‘Living Wills’ of 5 Banks Fail to Pass Muster

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A JPMorgan Chase bank branch in Manhattan. Credit Mark Lennihan/Associated Press

Five giant banks — including JPMorgan Chase and Bank of America — failed to fulfill a crucial regulatory requirement that Congress introduced after the 2008 financial crisis to help make large financial institutions less of a threat to the wider economy, federal banking regulators said on Wednesday.

Congress demanded that big banks regularly provide regulators with careful plans, also known as living wills, for how they would enter bankruptcy in an orderly fashion.

But the Federal Reserve and the Federal Deposit Insurance Corporation found that the plans of five banks were “not credible” or “would not facilitate an orderly resolution” under the United States bankruptcy code.

The failure of the banks to file satisfactory plans is likely to add fuel to the debate over whether some banks are “too big to fail,” meaning that their collapse would pose such a threat to the wider economy that taxpayers would have to step in to bail them out.

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The too-big-to-fail issue has been a topic in the presidential race, and proponents of breaking up the banks will most likely seize on the deficient living wills as evidence that the banks are still too big and complicated.

The other banks that submitted plans that did not pass muster with both the Fed and the F.D.I.C. were Wells Fargo, Bank of New York Mellon and State Street.

The five banks have until Oct. 1 to fix their plans.

If, after any such adjustments, the Fed and the F.D.I.C. are still dissatisfied with the living wills, they can impose restrictions on the banks’ activities or make them raise their capital levels, which in practice means using less borrowed money to finance their business. If after two years the regulators think the plans are still deficient, they have the power to require the banks to sell off assets and businesses, with the aim of making them less complex and simpler to unwind in a bankruptcy.

“Obviously we were disappointed,” Marianne Lake, JPMorgan’s chief financial officer, said of the decision on Wednesday. “The most important thing is that we work with our regulators to understand their feedback in more detail.”

The regulators’ announcement came on the same day that JPMorgan announced a decline in both profit and revenue for the first quarter. Other large banks will report their quarterly results this week.

‘Living Wills’ at a Glance

The Fed and the F.D.I.C. found that the plans of five banks were “not credible.”

In a statement, Wells Fargo also said it was disappointed and added, “We understand the importance of these findings and we will address them as we update our plan by the Oct. 1, 2016, deadline identified by the agencies.”

State Street said that the regulators had noted improvements in its resolution plan from previous ones and that it too hoped to address the deficiencies by Oct. 1.

Still, the rejection of the living wills is a blow to the senior managers of the five banks. One of their jobs since the crisis is to maintain good relations with regulators. The banks’ boards of directors may decide to press management on why the living wills fell short, especially after the banks had months to get the plans in order — and were told in 2014 that earlier living wills were lacking.

Other banks fared better.

Citigroup, despite having sprawling global operations, submitted a plan that mostly satisfied both regulators, a significant achievement for the bank.

The F.D.I.C. determined that the plan of Goldman Sachs was not credible, but the Fed did not reach that conclusion. Conversely, the Fed found that Morgan Stanley’s living will was not credible, while the F.D.I.C. did not make that determination.

Graphic: Wall Street Earnings: JPMorgan Is Down

Both Goldman and Morgan Stanley have to address the perceived weaknesses, but because only one of the regulators judged the plans not to be credible, the two firms are not subject to the strict remedial requirements that the five banks that fell short must now follow.

During the financial crisis, the chaos of Lehman Brothers’ bankruptcy helped stoke panic in the global financial system. Congress, in passing the Dodd Frank Act of 2010, wanted to make it possible for banks to fail, but in an orderly way. While that goal would be hard to achieve, given the panic that is always likely to exist when a large bank is collapsing, the living wills seek to make it easier for bank regulators to oversee a bankruptcy.

The regulators on Wednesday gave some details on why banks fell short. JPMorgan, according to the regulators, did not have sufficient models for estimating how it would keep money flowing to its significant operations during a bankruptcy resolution. Bank of America, the regulators said, had a shortcoming in its plan to wind down its portfolio of derivatives, the financial instruments that banks and investors use to make wagers and hedge risks.

“The F.D.I.C. and Federal Reserve are committed to carrying out the statutory mandate that systemically important financial institutions demonstrate a clear path to an orderly failure under bankruptcy at no cost to taxpayers,” the chairman of the F.D.I.C., Martin J. Gruenberg, said in a statement. “Today’s action is a significant step toward achieving that goal.”

The two agencies are still assessing the resolution plans filed by four big foreign banks that do substantial business in the United States: Barclays, Credit Suisse, Deutsche Bank and UBS.

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