GAO: 'Too big to fail' advantage is shrinking

The advantage that big banks have over their smaller rivals has diminished since 2008, the Government Accountability Office concluded Thursday in a new report likely to reignite the debate over whether institutions are “too big to fail.”

The GAO report found the new regulations from the Dodd-Frank financial reform law have lowered the risk of banks needing a federal bailout.

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"Our analysis suggests that large bank holding companies had lower funding costs than smaller ones during the financial crisis but provides mixed evidence of such advantages in recent years," said Lawrance L. Evans, GAO's director of financial markets and community investments, at a Senate Banking subcommittee on financial institutions hearing on the report.

But while Evans said the funding advantage enjoyed by the big banks "may have declined or reversed” since the 2008 crash, “it may take another crisis to truly test the effectiveness of financial reform."

Bank-bashing and bank-cheering policymakers had been nervously anticipating the GAO report ever since Wall Street critics and political odd couple Sens. Sherrod Brown (D-Ohio) and David Vitter (R-La.) requested it.

Brown and Vitter are pushing to increase capital requirements — the amount of money financial institutions have to save in case of an economic collapse — to prevent taxpayer bailouts. The senators sided with community bankers, who say the GAO report shows that, even if the risk of “too big to fail” is diminishing, it still exists.

"Unless you think that we can eliminate financial crises forever, the GAO's report is another reminder that we have more work to do to eliminate 'too big to fail' policies — and the advantages and distortions that they create," Brown said at the hearing.

Wall Street groups had a different take.

“The GAO report confirms what we have seen in many recent studies: any cost of funding differential large banks once had has been dramatically reduced if not eliminated," said Rob Nichols, Financial Services Forum president and CEO, in a statement. 

Sen. Pat Toomey (R-Pa.), the top Republican on the subcommittee, dubbed the report "inconclusive." He used it as an opportunity to criticize the 2010 Dodd-Frank law, which he said "codified 'too big to fail.' "

"It attempts to micromanage [big banks] so massively and so completely that failure is theoretically not possible," Toomey said at the hearing.

Brown, Vitter and liberal lawmakers like Sen. Elizabeth Warren (D-Mass.) have argued that six years after the financial recession, big banks enjoy a funding advantage over smaller rivals because the market believes they are more likely to receive a taxpayer bailout — just as they did in 2008.

Brown, chairman of the Senate Banking subcommittee on Financial Institutions and Consumer Protection, hosted a hearing on the report immediately after its release.

Nichols said that any small difference is "consistent with cost of funding differentials seen in larger businesses across all sectors of the economy." Financial institutions argue that's because investors place greater value in "stability, diversification and liquidity," he said.

"[It has] nothing to do with the expectation of a bailout," Nichols said. "There is no political will for bailouts — not amongst banks, regulators, members of Congress or the American people."

Brown and Vitter have become allies in criticizing large financial institutions, causing headaches for Wall Street representatives who want the debate over “too big to fail” laid to rest. 

While Vitter is running for Louisiana governor in 2015, Brown has a likely path to Banking Committee leadership as either chairman or ranking member, depending on the November election results.