Finance, Banking & Monetary Policy

May 22, 2020 8:33AM

FinCEN’s Suspicious Statistics

It’s difficult to outdo the crypto community when it comes to making bold quantitative claims that, stripped out of context, mislead the incautious. But Financial Crimes Enforcement Network (FinCEN) Director Kenneth Blanco recently came close.

In remarks last week to the annual (and, alas, virtual) Consensus conference for crypto professionals and enthusiasts, Blanco declared that, “since 2013, FinCEN has received nearly 70,000 Suspicious Activity Reports (SARs) involving virtual currency exploitation.” That impressive figure was bound to get attention—and it did. The speech is also likely to reinforce the widespread view that cryptocurrency is a hotbed of financial crime. But Blanco omitted to say that, in 2019 alone, financial institutions filed more than 2.3 million SARs regarding all sorts of transactions, and that, according to FinCEN’s own statistics, virtual currency SARs make up just 0.56 percent of all such reports filed since 2014.[1]

Whom to believe—Blanco, or his agency’s numbers? Were FinCEN an obscure or unimportant agency, the answer might not matter very much. But as the U.S. Treasury Department’s illicit finance watchdog, FinCEN is a crucial enforcer of financial regulations—ones which, according to a 2018 survey, community bankers consider the costliest to comply with. Yet, despite FinCEN’s significance, the SAR database (FinCEN’s main resource for law enforcement) is bloated and opaque, and the usefulness of its contents impossible for outsiders to evaluate. Blanco ostensibly believes that crypto is a source of growing mischief. But absent major improvements to FinCEN’s database and reporting, that hunch will remain unverifiable.

To be sure, Blanco’s agency is relatively underresourced despite its leading role in writing and enforcing the Bank Secrecy Act’s many rules. Its 333 employees and $118 million budget look paltry in comparison with another Treasury agency, the Office of the Comptroller of the Currency (3,699 employees and $1.09 billion), and independent financial regulators such as the Consumer Financial Protection Bureau (1,465 and $510 million) and the Securities and Exchange Commission (4,350 and $2.5 billion). Although FinCEN delegates BSA‐​related supervision to the primary regulators of different financial institutions, only it has overall authority for enforcement of the statute.

Perhaps owing to its limited resources, FinCEN has tended to deputize financial institutions to perform the oversight that other regulators undertake directly. For example, BSA regulations require banks and others to collect, verify, and maintain an up‐​to‐​date record of their customers’ personal information, such as their name, address, date of birth, and taxpayer identification number. They must also develop due diligence policies designed to subject risky customers to additional scrutiny. Since May 2018, FinCEN has also required financial firms to collect beneficial ownership information from their corporate accountholders, so that they might include it in their SARs.

Shifting the bulk of the BSA’s burden to the private sector serves to conceal its weight. But the regulations are onerous, whatever view one holds of their impact on financial crime. According to FinCEN’s own conservative estimate, over the next decade financial institutions may spend as much as $1.5 billion just to comply with its May 2018 rule. That figure only reflects direct compliance costs: staff training, longer account opening processes, and so on. The indirect costs of FinCEN’s regulations may, however, be even greater. For instance, their adverse impact on banks’ willingness to take on customers FinCEN might deem risky is substantial. Residents of border states who hold foreign passports, conduct cross‐​border business, and deal in cash are particularly affected. While these residents may fit the BSA’s archetype of a money launderer, most are not criminals. But banks may shun them all because serving them isn’t worth the extra due diligence cost.

Banks’ strong desire to avoid considerable penalties and reputational damage makes them eager to avoid falling foul of BSA regulations. But this precautionary zeal comes at the cost, not only of lost business, but of resources that might be employed much more productively elsewhere. One example of waste is so‐​called “defensive reporting”: among the 2.3 million SARs filed in 2019, more than 11 percent (262,987) bore the tag “Other Other Suspicious Activity,” hinting that the reports were filed only as a precaution.

Such precaution may be warranted in certain cases. Perhaps a few defensive SARs have even helped to bring financial criminals to justice in the past. It’s difficult to know because FinCEN doesn’t make such information publicly available. Still, many experts point out the alarming rate of “false positive” reports, a finding that should concern advocates of greater financial inclusion because SARs are a decisive factor in banks’ decision whether to close customer accounts. And while some of the SARs with imprecise tags like “Other Other” include additional, more specific classifiers, many don’t. Again, one can’t know the exact proportion of each because FinCEN’s public database doesn’t list information on individual reports.

In forums public and private, FinCEN officials often state that criminal financial activity is on the rise, that they need all the information they can get from financial institutions, and that every single report counts. But most of the time, FinCEN’s word is all the supporting evidence outsiders can hope for. That must change. If, as Director Blanco has repeatedly suggested, financial malefactors are warming up to cryptocurrency, FinCEN should be the first to take this trend seriously by listing “virtual currency” (the agency’s preferred term) as a discrete SAR category. FinCEN should also take a leaf out of the CFPB’s book and release regular reports about suspicious activity trends across the financial system, as the Bureau does for consumer finance trends. Despite mounting SARs, FinCEN has published very little in the last 15 years on the growth of new payments instruments. Yet greater provision of information and data may help not only to alert market participants to rising threats, but to clear up the cloud of suspicion that presently hovers over the crypto industry.

If Blanco is serious about demonstrating his agency’s efficiency and value, he must be transparent with policymakers and the public. Any other approach is likely to hobble beneficial financial activity, without deterring those who seek to undermine our security.


[1] The SARs database on FinCEN’s website yields 12,533,814 reports since 2014. Data for 2013 are unavailable.

[Cross‐​posted from Alt​-​M​.org]

May 13, 2020 8:34AM


The government's plan for saving small and medium-sized businesses from liquidation puts them in a bind that brings to mind the one Yossarian had to contend with. The problem, in a nutshell, is this: Chapter 11 bankruptcy may be many firms' best hope for surviving the present crisis. But to take advantage of it, they need credit—the cheaper the better. Firms can get cheap credit through either the Small Business Administration's (SBA's) Paycheck Protection Plan or the Fed's Main Street Lending Programs. But there's a catch: to qualify for these loans, they mustn't file for Chapter 11.

That's Catch-11, and it, too, is some catch.

In this post, I'll quickly explain how Chapter 11 bankruptcy can help firms survive the crisis, and why many firms may need financial assistance to take advantage of it. Next I'll explain why they can't get such assistance from either the SBA or the Fed. Finally, I'll consider some options for getting around Catch-11.

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May 11, 2020 10:36AM

Who Lends to Small Businesses?

This question has gained new urgency as the federal government scrambles to bring emergency funding to millions of small businesses across the country under the Paycheck Protection Program (PPP). The PPP consists of forgivable loans that borrowers may use to cover employee payroll, rent, and utilities for eight weeks. The Small Business Administration (SBA) manages the PPP, but funds are allocated by authorized private lenders.

Although the program ostensibly seeks to assist the smallest concerns in America, which cannot gain access to funding through other Fed and Treasury facilities, it came under strong criticism when it emerged that several rather large firms had benefited from it. Data from the SBA for its first ($342 billion worth) round of PPP loans corroborate these anecdotes: 44 percent of loan volume consisted of loans of over $1 million and went to just four percent of (presumably the largest) applicants.

The apparent inequity prompted public outrage, followed by a string of exculpatory press releases and stern official "clarifications" concerning eligibility for PPP loans. The public shaming seems to have hit a nerve: SBA data for part of round two lending, which will total $310 billion, show that loans under $150,000 accounted for 37 percent of volume, compared to just 17 percent in the first round. The average loan so far in round two is $79,000, against $206,000 for round one loans. Still, loans over $1 million represented 27 percent of total lending, and those loans went to just 0.96 percent of applicants. The big guys continue to get a large slice of the PPP pie.

This disappointing outcome has occurred despite a tweak Congress made to the program, ostensibly for the sake of getting more PPP funds to the smallest of small businesses. Of the $310 billion in round two funding, $60 billion was set aside for small banks, credit unions, and community financial institutions (CFIs).[1] Specifically, $30 billion was earmarked for banks and credit unions with assets between $10 billion and $50 billion, while another $30 billion was reserved for institutions, including CFIs, with assets below $10 billion. Thanks partly to this carve-out, lenders with under $50 billion in assets have collectively accounted for 48 percent of round two loans so far, while $27 billion (15 percent) of all lending has come from lenders under $1 billion, including CFIs.

It's tempting to suppose that small depository institutions are more likely to lend to smaller businesses. Didn't Bailey Building & Loan, the thrift in It's A Wonderful Life, serve the Main Street shops next door? Alas, life doesn't always imitate art: it turns out that the average large-bank loan is a lot smaller than the average small-bank loan. Since a commercial loan's amount is usually indicative of the borrower's size, these data suggest that large banks are actually more likely to cater to the smallest businesses. Specifically, recent FDIC filings show that the average small loan made by a bank with assets in excess of $10 billion was $13,250, against $40,650 for banks with assets between $1 billion and $10 billion, $30,170 for those between $100 million and $1 billion, and $42,095 for banks under $100 million.[2]

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May 1, 2020 8:38AM

Main Street Memories, Yet Again

(I penned this summary version of my writings on the Fed’s Great‐​Depression era attempts at Main Street lending in the hope that a respectable newspaper would publish it. Alas, those newspapers turned it down, as did some more dubious outlets.

As my piece’s content seems as pertinent than ever, and it at least has the virtue of being shorter than the others I’ve written on this topic, rather than consign it to the trash, I offer it here in the hope that some Alt‐​M readers may see merit in it. My previous posts on the topic are here and here.)

The U.S. economy is reeling from what may be its worst crisis ever. Firms are shutting down left and right. To stay open, the survivors—small ones especially—need credit, and plenty of it. Ordinary bankers can’t or won’t help them, so the Fed is riding to the rescue: for the first time ever, it will lend to all sorts of ordinary businesses.

Today’s news? Nope. The date was June, 1934, during the Great Depression. The Fed’s current business lending plan, first announced on March 23rd and now poised to start lending very soon, is actually its second try at business lending. Alas, that first attempt went badly, and a look at what went wrong suggests that history may soon be repeating itself.

Unlike the Fed’s new effort, which rests on its “Section 13(3)” lending authority, its Great Depression effort rested on a now‐​defunct Federal Reserve Act provision known as Section 13(b). That New Deal provision was specifically designed to allow the Fed to keep ordinary businesses afloat, and to keep their workers employed, by giving them medium‐​term loans. FDR, who lobbied for the change, expressed his deep concern “with the situation in our small industries [whose] working capital has been lost or seriously depleted.” The Federal Reserve, led by Marriner Eccles, shared that concern.

Like the Fed’s current plan, its 13(b) program mainly had it channel credit through commercial banks. And like it, it also involved U.S. Treasury “backstopping” to cover any losses from bad loans. At least one difference seems worth noting, however: while the Fed’s new plan allows it to lend many times its Treasury backing, the 1934 plan only allowed it to lend twice its Treasury backstop, and then only because the Fed had another $140 million of its own surplus capital on hand. Even if every dollar of the Fed’s 13(b) loans went south, it couldn’t possibly go broke.

Still the Fed took few chances with its 13(b) loans. “Advisory Committees” set up in each Federal Reserve District went through applications with a fine‐​toothed comb before forwarding them and their recommendations to their respective Fed banks. Those banks for their part proved still tougher: by October 23, 1935, they’d granted only one‐​quarter of 7,140 requests they received. By the end of the depression the Fed’s acceptance rate was still just 30 percent. When the program was wrapped‐​up in 1958, the Fed had used just $27 million of its $140 million Treasury backup.

Despite its cautious approach, the Fed still lost money on many of its depression‐​era business loans. As of 1940, its business loan portfolio yielded a return of minus 3 percent, much of it due to the Fed’s direct business loans: commercial lenders had not, it seems, overlooked many good prospects.

Yet smaller businesses were especially unlikely to benefit from the risks the Fed did take. Instead, when it knowingly took big risks, it did so for larger firms with many employees. Through 1950, the average 13(b) loan was for $175,000, roughly seven times the size of a typical business loan.

By then, however, most businesses had long given up trying to get 13(b) support: in 1939 only 88 firms tried. Many took their requests to the RFC, which offered more generous terms. The rest either managed without government support, or closed.

World War II revived the Fed’s 13(b) lending, even putting it modestly in the black. But afterwards applications again fell to a trickle. Then, in 1951, William McChesney Martin, who was as unenthusiastic about the Fed’s business lending as Eccles had been in favor of it, was appointed Fed Chair. In 1958, with barely any business loans left on its books, the Fed threw in the towel, allowing its 13(b) authority to be repealed by legislation that simultaneously beefed‐​up the lending power of the recently‐​established Small Business Administration.

Posterity has had little good to say about the Fed’s first foray into business lending. According to a 1939 study, even during its first and biggest year, it was “of but little assistance to the small industrial concerns for which it had been ostensibly created.” Throughout the whole of the Great Depression, it made up only a small share of all government‐​sponsored business lending, which itself never exceeded 5 percent of commercial banks’ unsupported business loans. In short, it was but a drop in a drop in a bucket.

Yet it may prove beneficial, if we allow ourselves to learn from it. One lesson at least seems clear: if the Fed’s lending to businesses is to make any difference, it has to be willing to take big risks—and to lose plenty of money.

The challenge is that, so far at least, losing money—even money Congress gives it—hasn’t been the Fed’s thing. Can that leopard change its spots? Is it now prepared to take big risks and lose big bucks? If it isn’t, will its new effort fall as flat as its earlier one did? And if it is, might we come to regret its new spots some day?

Back in 1959, an anonymous St. Louis Fed authority, assessing the Fed’s old program, concluded that “Governmental assistance to small business should probably be administered by an agency created solely for that purpose rather than by the central bank whose major duties are credit control and bank supervision.” Time will tell whether that verdict still holds.

[Cross‐​posted from Alt​-​M​.org]

April 29, 2020 9:35AM

Keeping it Virtual: Easing Barriers to Online Securities Law Compliance in the Wake of COVID-19

Thanks to COVID-19, most of the financial business in the United States that was previously being done on-site is now being conducted virtually: financial markets are open, investment continues, and public companies continue to report.

Normally, virtual business and certain securities law requirements, such as manual signatures, hard-copy filings, and in-person meetings, simply are not compatible. Regulators have temporarily relaxed some of these requirements during the crisis. That helps. But it also raises an obvious question: why not make such relief both broader and permanent?

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April 27, 2020 12:03PM

Return of the Inflation Mongers

Back in May 2009, Paul Krugman published a column titled "The Big Inflation Scare." In it, he complained about the "inflation fear-mongering" going on at the time.

"Suddenly," Krugman wrote, "everyone is talking about inflation. Stern opinion pieces warn that hyperinflation is just around the corner. …But does the big inflation scare make any sense? Basically, no … Deflation, not inflation, is the clear and present danger."

I know that many faithful Alt-M readers aren't exactly big Paul Krugman fans. But let's face it: despite a quadrupling of the size of Fed's balance sheet by 2015, and persistently low interest rates, Krugman was right, and the inflation mongers were wrong. If the Fed has failed to meet its objectives since the last crisis, it's done so not by exceeding, but by consistently falling short of, its chosen inflation target.


You might think that the utter failure of the last round of high-inflation forecasts would make even die-hard inflation mongers think twice about declaring that, because interest rates are back to zero, and the Fed's balance sheet is ballooning again, high inflation must be just around the corner.

No such luck. Even setting aside professional doomsayers who predict hyperinflation as often as clocks strike midnight, pundits are starting once again to treat the Fed's emergency measures as a near guarantee of severe inflation to come.

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April 22, 2020 8:36AM

Unbearable Forbearance? Quantifying Mortgage Servicers’ Emergency Liquidity Requirements

Twelve years after the 2008 financial crisis, America’s housing finance system is once again under strain. The acute decline in economic activity that coronavirus fears and government‐​mandated lockdowns have caused is disrupting cash flows for millions of households and businesses. In just four weeks, 22 million people have filed unemployment claims. Many among the new jobless are homeowners who will be unable to make payments on their loans, at least for a while.

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Some legislative actions have sought to help these hard‐​pressed households. As part of its economic relief provisions, the CARES Act requires servicers of federally‐​backed mortgage loans to grant forbearance of up to 180 days (extensible for another 180) to any eligible mortgage‐​holder who requests it, without additional documentation. Eligible mortgages include those backed by Fannie Mae and Freddie Mac, two government‐​sponsored enterprises (GSEs) currently in the conservatorship of the Federal Housing Finance Agency (FHFA), and by Ginnie Mae, which the federal government guarantees directly. Altogether, such mortgages comprise around 65 percent of outstanding mortgage credit in the United States.

These CARES Act provisions have put mortgage servicers, who collect borrowers’ monthly loan payments and pass them on to mortgage‐​backed securities (MBS) investors, in a bind. They must still comply with their contractual obligations, including having to make advances to some investors even when borrowers go delinquent. Yet the suddenness and extent of coronavirus‐​related economic distress means that many will soon face a delinquency rate far greater than they would normally plan for.

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