Anat Admati profile in the New York Times

Source: New York Times

When she talks, banks shudder. A very nice profile of Anat Admati by Binyamin Applebaum in the New York Times.

The article got most of the big points right. Banks don't "hold" capital, they issue it.

“The industry has benefited from, and sometimes encouraged, public confusion. Banks are often described as “holding” capital, and capital is often described as a cushion or a rainy-day fund. “Every dollar of capital is one less dollar working in the economy,” the Financial Services Roundtable, a trade association representing big banks and financial firms, said in 2011. But capital, like debt, is just a kind of funding. It does the same work as borrowed money. The special value of capital is that companies are under no obligation to repay their shareholders, whereas a company that cannot repay its creditors is out of business."

Look for the usage "banks hold capital" in the vast majority of financial press, including newspapers that should know better, for a sense of how pervasive this fallacy is.

The article mentioned the argument that equity costs more than debt, got right that much of that is due to debt subsidies and the difference between private and social cost:

A 2010 analysis funded by the Clearing House Association, a trade group, concluded that an increase of 10 percentage points in capital requirements would raise interest rates by 0.25 to 0.45 percentage points. 

This, in the view of Ms. Admati, is a small price to pay for fewer crises. She notes that debt is cheaper than equity largely because of government subsidies — not just deposit insurance but also tax deductions for interest payments on other kinds of debt — so more equity would basically transfer costs from taxpayers to banks. Even in the short term, she says, the economic impact may well be positive. A study last year by Benjamin H. Cohen, an economist at the Bank for International Settlements, found that banks with more capital tended to make more loans. 

The article couldn't quite get to the Modigliani-Miller point that the cost of equity declines if banks issue more of it. Still, for newspaper coverage of tough issues, this was really good.

***

I'm a big fan of Anat's courageous crusade for capital. (For example, my review "The banker's new clothes," and "Toward a run free financial system" also arguing for more capital.)  Anat doesn't just sit around and write essays, opeds, and occasional snarky (or "polemical") blog posts. Anat has taken on the hard work of "dogg[ing] from the West Coast to the East Coast to Europe and back again and over again.” She testifies in Congress, she goes to endlessly boring bank regulation conferences, she dukes it out with Vikram Pandit (then Citigroup CEO) on the pages of the FT. When bank apologists write self-serving balderdash, I shrug my shoulders and move on. Anat gets on a plane.

The last sentence:

she said she was glad that policy makers finally seemed to be listening. But, she said, she was frustrated by the lack of progress and not sure about how to press ahead.

To the contrary, this has been one of the most successful campaigns to change ideas in economic policy, in a short time, that I have ever seen. If you want to study how an academic economist can have a major influence on public policy, this is it.  My capsule history (from "Challenges for cost-benefit analysis in financial regulation")

In the Dodd-Frank act, higher capital requirements are a small element in a sea of regulation. But in the subsequent policy discussion, simple and very high capital requirements have come to the fore as probably the best idea that has a realistic chance of success.

As a concrete example, the French et al. (2010) Squam Lake Report written by a team of academic financial economists (including myself) included a short chapter on “reforming capital requirements.” It includes a speculative list of “costs” of capital requirements, including management “discipline” by the threat of a run, and potential “economies of scale.”... 

But this isn’t really the focus of the book’s recommendations to prevent financial crises. Chapters on “systemic regulator,” “new information infrastructure,” “regulation of executive compensation,” “improving resolution options,” two chapters on derivatives and prime brokers, and a clever proposal for “regulatory hybrid securities” really draw the author’s passions.

 In the following years, my own thinking, and I think that of many economists and agencies especially including the Fed, shifted... The larger consensus has shifted away from clever schemes for convertible debt, farsighted benevolent regulators, and any faith in resolution, to capital, just more capital.

Admati and Hellwig (2013) ... argue straightforwardly for more simple equity capital... 

And now, much higher simple capital ratios are the only component of Dodd-Frank that most observers put much faith in. Where 5% was once radical, the idea that 20%, 30% or more capital has very little social cost is now commonplace.

Anat's dogged persistence is a big part of this story.

Interestingly, it is, I think, the simple unimpeachable logic of her position that is carrying the day. Usually policy debates are fought out with complex "studies" with tables of numbers that nobody really understands, and "theory" is disparaged. And plenty of "studies" with big numbers have been written opposing her.

An interesting personal note:

Admati decided to enter the public square because she felt that academics and policy makers weren’t listening. ... She was not sure how to reach a popular audience, so in 2010 she enrolled in a program [http://theopedproject.org] that teaches prominent women to write opinion articles. 

Writing is hard, communicating is hard, and investing in that skill is worthwhile and a worthy example.