NEW YORK--(BUSINESS WIRE)--Feedback from the Fed and FDIC on the living wills of the majority of the most complex, largest U.S. banks steps up the pressures on these banks to simplify and reorganize how they operate their businesses, according to Fitch Ratings.
The sweeping nature of the negative feedback signals that the assumptions behind how complex, large banks are resolved, as well as their business models and organizational structures, remain under attack.
Living wills were deemed unsuccessful in the most recent exercise for reasons such as overly complex legal structures, inflexible termination rights in contracts, inadequate continuity plans and ill preparedness to produce timely information. Essentially, the regulators' views mean that the size and opacity of these banks needs to be improved before any orderly wind-down could be achieved.
Fitch believes that living wills are likely being submitted under a presumption that existing business models (and the many factors that make their operations complex) are either not changing or only modestly changing. The Fed notes a "failure to make, or even identify the kinds of changes in firm structure and practices that would be necessary to enhance the prospects for orderly resolution."
Further efforts to change big banks' practices could be costly and erode business opportunities, arguably a credit negative over the short term. However, if successful, size and complexity reductions could be a positive for large banks.
Similar to the Fed's CCAR process, banks will need to make assumptions regarding resolution more reasonable and demonstrate an ability to provide the requisite information needed for resolution. Moreover, it may prompt banks to further simplify their legal entity structure. Another round of living wills will not be submitted until July 2015.
Stepping back, Fitch sees living wills as a tool for protecting the interests of taxpayers from the notion of "too big to fail (TBTF)." The exercise creates a playbook for banks under severe stress but could prove to be difficult to implement under the myriad of conditions that can play out in any crisis.
This regulatory rebuke highlights the difficulties four years after the enactment of Dodd-Frank in solving the problem of TBTF banks. This is not just a U.S. issue, as other countries have also sought ways to limit TBTF. For example, the U.K. has sought to ring-fence risky activities, or separate risky activities from less risky activities, still keeping affiliates under one holding company.
While it is difficult to say if TBTF can be solved, large banks have considerably further ground to cover in providing regulators wider abilities to sidestep taxpayer-funded situations.
Additional information is available on www.fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article, which may include hyperlinks to companies and current ratings, can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.