WASHINGTON U.S. authorities should reorganize the country's largest banks to protect against the risk of institutions that are "too big to fail" and that would saddle ordinary Americans with the cost of a bailout the next time they get in trouble, a senior Federal Reserve official said on Wednesday.
"We recommend that TBTF (too-big-to-fail) financial institutions be restructured into multiple business entities," Richard Fisher, president of the Dallas Federal Reserve Bank, told an audience at the National Press Club in Washington.
He declined to answer questions directly on monetary policy during a question-and-answer session after the speech with reporters, but acknowledged that he believed the impact of massive Fed bond purchases on monetary policy was fading.
Lawmakers passed sweeping changes to financial regulation in the aftermath of the 2008-2009 financial crisis in legislation led by Senator Chris Dodd and Representative Barney Frank.
Critics say Dodd-Frank did not go far enough, including several Fed officials who, like Fisher, want the biggest banks reined in.
Fed Governor Daniel Tarullo in October suggested capping the size of banks according to their proportion of U.S. gross domestic product and said that would require Congress to write new laws. But Fisher did not think dictating how big banks could grow was the right course.
"I'm a little reluctant just given my philosophical bent to artificially engineer size," he said, arguing that markets would do a better job of making that judgment.
The outspoken Texan policymaker, blaming such "behemoth" firms for massive bad bets on the U.S. housing market at the root of the crisis and subsequent taxpayer bank bailout, said the Fed should protect their core commercial lending operations -- and nothing else.
He identified 12 "megabanks" with assets of over $250 billion as too big to fail.
"Only the resulting downsized commercial banking operations, and not shadow banking affiliates or the parent company, would benefit from the safety net of federal deposit insurance and access to the Federal Reserve's discount window," Fisher said.
The discount window is an emergency source of liquidity for qualifying banks unwilling or unable to borrow in the open market. They pay a higher rate of interest for the privilege.
The remaining parts of a bank's business would be excluded from government support, and anyone doing business with them should have to sign an official disclaimer, Fisher said.
Such a health warning would acknowledge that no federal deposit insurance or other public money would come to the rescue if their counterparty hit the rocks.
The 12 "megabanks" Fisher identified together account for 69 percent of all U.S. banking assets, but represent only 0.2 percent of the country's 5,600 banks.
"The 12 institutions ... are candidates to be considered TBTF because of the threat they could pose to the financial system and the economy should one or more of them get into trouble," he said.
He did not name them all, but showed a slide displaying the names of five top U.S. banks: JPMorgan Chase (JPM.N), Bank of America (BAC.N), Goldman Sachs (GS.N), Citigroup (C.N) and Morgan Stanley (MS.N).
Fisher said he had received support from lawmakers on both sides of the aisle for his views, which the Dallas Fed has been pressing for over a year, and had even heard from famed dealmaker Sandy Weill, who said he agreed with Fisher.
Weill, a former chairman of Citigroup, built the Travelers Group insurance company into a financial services giant in a $70 billion merger with Citicorp in 1998.
"I'm still scratching my head," about Weill's approval, Fisher said.
By contrast, the country's 5,500 community banks with assets under $10 billion and the 70-or-so larger regional banks, with assets of $10 billion to $250 billion, pose no such threat, Fisher said, and had been shut by regulators in the past when in trouble.
Arguing that firms deemed too big to fail enjoy a "perverse" subsidy because creditors were prepared to lend them money at a lower rate than smaller, better-regulated and less risky firms, Fisher said the situation had worsened since the crisis.
He acknowledged that big banks - which give generously to U.S. lawmakers of both parties and have well-funded lobby machines in Washington - would likely not reorganize themselves voluntarily, and he envisaged federal action.
"A subsidy once given is nearly impossible to take away," Fisher said. "Thus, it appears we may need a push, using as little government intervention as possible to realign incentives, re-establish a competitive landscape and level the playing field."
(Reporting By Alister Bull; Editing by Leslie Adler and Peter Cooney)