where money is created out of thin air will lead to hyper inflation and the total collapse of the Dollar."

    For the record, all money is created entirely out of thin air. That's the nature of money. We invented it. This misapprehension that money "is" something is extremely persistent, and extremely frustrating. A dollar is a piece of paper (or, increasingly, a string of digits) that is worth absolutely nothing more than what somebody else will give you for it.

    Meanwhile, a hunk of gold is a piece of stone that is worth... absolutely nothing more than what somebody else will give you for it.

    I don't see why this is so difficult to understand.

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