Reduce liability for losses on commercial accounts by adhering to four requirements.
Parting Shots From Tom Hoenig
As he approached mandatory retirement from the Federal Reserve Bank of Kansas City Oct. 1 after 20 years as its president and CEO, Thomas M. Hoenig was still speaking out boldly and clearly about issues he cares deeply about: monetary policy, the economy, bank supervision and the future of community banks — not necessarily in that order. The following is based on an interview in his office Sept. 1.
After dissenting from the policy that is keeping interest rates near zero for an “extended period” at all eight Federal Open Market Committee meetings last year, he is encouraged that three more regional Fed presidents at the August FOMC meeting objected to maintaining the status quo until at least mid-2013. “They are willing to speak out and vote accordingly,” he said, “and that is encouraging to me. I think it’s good for the country to have different views voiced and actually acted upon.”
There is no economic reason, in his view, for extending the policy to 2013. He suggested it is an attempt to give speculators assurances that nothing will be done for the next two years. “I think the idea is to encourage risk-taking and therefore stimulate the economy,” he said. In January 2013, everyone will know that something has to take place over the next six months, either an extension or a withdrawal, and the markets will become quite uncertain about it, he fears. “What you end up doing is creating greater uncertainty at the very time you want to create greater certainty and accountability,” he said. “So I’m not at all enamored with the program.”
Other committee members at the August meeting might have liked to see additional monetary accommodation following the second round of quantitative easing that ended in June. “I’d like to know what exactly is expected from that in the long run,” says Hoenig. He suggests their goal is to stimulate the economy quickly and then withdraw the stimulus when necessary in a timely and efficient manner. “I don’t have good experience with the ability to withdraw in a timely fashion,” he says. The issues around the economy are not monetary policy, he explained. Rather, they are fiscal and regulatory “and those are the things that need our attention.” Accommodative monetary policy may actually make dealing with the economy more difficult over time, he believes, and also has the effect of enabling fiscal authorities to delay actions they might otherwise have taken.
Monetary policy is not a tool than can heal the sick and should not be used that way, he pointed out. It is an important tool and can have short-run positive effects and did have as the crisis evolved. “But in the long run the economy is built around good fiscal policy, good monetary policy, good regulatory policy,” he says. “And the other tools need to get a lot more attention than they have until now.”
In speaking publicly before many banking associations and other business groups over the past 30 months, Hoenig has argued forcefully that the nation’s biggest banks should be broken up to curb the excessive risk-taking that contributed to the recent crisis and level the playing field with smaller financial institutions. He believes some people are listening, “not sufficiently to take action, but they understand the point,” he said.
The largest banks are powerful and there is fear of breaking them up in terms of the possible short-run repercussions to the economy, he pointed out. “But it is understood that we are also running very significant risk by not addressing this issue and allowing these institutions to have the safety net (FDIC insurance and implied government guarantees) so readily available to them.”
The Volcker Rule embodied in the Dodd-Frank Act, which would bar the big banks from certain trading activities, is a step in the right direction, in Hoenig’s opinion. “It is the first step in breaking up these banks,” he said. “But I wouldn’t put these activities in an affiliate; I would spin them out so they are truly independent.” They should be separate organizations with real capital, he believes, not with the safety net of the federal government and the FDIC.
Even breaking up the largest banks will not end the concept of too big to fail, in Hoenig’s opinion. “That will mitigate it,” he said. “My point is you better allocate the risk. If you are in the investment banking-trading business you are in a high-risk business. The reason we gave commercial banks the safety net is the payment system and the intermediation process. If you broke them up you still have very large institutions and in a crisis it would take a very strong Treasury Secretary to say, ‘No, here is what we are going to do.’ But at least we have a better opportunity to do it the right way. It’s not perfect but we need to move in that direction.”
As to whether the regulators and the government are better prepared for the next crisis, Hoenig was skeptical. The preparation for the next crisis is the experience of the last crisis, and that has made people more conservative, he conceded. But once this is forgotten and people start feeling good again, “I think we will repeat the mistakes of the past,” he warns, “because fundamentally what has changed? We have the same institutions; they are 30 percent larger; they are risk-oriented; they have the safety net. Nothing in the incentive structure of the financial system has changed. If you can’t answer that is has changed significantly you can’t expect a different outcome.”
Turning to contentious issues faced by community banks, Hoenig agreed they are being hurt by regulation, and notably by the Dodd-Frank Act. In effect, it gives an advantage to the largest banks, he pointed out, because they can spread compliance costs over a larger asset base. In addition, “We still have too big to fail, which means they have lower costs of capital and funding. That is another advantage to them.”
Noting that he meant to be constructive, Hoenig expressed a concern that community bankers cannot just blame someone else. “They can’t just sit there and wring their hands and say this isn’t fair — which of course it isn’t.” They have to find ways to drive their costs down, make themselves competitive and develop the necessary skill sets, he suggested. “They can’t just make commercial loans or consumer loans anymore, so they have to make small business loans. Change is inevitable; they should embrace it and make it work to their advantage.”
One group community bankers tend to blame is examiners, complaining that they are being too tough. “We’ve looked at that ourselves,” said Hoenig, “and I think that the nature of bank supervision tends to be pro-cyclical.” He has expressed concerns about a potential bubble in agriculture, which is currently thriving. Many argue that there is nothing to be concerned about, he noted, that producers are more sophisticated than they were in the 1980s, that loan performance has never been better and therefore why does an examiner criticize that? When the examiner comes in and finds it not going well, the banker argues he can turn the situation around given time. “Time is not on their side and the examiner has only the facts to deal with,” Hoenig said.
Most of the complaints Hoenig has heard have dealt with commercial real estate. “Commercial real estate is in trouble in this country,” he explained. “If you have a bank that is CRE-oriented but even more oriented toward land and development loans, it is in trouble. And you can blame the examiners if you want but the fact is you have only yourself to blame, as hard as it is.
“I have noticed,” he continued, “that banks that are run well but didn’t get overly invested in commercial real estate and built good control systems, are also dealing with some pretty tough examiners, but they are still getting 1 and 2 rated.”
Bank examiners have no interest in seeing a bank fail, Hoenig argued. “You don’t get a bonus; you don’t benefit from it; you lose an institution that you would normally examine, so there is no reason to be that way,” he said. “But you can’t walk away from the facts. And if you don’t do your job, in the Inspector General reports you’re criticized.”
Hoenig denied there is less local or regional decision-making by regulators currently than there was in the 1980s, as some have charged. “There has always been a tug between the Center (Washington) and the regions, whether it is the Fed, the FDIC or the OCC,” he explained. “I was in that mess in the 1980s and I had many conversations with the Center. They were never easy and they never said, ‘Tom, sure, whatever you think, buddy, go ahead.’ It was, ‘What are you talking about? You’re being too easy.’ It hasn’t changed a bit.”
As he prepared to leave the Fed, closing a career spanning nearly 40 years, Hoenig was enthused with the greater transparency surrounding the central bank’s actions in recent years. “It is part of the reality of central banking today,” he explained. “More people understand who you are, so they want more information. You can’t keep it as close to the vest as you once could.” He believes the trend, which he said was well in place prior to the board chairmanship of Ben Bernanke, is a good one.
He would like to see some structural changes in the FOMC. He is comfortable with it meeting eight times a year, but it should not be any less than that, in his opinion. “I like the discussions, the spirit of openness and I think that has been good,” he said. “Ben Bernanke has actually helped that. I like the dissent — not for its own sake but when it is justified.”
He would change the voting, which currently involves four regional presidents, who rotate every third year, the president of the New York Fed and the seven members of the board of governors (minus two current vacancies). He would take away the permanent vote of the New York Fed and have six regional presidents rotating every other year, including New York. “There is no reason for New York to have a permanent vote,” he said. He would have six governors and six presidents voting on the committee, with the chairman carrying the swing vote, always with the majority. The result would be a more balanced representation from across the country, in his view.
What’s next for Hoenig? Not retirement in the traditional sense. At the time of this interview he had not announced any plans, but that changed a few weeks later on Oct. 20, when President Barack Obama nominated him to be FDIC vice chairman. He had not ruled out either Washington or academia “with the right situation.” Subject to Senate confirmation, this could be just the right situation — for him and for the good of the industry, which will benefit from having a widely respected veteran regulator with down-to-earth Midwestern roots near the top of the supervisory chain in Washington.
Bill Poquette is editor-in-chief of BankNews.
Copyright (c) November 2011 by BankNews Media.