Meanwhile, the Federal Reserve has greatly expanded its role as regulator of the nation's largest holding companies, and has been running annual stress tests to make sure the banks could weather a "severely adverse scenario" of a swift and unprecedented recession, while remaining well capitalized and continuing to make loans. So what is the best way forward? According to Guggenheim analyst Marty Mosby and research analysts at his firm, proposals for bank reform in Washington are focused on three ideas:
- Break up the big banks. The is the aim of the recent proposal by Senators Sherrod Brown (D., Ohio) and David Vitter (R., La.), which would have U.S. bank regulators "walk away" from Basel III and significant portions of Dodd-Frank. Under Brown-Vitter, the largest U.S. banks would simply be required to maintain common equity levels of at least 15% of total assets. With no risk-weighting for assets, these would be very high ratios indeed, which the senators have said would likely lead to the "megabanks" breaking themselves up.
- Raise banks' capital requirements high enough to make failures very unlikely. This is different from the Brown-Vitter proposal since it incorporates a risk-based approach. Indeed, this is what we are seeing with the Federal Reserve's stress-test focus on capital strength through periods of economic adversity.
- Bring back Glass-Steagall. There are plenty of voices clamoring for investment banks to be separated from commercial banks, as they were under the Banking Act of 1933. The Federal Reserve was already taking a rather liberal approach to Glass-Steagall even before the Graham-Leach-Bliley Act of 1999 formally ended restrictions against investment banks affiliating with commercial banks.