Yellen credits Wall Street reforms for stronger, more resilient economy

By Colleen M. Svelnis, J.D.

Ten years after the start of the financial crisis, Federal Reserve Board Chair Janet Yellen discussed the financial crisis and reforms put into place, both in the United States and around the world, to improve financial regulation and help prevent any similar occurrence in the future. The speech, “Financial Stability a Decade after the Onset of the Crisis,” was delivered at a symposium sponsored by the Kansas City Fed. Yellen declared that because of “the reforms that strengthened our financial system, and with support from monetary and other policies, credit is available on good terms, and lending has advanced broadly in line with economic activity in recent years, contributing to today’s strong economy.”

According to Yellen, research shows that the reforms put in place “have substantially boosted resilience without unduly limiting credit availability or economic growth.” However, she acknowledged that there is limited research, many reforms have been implemented recently, and the markets continue to adjust.

In Yellen's view, today, 10 years after the start of the financial crisis:

• banks are safer;
• the risk of runs owing to maturity transformation is reduced;
• efforts to enhance the resolvability of systemic firms have promoted market discipline and reduced the problem of too-big-to-fail; and
• a system is in place to more effectively monitor and address risks that arise outside the regulatory perimeter.

Yellen discussed the U.S. and global response to the financial crisis. The United States responded by laying out steps to increase the loss-absorbing capacity of banks, regulations to limit both maturity transformation in short-term funding markets and liquidity mismatches within banks, and new authorities to facilitate the resolution of large financial institutions and to subject systemically important firms to more stringent prudential regulation, stated Yellen. Globally, many foreign governments undertook aggressive measures to support the functioning of credit markets, including large-scale capital injections into banks, expansions of deposit insurance programs, and guarantees of some forms of bank debt, Yellen said.

Yellen cited the following reforms as necessary to increasing the loss-absorbing capacity of global banks.

1. Quantity and quality of capital required relative to risk-weighted assets have been increased substantially.
2. A simple leverage ratio provides a backstop, reflecting the lesson imparted by past crises that risk weights are imperfect and a minimum amount of equity capital should fund a firm’s total assets.
3. Both the risk-weighted and simple leverage requirements are higher for the largest, most systemic firms, which lowers the risk of distress at such firms and encourages them to limit activities that could threaten financial stability.
4. The largest U.S. banks participate in the annual Comprehensive Capital Analysis and Review—the stress tests.

Yellen also discussed regulatory reforms outside the regulated banking sector, such as those affecting the shadow banking sector, along with Congress’s creation of the Financial Stability Oversight Council.

Industry associations respond. The American Bankers Association responded with a statement by Rob Nichols, ABA president and CEO. Nichols stated that the ABA agrees “that the financial system is more resilient today and banks are safer thanks to post-crisis changes made by policymakers and bankers.” However, the statement welcomed the “acknowledgment that not all those rules are working as intended.” Nichols stated, that in order “to accelerate economic growth and make sure Americans get access to the credit they deserve, we urge that those fixes be made sooner rather than later.”

Public Citizen released a statement by Bartlett Naylor, a Financial Policy Advocate in Public Citizen’s Congress Watch Division. Naylor stated that Yellen “understands that human damage from financial sector recklessness caused the most severe financial panic and recession since the Great Depression. New reforms, from greater corporate capital requirements to enhanced supervision through the Financial Stability Oversight Council, contribute to a safer system. We can’t return to the days when Goldman Sachs and JP Morgan’s profit opportunities determine financial policy.”

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