Critics of large banks argue that there is an ongoing “too-big-to-fail” (“TBTF”) problem, and contend that large banks benefit disproportionately from explicit or implicit government policies, such as federal deposit insurance, discount window lending, emergency lender-of-last-resort liquidity programs, or from the various types of extraordinary support provided by the U.S. government in response to the historic challenge facing the economy in 2008-09. 

In the second paper in its Working Paper Series on the Value of Large Banks, The Clearing House examines whether large banks may experience any unfair advantage due to traditional or extraordinary government support to the banking system allowed under U.S. law and finds:

Access to deposit insurance and lender-of-last-resort liquidity does not provide any unfair or disproportionate benefits to large banks.

Deposit insurance and the Federal Reserve’s discount window are the traditional lynchpins of U.S. banking system stability.  These programs are equally accessible to all banks on the same terms and confer no greater or special benefits on large banks relative to their smaller counterparts.  Access to both deposit insurance and lender-of-last-resort liquidity is priced, and large banks in fact bear a disproportionately high burden in funding deposit insurance under the new assessment methodology imposed by the Dodd-Frank Act.  Of note, deposit insurance protections are relatively less significant to large banks, which rely far less on insured deposits as a percentage of funding than smaller institutions.

The comprehensive nature of post-crisis legal and regulatory changes limits the forms of extraordinary support available to the government and protects banks and the banking system against the need for extraordinary government support in the future. 

The limited forms of lender-of-last-resort emergency liquidity that the government can use to assure financial stability do not provide any special or disproportionate economic benefit to large banks.  Reforms have strictly limited the terms and availability of extraordinary financial stability support the government may provide in times of crisis.  Extraordinary support designed to benefit an individual institution is now prohibited, and implementation of significantly-heightened prudential requirements will dramatically reduce the practical likelihood that even “broad-based” financial stability support for the banking system will be necessary.

Given widespread legal and regulatory changes, a backward-looking analysis of the crisis is of little use in assessing whether government policy unfairly benefits large banks.  Nevertheless, retrospective analysis makes clear that large banks did not enjoy an unfair benefit during the crisis. 

Many of the emergency government facilities were designed to assist markets in which large banks played unique market roles, accounting (along with their size) for their greater use of certain facilities.  Other facilities benefitted smaller institutions, demonstrating that “uptake” varied by program and purpose.

In sum, large banks have not—and will not in the future—enjoy any disproportionate economic benefit from extraordinary government support.

In forthcoming papers, The Clearing House will further explore this important inquiry into our nation’s largest financial institutions and dispel the inaccurate rhetoric surrounding the topic.

The Clearing House, established in 1853 to bring order to clearing and settlement between banks, is the nation’s oldest banking association and payments company. All issues of The Clearing House Banking Brief are available here.