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UBS Agrees to Take Over Credit Suisse | April 2023

Published Date
Author McGraw Hill Higher Education

April 2023 | Volume 14, Issue 9

Read the full article from CBS News.

According to the article, during the 2008 financial crisis, so-called too-big-to-fail banks were deemed too large and too intertwined with the U.S. economy for the government to allow them to collapse despite their role in causing the subprime loan crash.

Yet 15 years later, the forced sale of 166-year-old Credit Suisse — one of 30 banks around the world designated by regulators as "globally significant," as well as the startling failure of regional lender Silicon Valley Bank (SVB) — are rekindling concerns about the risk of financial institutions defined as too big to fail. 

One thing that has changed in the intervening years since the housing bust: The nation's largest banks have only grown larger. JPMorgan Chase now has $2.6 billion in assets, a 16 percent increase from 2008, while Bank of America's assets have jumped 69 percent to $3.1 trillion. At the same time, lawmakers in 2018 weakened the post-crisis regulations enacted in what came to be known as Dodd-Frank, a sweeping law passed in 2010 aimed at ensuring the safety of the U.S. banking systems. 

The "too big to fail" banks "are still incredibly risky, and they are bigger and more concentrated than before," said Mike Konczal, the director of macroeconomic analysis at the Roosevelt Institute, a liberal-leaning think tank.

To be sure, the 2008 financial crisis involved issues including complex financial instruments, such as mortgage-backed securities, credit default swaps and derivatives, along with lax lending standards. Such issues are not playing a part in the recent banking turmoil.

Instead, Switzerland's Credit Suisse was hamstrung by several other problems, including a $5.5 billion loss on its dealings with private investment firm Archegos in 2021 and a spying scandal. When its biggest investor, Saudi National Bank, last week declined to put up more money, investors and depositors headed for the exits, paving the way for UBS' takeover of the bank on Sunday.

According to the Financial Stability Board, the U.S. banks considered "global systemically important banks" are:

  • JPMorgan Chase
  • Bank of America
  • Citi
  • Goldman Sachs
  • Bank of New York Mellon
  • Morgan Stanley
  • State Street
  • Wells Fargo

Investors cast a more skeptical look at Credit Suisse in the aftermath of SVB's March 10 collapse, when U.S. regulators took over the regional bank and declared it insolvent. Unlike the 2008 crisis, SVB's problems stemmed from what Konczal calls "very boring banking, all things considered."

SVB was hit by a double-whammy of higher interest rates, which lowered the value of its U.S. government and mortgage bond holdings, and a faster cash-burn rate by its tech-heavy customers due to the slowing economy. With depositors withdrawing money at a faster clip, SVB had to sell its bonds to shore up its capital but took a $1.8 billion loss on the sale because of the decline in the value of those investments. 

SVB also had a significantly higher share of uninsured depositors than other banks, which meant that much of their assets would not be protected by the FDIC's $250,000 insurance if the bank failed. As a result, spooked depositors rushed to withdraw their funds, creating a classic "run on the bank." 

Experts say the U.S. Congress opened the door to such problems five years ago when it loosened parts of Dodd-Frank, which among other changes forced the nation's biggest banks to adopt safer lending and investing practices. Under that law, banks with more than $50 billion in assets became subject to stringent requirements including a stress test, which examines whether a bank has enough capital to survive when financial conditions sour. 

The 2018 law blunting Dodd-Frank lifted that threshold from $50 billion in assets to $250 billion. That meant SVB, with just over $200 billion in assets, didn't have to undergo a stress test.

"(T)here would have been increased scrutiny" Konczal said, noting the move to weaken the banking laws. 

"It certainly was the case that the U.S. Congress and regulators really did believe that banks in this (midsize) range would have less of a problem and it would be mitigated," he said.

Senator Elizabeth Warren, a Democrat from Massachusetts, introduced a bill on March 14 that would roll back the 2018 law weakening Dodd-Frank. Other lawmakers are proposing an overhaul of FDIC insurance to protect a greater share of deposits. 

Warren noted in a statement that she had warned that rolling back parts of Dodd-Frank would cause banks to "load up on risk to boost their profits and collapse, threatening our entire economy — and that is precisely what happened."

Asked if one of the "too big to fail" banks could falter, Konczal noted the banking problems aren't as bad as in 2008 while adding, "We just don't know." 

"Everyone thought it was fine with when the Fed bailed out Bear Stearns, and five months later Lehman (Brothers) failed," he said.

Meanwhile, part of the issue impacting the banking industry boils down to something that's hard to address through regulation: "contagion," or the potential for depositors' fears about bank safety to migrate to other institutions, causing more bank runs and additional failures. 

"Bank runs are a crisis of confidence," said Gary Cohn, the former top economic adviser in the Trump White House who is now vice chairman of IBM. 

He added, "There are thousands of small and regional banks in the United States — this usually doesn't stop after two (banks)."

Discussion Questions

  1. Explain the concept of “too big to fail.”
    As referenced in the article, the concept of “too big to fail” references the idea that some institutions, such as banks and other financial entities, are so integral to the U.S. (and global) economy that the federal government should take extraordinary measures (more particularly, providing financial assistance) to save such institutions. Critics of “too big to fail” argue that government intervention to save a financially struggling organization is contrary to the notion of capitalism—that a successful business should be allowed to reap the rewards of its success, and that a failed business should be allowed to be “swept away by the invisible hand” of the free enterprise system.
  2. Explain the Dodd-Frank Act.
    As mentioned in the article, the Dodd-Frank Act is a sweeping law that was enacted in 2010 and designed to ensure the safety of the U.S. banking system. It was passed in response to the 2008 financial crisis that led to the “Great Recession.” Among other things, the Dodd-Frank Act forced the nation’s biggest banks to adopt safer lending and investing practices. It subjected banks with more than $50 billion in assets to stringent regulatory requirements including a stress test, which determines whether a bank has enough capital to survive when financial conditions deteriorate.

    In 2018, the U.S. Congress loosened some of the Dodd-Frank regulatory requirements, including increasing the threshold for triggering the application of the stress test from $50 billion to $250 billion. As the article indicates, because of this deregulatory measure, Silicon Valley Bank (SVB) did not have to undergo a stress test with just over $200 billion in assets.
  3. In your reasoned opinion, do you support the concept of (and government actions associated with) “too big to fail?” Why or why not?
    This is an opinion question, so student responses may vary. In terms of “too big to fail,” although your author does not support government (i.e., taxpayer) bailout of financial institutions, your author does support the regulatory provisions of the Dodd-Frank Act (for example, the stress test) that seek to prevent the problem of bank failure proactively, rather than dealing with the aftermath of a failed financial institution.