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Lending

Lawmakers demand more controls on Fed bailout power

Warren, Vitter, Brown, & others lead charge to change "too big to fail" plans

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A bipartisan group of lawmakers from both the Senate and the House of Representatives sent a letter to Federal Reserve Chair Janet Yellen, urging the Fed to rewrite its proposed rule on bailing out the “too big to fail” banks in the future.

In the letter, signed by Senators Elizabeth Warren (D-Mass.), David Vitter (R-La.), Sherrod Brown (D-Ohio), Mark Begich (D-Alaska), Mazie Hirono (D-Hawaii), and Edward Markey (D-Mass.), and Representatives Scott Garrett (R-N.J.), Michael Capuano (D-Mass.), Walter Jones, Jr. (R-Calif.), Stephen Lynch (D-Mass.), Michael McCaul (R-Texas), Gwen Moore (D-Wis.), Keith Ellison (D-Minn.), Leonard Lance (R-N.J.), and Tom Cotton (R-Ark.), the lawmakers charge the Fed with not placing enough “meaningful restrictions” on the its emergency lending powers.

The Federal government authorized billions of dollars across several programs after the subprime mortgage crisis, notably the Troubled Asset Relief Program ($400 billion+) and the bailouts of Fannie Mae and Freddie Mac, with the latter firms now turning a profit.

"If the Board’s emergency lending authority is left unchecked, it can once again be used to provide massive bailouts to large financial institutions without any congressional action,” the letter reads. “The Board’s proposed rule fails to strike the appropriate balance between promoting financial stability and mitigating moral hazard among the largest financial institutions.”

The Fed rule on bailing out the banks is mandated by Section 1101 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. According to the letter, Section 1101 was intended to restrict the Fed’s emergency lending authority in the wake of the more than $13 trillion that was lent out to domestic and foreign financial institutions in the wake of the financial crisis.

“These loans another bailout in all but name,” the letter states.

Section 1101 of Dodd-Frank was established to “stop these kinds of bailouts from happening again,” the letter states. “Congress directed the Board to establish firm limitations on its emergency lending authority so that any emergency lending program or facility is for the purpose of providing liquidity to the financial system, not to aid a failing financial company.”

In the letter, the lawmakers write that the Fed’s proposed rule under Section 1101 “places no meaningful restrictions on its emergency lending powers, and in a time of crisis, invites the same sort of backdoor bailout we witnessed five years ago.

“We urge the Board to strengthen these restrictions in its final rule.”

The lawmakers call out several specific issues they have with the Fed’s proposed rule and suggest the following changes:

  1. Establish a clear time limit for a financial institution’s reliance on the Board’s emergency lending and provide concrete limit on the duration of each lending facility or program
  2. Establish procedures for the orderly unwinding of any emergency lending program or facility, including how the Board will cover any associated losses
  3. Adopt a broader definition of “insolvent” to one that might examine the relative value of an institution’s assets and liabilities, so that the board could not use its emergency lending program to save an institution that is on the verge of bankruptcy
  4. Expand the definition of “broad-based” to reflect the congressional intent of Section 1101 to allow for liquidity to be injected back into the financial system instead of only helping a “handful” of financial institutions
  5. Establish limitations, and a penalty rate, on lending terms

“Although these are not the only changes we would each like to see to the Board’s proposed rule, we believe that these changes would substantially strengthen the rule,” the letter states.

Click here to read the full letter.

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