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Do Big Banks Need Another $1.1 Trillion in Equity Reserves?

By Amanda Alix - Apr 22, 2013 at 10:07AM

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Brown-Vitter would dry up lending, banks say.

Are the biggest banks victims of their own success? As the largest institutions such as Bank of America (BAC 2.32%) and JPMorgan Chase (JPM 1.73%) build themselves back up from the wreckage of the financial crisis, some are asking whether the regulations put in place since then are enough to prevent another meltdown.

Additionally, as banks show that they can fulfill these new obligations and still continue to recover, fresh, more onerous rules are pending to insure that their problems won't again adversely affect the greater economy. One of these new rules, put forth by U.S. Senators Sherrod Brown, D-Ohio, and David Vitter, R-Louisiana, would pump up capital requirements to the point where some big banks claim that lending would suffer.

The biggest would need the most
The Brown-Vitter bill would require all banks to sock away enough capital to equal 10% of their assets, and those with assets of more than $400 billion would be obliged to hold even more -- up to 15% in total. This list includes , in addition to JPMorgan and B of A, Citigroup (C 2.64%), Wells Fargo, Goldman Sachs (GS 2.77%), Morgan Stanley, and General Electric's (GE 3.33%) GE Capital. What would be the effect of such a law? Needless to say, it depends upon who you ask.

Banks, naturally, are against any more capital rules, claiming that more restrictions would impede their ability to make loans and crush the incipient economic recovery. According to Goldman Sachs, U.S. banks, in totality, would be required to hold an extra $1.1 trillion in equity to satisfy this new rule. The effect of this huge cushion would be a reduction in return on equity from 11% to 5%, as well as a 25% drop in funds available for lending -- taking $3.8 trillion out of the lending pipeline. According to Goldman, bulking up to this extent would take the systemically important institutions approximately 12 years to achieve -- but the law would allow only five.

Would these regulations truly produce such angst? Perhaps the banking industry is overstating a bit. A recent Bloomberg editorial on this subject took a reasoned look at the law, noting that the banks are only being asked to fund their everyday business with their own cash, rather than through the risky third-party repurchase market -- the cause of the infamous "run on repo" that actually triggered the financial meltdown in the first place. Is that really so much to ask?

Banks think so, but no one should be surprised that the industry is resisting yet another round of rules that might squeeze profits. But for banks, investors, and taxpayers, smaller, safer profit levels must surely be preferable to huge gains followed by a bigger crash. If Brown-Vitter gets an airing and a nod, the financial world just might become a safer place.

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Stocks Mentioned

Citigroup Inc. Stock Quote
Citigroup Inc.
C
$54.09 (2.64%) $1.39
Bank of America Corporation Stock Quote
Bank of America Corporation
BAC
$36.67 (2.32%) $0.83
The Goldman Sachs Group, Inc. Stock Quote
The Goldman Sachs Group, Inc.
GS
$323.63 (2.77%) $8.73
JPMorgan Chase & Co. Stock Quote
JPMorgan Chase & Co.
JPM
$129.44 (1.73%) $2.20
General Electric Company Stock Quote
General Electric Company
GE
$77.01 (3.33%) $2.48

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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