U.S. Regulation of Cross-Border Banks: Is It Time to Embrace Balkanization in Global Finance

by Alexander Coley ~ May 20, 2017

This Note analyzes the international controversy surrounding the U.S. effort to regulate cross-border banks in the aftermath of the global financial crisis. It proceeds as a case study of the Federal Reserve’s (“The Fed’s”) “Enhanced Prudential Standards,” implemented in 2014 for the purpose of increasing the resiliency of the largest banks (both domestic and foreign) operating in the United States. The Fed’s rulemaking has ruffled feathers internationally because one of the key provisions imposes a structural “ring-fencing” requirement on foreign banking organizations that does not apply to domestic ones. The rule requires foreign banks of a certain size to create intermediate holding companies in the United States, which are then subject to the Fed’s prudential regulation as independent entities. Banks, central bankers, and national regulators from around the world have criticized the rule for discriminating against non-U.S. actors, deviating from international norms, and putting the global financial system at risk.

Drawing primarily on comment letters submitted to the Fed in response to the rulemaking, this Note identifies a deeply held hostility toward “balkanization” in international finance — i.e., the fragmentation of capital and liquidity along geographical lines, as well as the proliferation of regulatory bodies charged with overseeing those pools of capital and liquidity. The principal contribution of the Note is to shed light on a serious deficiency in this anti-balkanization rhetoric: namely, that arguments against balkanization implicitly support greater consolidation in global finance. However, this conclusion is problematic because it is in tension with the post-crisis effort to end or mitigate the “Too Big to Fail” phenomenon — the situation in which a bank becomes so large that a government bailout is virtually guaranteed during times of stress. In view of this tension, the Note controversially suggests that the Fed should be applauded for resisting the anti-balkanization ideology that took hold in the decades leading up to the financial crisis. Contrary to the “common sense” view of influential banking jurisdictions and standard-setting bodies like the Basel Committee, the Note ultimately suggests that it may be time to embrace balkanization in global finance.

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