Fed Blocking The Narrow Bank Isn’t Just Bad Policy: It’s Illegal

Fed Blocking The Narrow Bank Isn’t Just Bad Policy: It’s Illegal

A few months ago, we wrote about the Federal Reserve Bank of New York’s decision to deny The Narrow Bank (TNB) USA’s plan to open a new bank based on an old idea. While traditional banks take deposits (read: borrow from ordinary savers) and lend them out to businesses or homeowners, a narrow bank simply takes deposits, gathers interests paid on reserves kept at its regional Fed bank, and returns most of the interest to depositors.

Over at Alt+M, George Selgin makes the important point that TNB’s business model is “exclusively meant to serve non-bank financial institutions, and money market mutual funds (MMMF) especially.” The fact that it’s not for ordinary savers is an important distinction, but his objection that this “take[s] advantage of the Fed’s policy of paying interest on excess reserves” misses the point.

All banks with Fed accounts receive this interest–narrow banks just pass more of that on to depositors than others. Interest payments on reserves are currently 2.2%, compared to the average savings account rate of 0.09%.

Let’s put all of that aside for now and talk about the legality of the Fed’s denial of a master account. Writing for Brookings, Peter Conti-Brown argues that the Fed’s rejection of TNB’s application for a master account was illegal:

In 1980, Congress passed a law that required the Fed to put a price on the essential services that the Fed provides to all financial institutions.

“All Federal Reserve bank services covered by the fee schedule shall be available to nonmember depository institutions and such services shall be priced at the same fee schedule applicable to member banks” [12 USC § 248a]

As one judge wrote in reviewing the Fourth Corner case [on the subject of whether a master account can be given to a bank that works with marijuana-related businesses in Colorado], that language is key: All of these services “shall be available to nonmember depository institutions.” The statute appears to eliminate the Fed’s discretion entirely.

The Fed has other ways of regulating and supervising these kinds of activities, but the 1980 legislation took the central bank out of the business of second guessing the chartering authority’s original assessments about whether a financial institution can open its doors.

Indeed, when the Fed denied TNB’s master account, it cited nonspecific “policy concerns.” As the nation’s largest financial regulator, it’s well within the purview of the Fed to stop banks that are engaging in activity that is outright illegal. But, “[t]he Fed is not a chartering authority and should not contort itself to become one.”

Conti-Brown thinks that TNB should win, and while its business model won’t (directly) benefit ordinary savers, if the Fed’s decision is allowed to stand it could prevent the creation of narrow banks marketed to consumers.

The role of the Fed should be the enforcement of financial regulation, not denying access to financial institutions due to “policy concerns” when it lacks the statutory authority to do so.

For more about the (lack of) rule of law in financial regulation, see Charles Calomiris’s essay on the arbitrary and unpredictable nature of enforcement in our current system.

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By |2018-11-28T12:26:36-08:00November 28th, 2018|Blog, Financial Regulation|