Often called “she-bear” for her protectiveness towards staff, Sheila Bair has all the qualities to make her unpopular on Wall Street: born in Independence, Kansas, a city of barely 9,500 inhabitants, she takes pride in buying most of her clothes from reasonably priced department store Macy’s – an indicator of her commonsense approach to finance. This she laid out in two children’s books on saving and, more recently, her account of the financial crisis, Bull by the Horns .
STANDING UP FOR SECURITY
Wall Street condescension does not deter the mother of two, but invigorates her straightforward stance on taxpayer and corporate guarantees. “Whatever guarantee is given has to be explicit, charged for and up front. If these criteria are not met, there is no guarantee, and losses have to be imposed on investors,” Bair tells PROJECT M.
She justifies insurance of bank deposits of up to $250,000, her former agency’s key goal, because insured banks pay a premium and the benefits primarily go to Main Street households who do not have the time or financial acumen to analyze bank balance sheets. It also offers a stable source of funding, which banks should use to make loans to the real economy. “Deposit insurance does not hurt market discipline and the sense of security it provides is a crucial public good.”
As chairperson of the Federal Deposit Insurance Corporation (FDIC), Bair voted to at least consider the failure of Citibank, Citigroup’s insured national bank subsidiary, by placing the institution into FDIC receivership. While this approach added to her title “little guy’s protector in chief,” awarded by Time magazine in, the label did not always help. “The FDIC was often viewed as the little bank regulator for the $250,000 deposit accounts, unable to understand the big systemic institutions,” she says.
Her suggestion on Citibank was met with derision from Hank Paulson and Tim Geithner, then in roles as US secretary of the treasury and president of the New York Federal Reserve Bank, Bair recounts. Both men preferred to spend government money on bailing Citi out.
NO INSURANCE FOR BONDHOLDERS
It is with implicit guarantees that Bair’s laughter, frequently interspersing the interview, dies away and her tone of voice becomes serious. “I am vehemently opposed to bailing out bondholders. When bondholders assume that the money they invest in a big bank enjoys an implicit government guarantee, that is classic ‘too big to fail’ and dangerously skews investment dollars. It is not accounted for in the budget, and taxpayers are not compensated for it.”
Bair points to the example of former mortgage financiers Fannie Mae and Freddie Mac as a worst-case scenario. “Markets operated on the assumption that the government-sponsored enterprises’ debt was implicitly guaranteed by the government. And sure enough, the government was forced to bail their bondholders out.”
The problem at the root of investment guarantees, the current nemesis of asset managers, is the low-interest-rate policy pursued by the Federal Reserve and other central banks, Bair points out. “Savers, especially those close to retirement, need a safe investment, and the government should encourage, not discourage saving. However, due to current central-bank policy, these savers are losing ground if they invest in traditional safe havens.”
Consequently, they are forced to take on higher risk. “This really worries me. While 5.6% yields on junk debt may seem attractive, they are unlikely to compensate investors for the true underlying credit risk. I hope risk-averse investors will stick with safe investments, even if the returns are low, while understanding that longer-term debt is heavily exposed to interest-rate risk.”
SOONER RATHER THAN LATER
Still, low-interest-rate policies have to change. “Central banks should gradually let the markets normalize rates. The longer they keep rates low, the more difficult it will be for them to exit the current monetary policy.” Investors’ risk is that bonds will lose value as interest rates spike. Besides, current rates hurt lending, Bair warns. “Demand from borrowers is low, and on the supply side, current low yields make loans unattractive.”
Such accommodating monetary policy may actually lead to another crisis. “Low interest rates are designed to encourage investors to go out and take risks, which is what they did in the leading up to the meltdown.” Reflecting on the financial crisis, Bair laments a lethal mix of the notion of self-regulating markets as advocated by Robert Rubin and Alan Greenspan on one side, and Wall Street having too great a political influence on the other.
“In the golden era of banking in the early 21st century, the financial services industry became too influential in Congress, with appointed officials, the academic community and, quite frankly, some of the media, too.” Regulators like the FDIC suffered from irrelevance, downsizing and staff’s diminishing morale, and in Bair’s eyes, the preferred solution too often became the bailout.
COULD HAVE, SHOULD HAVE, WOULD HAVE
Bair is convinced things “could have been different” – her proposed title of Bull by the Horns before she gave in to her publisher. “There were many measures the government could have taken. It could have raised bank capital requirements, imposed mortgage lending standards through the Fed and regulated over-the-counter derivatives. During the crisis, we clearly should have worked for more loan modifications.” The measures would have helped to avoid approximately one-third of the 6 million housing foreclosures initiated and, according to Bair.
As a senior adviser with The Pew Charitable Trusts and leader of the Systemic Risk Council, a private-sector, volunteer group, Bair is now happy to spend more time with her family. To be tempted back into government service, “it would have to be a pretty senior job to make sense for me.”
