The vice president of the American Federal Deposit Insurance Corp. (FDIC) has published the text of his speech given in Paris last May 23rd. The theme was the capital of the banks. By reviewing literature and statistics from 1869 to today, Thomas M. Hoenig demonstrates that there is a positive relationship between the amount of capital, measured through the leverage ratio calculated on tangible assets, and financial and economic stability.
This result was expected; the relationship with performance is less obvious: in the long-term historical perspective it is not true that a smaller share of assets ensures a higher return. From the great depression until the beginning of the great banking crisis of 1980, the capital ratio of the large US banks decreased from 13% to less than 8%, rising to 2007% after 11.
The dynamics of Roe (return on assets) appear contradictory in the sense that the historical drop in the share of equity is not followed by a proportional growth in its return. Similar indications can be drawn from the ROA trend (return on total assets).
The same propensity to grant loans appears to move in harmony with capitalization: the more capitalized a bank is, the more it tends to finance the economy. On the other hand, the more assets you have, the less you pay the additional funds requested as capital.
The conclusion is therefore not only in favor of more assets in the big banks, but against all those lobbying maneuvers (currently at work) aimed at manipulating the regulatory coefficients by excluding from the assets certain categories of investments considered to be less risky: such as derivatives which are intrinsically leveraged tools which, as is known, were decisive in the last serious crisis.
Government policies must therefore aim at “true” capital strengthening and not at introducing new, less stringent rules on asset valuation. I would include among these gimmicks the drive towards mergers which in the case of non-homogeneous institutions in terms of assets and income capacity have always ended up being deleterious.
In this context, it makes a certain impression to read certain utterances by government officials who clamor for combinations of banks. Aggregations which on the one hand are detrimental to competition and on the other risk leading to the union of bodies characterized by critical issues of no small importance.
At the end of the speech, Hoenig presents a table with a list of large "systemic" banks in the United States and in other countries (G-SIBs Global Systemically Important Banks). The data referring to 31 December 2015 give the following ranking which I repeat in reverse order of capitalization (% ratio between tangible equity and total tangible assets):
Deutsche Bank (DE) 3,01
Banco Santander (SP) 3,24
Société Générale (FR) 3,73
Unicredit (IT) 3,81
BNP Paribas (FR) 3,99
Others follow with over 4%.
The ratio for all US G-SIBs is 5,97%, for the 10 largest with assets under $550bn it is 8,31% and for sub-$9,76bn (smallest) it is XNUMX %. Thus, new evidence that increasing size leads to lower efficiency and consequent lower stability; unless of course counting on the rescue of these elephants at the expense of the public finances even in the times of the bail-in.
As regards the inadvisability of pushing banks to increase their size beyond a certain limit, I refer you to the famous Report on Consolidation (published by the Group of Ten in January 2001), the only truly reliable research made by the Bank of International Settlements, by the International Monetary Fund and the OECD.
It reads on p. 11 of the Italian translation released by Bank of Italy: "... only small banks can achieve efficiency gains by expanding their size"; and current developments in digital technologies and interconnection clearly predict that the word economies of scale will become less and less used in the future. Will the intermediate dimension also prevail in the banks?
