He was kind to keep his commitment to be with us here today. But he will not be able to talk about the Monetary Policy aspect of his position at the fed in todays session. That said, there is lots he cans ill talk about. Very goodwill have a discussion on the topic of too big to fail. Before that, over bit of background on president kashkari. All fed bios are interesting but his is particularly eclectic. Anbegin his career as Aerospace Engineer in california where he developed technology for nasa Space Science missions. After graduate school, he joined Goldman Sachs in San Francisco where he helped Technology Companies raise capital and pursue strategic transactions. To 2009, a very quiet time in terms of the economic and Monetary Policy environment, of course. He served in several senior positions at the u. S. Department of the treasury. 2000 eight, he was confirmed as assistant secretary of the treasury and oversaw the troubled Assets Relief Program or tarp during the financial crisis. Inlowing his tenure washington, he returned to california in 2009 and joined pimco is managing director and a member of the executive office. He left the firm in 2013 to explore returning to public asvice and found that outlet a gubernatorial candidate. Andarned his bachelors masters degree in Mechanical Engineering at the university of illinois. And in nba from the university of pennsylvania. Nabet to extend a warm hkari. E to neil pesch kar nabe foryou to inviting me here today. I want to talk about too big to fail. As it is a joined the minneapolis fed, i asked supervision experts about the problem of too big to fail. I lived as firsthand, the guy that bill that the banks in 2008 and 2009. Have we really addressed too big to fail . Should we do more . We announced an initiative called the ending too big to fail initiative where we created a symposium and invited some of the best experts in the world to come to minneapolis and share their perspectives. We wanted to educate the public while we were learning ourselves. Everything we did was open press, livestream to the web, and if you want to check it out, they are there for you. We wanted to hear all views. Some people came to us and said that we already saw too big to fail. Dodd frank worked. They made their case. Said no, we havent done nearly enough. The government needs to step up and break them up. Other people said we need to put so much capital in them and treat them like a utility. We heard all of this. We came up with their own plan. We released our own draft by the end of last year and we go through comments before we release our final plan. I want to update you on what weve learned and where we are in the analysis. More and more, we heard from experts even though they had their own solutions. The first was the importance of assessing both cost and benefits. What i learned from this process is Financial Stability is a lot like physical security. Big about the risk of terrorism in our country. And every american knows we cannot literally eliminate the risk of terrorism. You can never make it zero. And you intuitively know that increased safely safety comes with costs. We pay for more police officers. More homeland security. We pay for medical detectors. We pay with convenience or inconvenience. Safety isnt free. We have to decide how much safety do we want . And what price are we willing to pay for that safety . That is also true in Financial Stability. Those tradeoffs are critical. Making those calculations requires an assessment of what is the cost of a crisis, and what is the cost of more regulation or more capital to do that . How do you estimate the cost or probability of a crisis . I will show you the data. Published a paper looking at the history of financial crises around the world. We use that data to estimate how likely a crisis is going to happen in the future. That is the cost benefit analysis that im going to walk you through. Walking youwith through the details of the plan. What is the chance of a bailout . Think about the Great Depression. 80 or so years ago. A 100 year time horizon is a reasonable perspective to take. We had the 2008 financial crisis. The next column will be the total cost of regulation. This is the cost of that safety. You end up with a net benefit for society. If you look at the imf database and you look at the capitals of the biggest banks, you could step back and say in 2007, there was an 84 chance that there would be a crisis that requires a bailout in the next century. Set the baseline as a total cost of zero. That is pretty remarkable. If you looked at the Financial System, you couldve said there was an 84 chance of a crisis. It happened the next year. It said that where the capital levels were is a pretty risky situation. This is a result of the dodd frank act. The biggest banks have more capital today. We reduced the chance of a bailout. There is some cost to that. The value of the permanent effect of gdp. It is not a reduction. It is just the value accounting. The net benefit is 12 . Byiety is better off avoiding the crisis or reducing the likelihood of a crisis, spending some upfront in terms of higher capital for the banks. Lets put that in context. This is the typical cost of a banking crisis. That is massive. Think about it intuitively. How costly was the 2008 financial crisis for the u. S. Economy and advanced economies . Massively costly in terms of reduced output, job losses, etc. 158 of gdp is what were trying to avoid. You are willing to spend a fair bit of money if youre willing to avoid one of those out comes. I will walk you through what those steps are. We cut the chance of the future bailout down to 39 . A big reduction in risk. Safety is not free. 24 . There is a net benefit. Society is better off by 19 if you look at the right column. To as low as a 9 chance on a future crisis. There are increase costs associated with that. Multiply this altogether. Society is on a net benefit far better off. I will walk you through what these are. One. It was substantially increased the common Equity Capital of large banks to 23. 5 of gdp. Current regulations are less than 13 . We are being generous but from the point of comparison, we are. Oubling the equity banks,ify the biggest 250 billion and up are no longer too big to fail. The treasury secretary will not want to certify that. If you are she certifies that and the bank gets into trouble and they have the bail it out, there will be a lot of back on secretarys face. If they refuse to certify, we automatically increase the Capital Requirements of the biggest banks. Most big banks choose to restructure themselves. The big concern is that if we increase capital of the biggest banks, all the activity would just move to hedge funds. Here, the large shadow banks, we apply attacks on their debt that equalizes the cost of funding so there is no longer the incentive to run from a capitalized bank. This levels the Playing Field. There is no incentive for the activity to move. If the hedge fund is 100 equity finance, we dont see that as a systemic risk. The debt is the source of instability. Finally, we reduce regulations on Community Banks that are not weset up the important increase capital for the biggest banks. We level the Playing Field and we reduce regulation on Community Banks. This is the probability chart. This would be a function of the Capital Requirements. They allow probabilities on the yaxis. A very high probability of a bailout. This is were we get to in step one. One of our goals was we want to cut it down to a 10 or less chance of the future bailout. And then do the analysis on what the cost to our. Costs are. It are two types of risk. Systemic shock. Think of this as the 2000 a crisis. A massive housing downturn. The biggest banks have taken correlated risks, exposure to real estate. The shock hits the economy. By increasing the capital level to 23. 5 , this will protect against a vast majority of systemic shocks. Think of this like a dike against a flood. It you want to build the dike is paul is as tall as you possibly can. How likely the serious floods are. And then second, if an idiosyncratic shock hits a systemically important to bank, think about the london whale. Was clearly an idiosyncratic shock unique to jpmorgan. Imagine if it had been 10 times as big. Potentially could have destabilized jpmorgan. What do we do in that situation . These very large banks. It is devastating for society. Governments will spend whatever it takes to try to stabilize the reactor if it is running into trouble because of socalled need for society. We have a choice when it comes to nuclear power. We regulate it so tightly that we truly minimize the risk that idiosyncratic failure. It is what were doing in step two of the plan. We tell the biggest banks that you can choose to stay large. Business model can support these levels of capital, youre welcome to stay large. If you cant, you will break yourself up. Love to tell banks you. They love to say that theyve got these great economies of scale. They can afford higher capital. It if they can afford higher capital because they are trading below book value, maybe they dont really have these great economies of scale and society is not benefiting from having them remain so large. The Key Assumptions we made. This was a very important point. Longterm debt is not going to take losses in a crisis. This is a big difference in opinion that i have with the board of governors. In their analysis, they assume something called tlac, total loss absorbing capacity. I call it a fantasy. Debt in a that this crisis will absorb losses. We didnt do it in 2008. Fannie and freddie had issues of subordinated debt in 2001 and they told their investors, you will take losses if we get into trouble. In 2008, i was in the room when we decided to protect fannie and freddies subordinated debt. Why did we do that . Because of contagion risk to other institutions. You see this in italy right now. Italy wants to protect the bondholders. This happens crisis after crisis. The bondholders get protected. Ands time we admitted that force the equity to take losses rather than hoping the bondholders will. Analysis, we assume 50 gets passed along in terms of higher borrowing costs. This is the point of contention. Some say there is no cost to higher equity. Others say 100 of the costs get passed on to the economy. We dont think either of those is correct. Returnlook at banks, the on equity has gone down. They have not been able to pass on all of the cost. The middle of the more reasonable position. We follow the approach i talked about. We assume that most banks will choose to restructure so they are no longer cyst amick rather than facing big capital systemic rather than facing big Capital Requirements. Big government will not tell a bank how to tarp themselves up. If it benefits from huge scale, they can choose to maintain that scale in highly capitalized business lines. Let the banks choose how to respond to Capital Requirements. Shadow bankn the tax equalizes funding across various sectors. What is the feedback . I expect people to poke holes in this. Agreement, the tradeoffs between safety and cost. Some people think we overestimate the cost. Some pound the table and say there is no cost to higher capital. I personally dont buy it. Nobody has said were underestimating the cost of this. Were on the side of being more conservative in terms of cost. Some people say we are underestimating the arbitrage movement overseas. Fair point. Theres not much we can do about that. They are national champions. If they have to bail it out in 20 or 30 years, so be it. What i would suggest is that we implement reforms and regulations that are sensible. We show the world that we can have a robust economy without too big to fail risk and encourage other countries to follow our lead. People have asked us for more detail and Community Bank regulations, which i think is fair. We have both 23. 5 Equity Capital of the biggest banks. A 15 leverage ratio. We think both measurements and of being important. About, we i will talk will have a discussion. Some of the recent discussions in the press have been moving in the wrong direction. Bank ceos have claimed they have too much capital. It is holding back lending. This assertion is demonstrably false. It which is a polite way of saying it is nonsense. Complete nonsense. For homeowners, consumers, businesses are near record lows. That is not happening today. The vast majority of Small Businesses report having their credit needs met. They are very credit challenged borrowers. I dont think making loans willynilly to people that have very poor credit records is necessarily a good idea for the banks. The ceos arguments are nonsense. They are trying to boost stock prices. You can bet what they will do with it. It will buy back the stock and increased dividend. It will not lead to more lending. A month or soed ago about my unexperienced getting a home loan. I was stunned at what an ordeal it was to go through. I thought they were punching me punking me, so to speak. Endless documentation. It was incredibly difficult. It is only fair we demand the big banks put 20 down. [laughter] seriously. Of the way a lot theyre addressing the too big to fail risk if we say ok, banks. You put 20 down on your investments. Most of the too big to fail risk addresses itself. Thank you very much. I look forward to hearing your questions. [applause] would you like me . As i promised, i think we will have plenty to talk about. We will be using cards or scraps of paper. You wont be marked down freezing scrap paper for questions. As moderator, i will start with a couple. The plan that you have outlined that would require new legislation, correct . You described it as a choice. This is a tradeoff that we have to make between what we want to andfor an insurance policy a banking crisis. If you are not maker, and oddsmaker, where would you assess that tradeoff . Neel i have met with representatives of both parties. There is a lot of agreement. People say that we need to address too big to fail and both parties generally say that we need to relax regulations on Community Banks. How that works its way through the legislative ross s and what positions the administration takes, i dont know. It is very hard for me to handicap the specifics of tax reform and what Health Care Reform is going to come out. I just dont know. They make it through their elected representatives. How does that fit into this plan . Is it a standalone aspect or is it necessary for the rest of the plan to have the desired effect . It is somewhat of a standalone. Roughly 1000 savings and loans failed. Risk of economic collapse. They are caught up in the politics of too big to fail. I think what some elected officials worry that if you relax regulations on Community Banks, you might relax them on everybody. I feel it we have to show that you really addressed the risks posed by the biggest banks if you want to make progress on banks. Ty in terms of the framework, where would subsidiaries fit . You mentioned the possibility of taking a share. Wants to comeody to the u. S. To do business, we would make them subject to our regulations. You didnt mention part of that. Is lending. Neel we have not called for a specific repeal of the different regulations put in place. But i will say this. If we increase our Capital Requirements. We dont ask specifics. What restrictions you want to put on a giant bank. It is likely gone too far. They ask all of us to put 20 down on our homes. In case we make a mistake and we run and a hardship. Its to protect the banks. Tangentially related to that, here is a question of whether the government should force all u. S. Banks to be a member of the Federal Reserve. Neel i dont have a strong view on strong banks. Regulated by state agencies. Some are regulated by the fdic. I dont have a strong view. Subject to supervision by the fed. I think that is important. Getting back to one of the points regarding your difference with the board on debt. Being transferred to equity. Capital requirements counties he in fear he, but do regulators define capital and risk accurately. Neel that is why we need risk weighting and a leverage ratio. It captures the fact that people may rate wreak debt as riskfree, as an example. Consider suspenders, but we dont think anyone by itself the subject to it. This is a question that comes up fairly frequently. You may have gotten this one frequently as well. There have been a lot of discussions of protecting against another big financial crisis leads to other risks. And what is the capacity of the dealer to take on risk. Is that something you worry about . It. Just dont buy managers, whether it is blackrock, fidelity, calipers. You need to tell me that theyre just counting on . If they are not there, they are not going to figure out how to trade with each other . Theres a fun price move in the asset class. The bond rate dropped 10 in value. I think these are just banks. We are in the business of making money. Working on behalf of their shareholders. But dont be duped by that. Another argument that banks will make. Well, the big manufacturers in the u. S. Like General Motors or ford, they need us. They do business in 100 countries. Gm, ford, boeing. They manage thousands of suppliers. They cant manage a dozen banking relationships . Not according to the big banks. They really dont stand up. Would that be an alternative . Neel i think thats the way to go. A doesnt solve anything. Them to have skin in the game just like you and me. When you buy a car, buy a house. That skin is there to protect the lender. Either as depositors or taxpayers. Capital should be there. How do you see the play and the fed supervisory role . Including whether you would like to be the next chair. Again, if we have a much higher capital requirement. My old boss, secretary hank paulson. We are due for a finan