Odd Lots Podcast Summary

Episode: Anat Admati on How to Never Bail Out Banks Again
Date: March 4, 2024
Hosts: Tracy Alloway, Joe Weisenthal
Guest: Anat Admati, Professor of Finance & Economics at Stanford Graduate School of Business

Episode Overview

In this episode, Tracy and Joe revisit the unresolved questions surrounding the 2023 US banking turmoil, focusing on bailouts, deposit guarantees, and fundamental weaknesses in the banking system's structure. They are joined by Anat Admati, noted for her incisive research and advocacy on banking reform, to discuss how to design a system where banks would never need to be bailed out again. The episode explores core concepts such as bank capital, leverage, the incentives driving risky behavior, and why past reforms have fallen short.

Key Discussion Points and Insights

1. Why Are Bank Bailouts Still Inevitable?

(01:04 – 03:40)

• The episode opens noting last year's bank failures (e.g., Silicon Valley Bank) and the sweeping deposit guarantees that followed—even for amounts far above FDIC limits.
• Joe highlights the unresolved question: “If all deposits in all US banks are implicitly federally backed, then do we need to rethink the business of banking?”
• Tracy: “We don't talk about the deposit guarantee aspect of that whole thing enough.” (01:40)

2. What “Capital” Really Means for Banks

(03:41 – 06:35)

• Anat Admati pushes back on popular/confused notions of bank capital:

  “That word [capital] is a trigger. Because that word leads to so much confusion... What we're talking about, this hold capital is not something that actually the banks hold. It's something that investors hold." (03:55 — Anat Admati)

• She explains that, unlike common corporations, banks are addicted to and incentivized toward leverage due to a combination of systemic subsidies and regulatory frameworks.
• Admati clarifies: Capital for banks should mean equity funding (not cash reserves), which they desperately avoid.

3. How Incentives and Subsidies Encourage Dangerous Leverage

(06:36 – 11:36)

• The safety net—explicit and implicit guarantees (like bailouts, deposit insurance, central bank facilities)—encourage banks to remain highly leveraged, offloading risk onto taxpayers and governments.
• Admati:

  “How they get away with it is the safety nets, all these bailouts, all the time, implicit and explicit... If you bear less of [risk], somebody else bears more of it.” (08:17)

• Bankers' compensation and narrow focus on Return on Equity exacerbate the problem.

4. The Silicon Valley Bank Episode as a Symptom

(11:36 – 15:07)

• Admati uses SVB to illustrate problems in capital regulation:
  • Banks can appear “well-capitalized” by using misleading accounting and ignoring mark-to-market losses.
  • When SVB tried to raise equity and failed, it was “the ultimate nail in the coffin”—a real sign of insolvency.

  "If you can’t raise equity, then you’re really deep in the water... That was the ultimate nail in the coffin." (13:26 — Anat Admati)

5. Debunking the "Less Lending" Argument

(15:32 – 17:45)

• Common industry pushback is that higher equity requirements would stifle lending, harming the economy.
• Admati challenges this:

  "If the entire charter value... is subsidies, then we have to question the business model." (16:12)

  • Suggests that banks can simply retain earnings and use them for lending, and a model surviving only with subsidies is fatally flawed.

6. The Politics of Banking and Regulation

(17:45 – 22:29)

• Admati describes her personal motivation: falling down a “rabbit hole” upon realizing how banks escape usual corporate discipline due to lobbying and political influence.
• Regulations (like Basel rules) often fail due to loopholes, gaming, and political pushback.
• Memorable moment:

  "The spirit specialness of banks is literally what they get away with. Then the politics of banking, that's what's special." (19:32 — Anat Admati)

7. What Would a “No Bailout” System Look Like?

(22:37 – 25:23)

• Admati’s prescription (expanded in her new book):
  • Raise equity ratios to 20-30% of total assets (not risk-weighted assets, since those can be gamed).
  • Tackle risk-weights, which add fragility by ignoring real risks.
  • If the industry shrinks as a result, that's a feature, not a bug:

    “Maybe the industry is too bloated and too big.” (23:43)

8. Shadow Banking and Equity

(23:46 – 25:23)

• So-called "shadow banks" not protected by federal safety nets actually have much higher equity ratios, contradicting arguments that high equity would destroy lending.
• Even in mortgage lending, non-banks hold twice as much equity as banks.

9. Basel “Endgame” and Regulatory Gridlock

(25:23 – 28:24)

• Admati: Current Basel reform still doesn’t go far enough — tweaks are minor and real capital levels remain unacceptably low.
• Stress tests and liquidity requirements distract from the fundamental funding structure flaws.
• Bemoans the slow, sausage-like process of regulation, heavily influenced by lobbying and flawed arguments.

10. Can There Be a Simple, Safe System?

(28:24 – 37:35)

• Admati recommends simple, bread-and-butter finance: move bank funding into transparent, competitive equity markets, not complex risk schemes.
• Depositors’ apparent “debt” is actually unusual: passive, uninsured, and yet recently proven to be effectively backstopped without limit.

11. Historical Precedents and the Possibility of Change

(35:28 – 37:35)

• Before federal safety nets, banks had up to 50% equity (as partnerships, without limited liability or FDIC insurance). Even US banks had 20-30% equity into the 20th century.
• Admati: “If Silicon Valley bank had 20% equity, it would absorb those losses from interest rate decreases.”

Notable Quotes & Memorable Moments

• Anat Admati on capital confusion:

  “A senator would say it's money on the sideline. Newspaper articles explain it as cash-like asset. And it's not true.” (03:55)

• On leveraging and the safety net:

  “They hate equity. For banks, any bit of it is too much. For society, having more of it is good, not bad.” (06:35)

• On SVB's insolvency:

  “Not raising equity is like the ultimate nail in the coffin. Then you're definitely insolvent.” (13:26)

• On banks’ lobbying machine:

  “The politics of it is really... the bombardment of lobbying was really shocking. Billboards and ads on your podcast. Stop Basel Endgame.” (29:54)

• On bank “specialness”:

  “The spirit specialness of banks is literally what they get away with, then the politics of banking, that's what's special.” (19:32)

• On banks threatening to reduce lending:

  “If their subsidy is so big that God forbid they'll die... we have to question their business model.” (16:11)

Key Timestamps

• 01:04–03:40 — Opening: Why the 2023 bank bailouts matter
• 03:41–06:35 — What does “capital” really mean?
• 09:06–11:36 — Incentives & subsidies driving leverage
• 12:02–15:07 — SVB as a symptom and failure of capital metrics
• 15:33–17:45 — Debunking “less lending” from more equity
• 17:45–22:29 — Admati’s story and politics of banking regulation
• 22:37–23:46 — Her prescription: 20-30% equity for banks
• 23:46–25:23 — Shadow banks prove high-equity lending works
• 25:23–28:24 — Basel endgame: why reforming is so hard
• 28:24–31:57 — The regulatory “sausage-making”
• 35:28–37:35 — What did banks look like before safety nets?

Closing Thoughts from Hosts

(38:14 – 40:05)

• Tracy: It’s insightful to analyze banks as regular businesses—why do they need to be so much more leveraged than other industries?
• Joe: Non-bank lenders and shadow banks show higher levels of equity and are expanding rapidly, putting pressure on the logic behind banks’ resistance to more equity requirements.
• Both agree Admati’s skeptical, data-driven approach exposes the regulatory myths still dominating banking debates.

Further Reading / Listening

• Anat Admati’s book’s new edition: The Banker’s New Clothes: What’s Wrong with Banking and What to Do about It
• Previous Odd Lots episode with Stephen Kelly on bank liquidity facilities

For full transcript and deep dives, see bloomberg.com/oddlots