The Fed's Michael Barr on Real-Time Payments and the Basel Endgame

28:06And so I do think that kind of communication can help the market, can help the economy, can help businesses plan for the future. Of course, we're all taking in information in real time. We do need to be dependent on the data we receive. The data we receive helps us update our forecasts for the future. And we are living in an uncertain time. You know, the pandemic caused significant changes to our economy, and those are still working their way through the system. I think we were going to throw in a couple of macro questions at the end, but just since we're talking about dots. Here we are. So in the last few weeks, we had a non-farm payrolls report that came in a little bit weaker than expected.

28:49Continuing, continuous jobless claims, highest level of the year, close to highest level in two years. A CPI report that came in pretty clearly cooler than expected. As the FOMC member, how is your thinking on the economy right now and the appropriateness of Fed's policy stance where it is right now? Thank you. Look, we take all this data as it comes in, and we're very data dependent, but we're also not dependent on any one single data point. So I said three. Yes. So I think it's useful for us to take that information in. And certainly the information that we've had recently suggests that we're moving into a better balance on the risk between over-tightening and under-tightening.

29:32And I think that's quite encouraging. So we're likely at or near the peak of where we need to be in terms of having a sufficiently restrictive stance of monetary policy that we'll sustainably bring inflation down to 2%. And I think the recent economic readings reinforce my view that that is probably correct. What's your favorite or most compelling indicator right now for the direction of the economy? This is desert island indicators. If you had to pick one, what would you bring with you? So, you know, it's a terrific question that I'm not going to answer. Those are always the best questions, the ones that don't get answered.

30:12You know, because it really goes back to my point earlier, the pandemic really did significantly disrupt our economy. And it disrupted many of the ways that we think about economic relationships in our economy. And so it does require us to really look at a very broad range of indicators as they come in, and not just a single data point as evidence of, you know, now I know that we're in the right place. So we're very, I would say I am, and generally as a committee, we are cautious about overinterpreting any one data point. Not that anyone asked, but mine would be claims. Because I figure if I'm on a desert island, I don't want to wait a whole month for a data point.

30:55I figure once a week. Something to keep me entertained. Going back to the regulation question, you mentioned that in your view, lending costs would be pretty minimal with some of these new capital constraints. But I'm curious, when we talk to regulators in most regulator conversations, it's very much centered around de-risking, constraints, et cetera. But I'm wondering if you ever think about the opposite of building out sort of affirmative capacity for lending at banks. And the specific reason I ask is a few weeks ago, Tracy and I interviewed Jigar Shah, who runs the loan program at the Department of Energy, a lot of lending to clean energy companies and so forth who aren't in a position to borrow money from banks.

31:40And even actually cited Basel rules as a reason that banks were not in a position to do a lot of this lending. And I'm curious whether you worry about that. Essentially, banks no longer building that in-house knowledge of capacities of specific sectors of the economy, of different areas, real estate, energy, etc. And it all sort of ended up getting outsourced to private credit, public-type banks, etc. And how much of that you think ideally should be preserved in-house at the lending desks of banks? We do take all those kinds of issues into account. You know, we're in the phase of our rulemaking where we've issued a proposal.

32:18We're taking comment on that proposal. We really are open to all kinds of input on the proposal. We want to make sure we get it right. If there are areas that we can improve it, we certainly will. You know, one of the areas that you mentioned is with respect to energy. some people have come to us and said, we think that the way you're treating in the proposal tax credits, equity tax credits, doesn't appropriately take into account the way in which repayment occurs under the tax credit, because in a normal equity investment, the return of the investor is from the investment itself. And in these tax credit deals, we should think of those as having the return coming from the tax credit.

32:58The tax credit is a regular source of payment. So you should think about this tax credit differently from other equity investments. And that's the kind of comment that is useful to us. We'll look at that. We'll examine the analysis, the empirics of it. And if that proves out to be true, then we can make an adjustment. I mean, it is true more broadly that your counterparts in Europe, some European central banks, have made accommodations for green energy loans or investments. It sounds like that's something that you would consider, at least from a tax credit perspective, that sort of change? We don't consider the non-risk factors, I would say, related to tax credits.

33:41But if the risk of those tax credits is lower, then that is exactly something that we would consider. Oh, I see. So it would still be industry neutral. Correct. Okay. In terms of other changes that you may or may not be considering, one of the big points of contention with the Basel Endgame proposal has to be the change to operational risk and the way that's calculated. And I've seen some numbers floating out there saying that, you know, I've been watching NFL and I've heard the ads. Your listeners are willing to talk about operational risk? It's surprising, I know. But is that something that is like up for debate or some wriggle room or what sort of conversations are you having right now with the stakeholders about this particular issue.

34:24We also do look at, again, comments on any aspect of the rule. We've heard comments already, and I'm sure I'm going to hear more of them soon, that the operational risk charge is too high for some categories of activity. Again, we're open to comment that is evidence-based, that's analytic, that demonstrates that the risk calibration should be different. We want to get the rule right, and we're open to those kinds of comments.

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36:20Switch to public.com slash market and earn an uncapped 1 % bonus when you transfer your portfolio. That's public.com slash market. Paid for by public investing. All investing involves the risk of loss, including loss of principal. Brokered services for U.S. listed registered securities, options, and bonds in a self-directed account are offered by Public Investing, Inc., member FINRA, and SIPC. Crypto trading provided by XeroHash. Complete disclosures available at public.com slash disclosures. Should we take a couple, throw in a couple audience questions? Yeah, Let's do it. Here's a question. FedNow, could it ever be the backbone for a simple point of sale system?

36:56That's a great question. You know, one of the cool things about setting up a structure like FedNow is that people can innovate in lots of different ways on it. And I do think that that might be one of the ways that people could innovate over time. Do you want to do another one or shall I throw one in? Yeah, throw one in. Oh, OK. I'll throw one in. So in some respects, you know, I hope this is one of the easier or more relaxed conversations that you're having this week because you were talking to lawmakers and politicians. And, you know, that's always a sort of intense discussion, I find. But when one of the questions was, are you aiming for consensus on these new bank rules?

37:39And so I'm not going to ask that question again, but what does consensus actually look like to you? Can I just, why, was there a subtext there? Like, why were they, there were so many questions on this consensus question. Like, what were they really asking about, Tim? So, you know, traditionally, one of the things that is true of the Fed and that I really value about the Fed is that we're very much a collegial body. We spend a lot of time working with each other, talking to each other, working through issues. And to the greatest extent, practicable, we try and get most or all of the board members in favor of any particular thing that we're doing.

38:20So, you know, if I look back over the last year and a half, not quite a year and a half, but we've had about 50 substantive either supervisory matters or rulemakings that I've brought to the board for consideration. And almost all of those have been unanimous decisions. It doesn't mean that they are always unanimous. Sometimes we have dissents, and I respect the dissents. So we have board members, one or two board members on a handful of matters that have dissented from the proposals that I've put forward. And I think it makes us a better institution to have that, first of all, the conversation and to try and teach consensus.

39:00And second, you know, if we can't get there, to have dissenting voices. Tracy already asked a question about capital requirements at large and small banks. But one of the questions, an audience question, on the process and just sort of the pure regulatory burden side, setting aside capital requirements, are there concerns that just the higher costs of compliance in any respect hurt smaller banks and will sort of accelerate industry concentration? So, you know, this rule only applies to the largest 37 banks in the country, banks over$100 billion. So community banks are not affected at all. Smaller banks are not affected at all.

39:40We do care about compliance burdens even for the very largest banks. We want to make sure that they're commensurate with the increased resilience of the banking system that results. But this is not affecting small banks anywhere in the country. Should I do another one? Go for it. Are we, we're alternating? Okay. Well, I feel we've been very bank focused, which maybe in some respects is unfair or makes complete sense given our current venue. But maybe we could talk about non-bank entities for a bit. I have a couple of questions on this. So again, post 2008, when we saw those initial Basel rules come in, a big part of that was making banks safer for obvious reasons.

40:25We saw, to your point, the destruction that the financial system had had on the global economy at that time. And it seemed like a lot of the risk was pushed into non-bank entities, again, for obvious reasons. You know, they're less levered, they're more contained, potentially. You don't want systemically important banks to be taking all these risks because it comes back to bite you, as we saw in 08. But fast forward to 2023, it does feel like the non-bank sector of the economy has grown enormously. And Joe and I had a conversation earlier this week about private credit. I was shocked to find out that the private credit market in the US is now as big as the broadly syndicated market for junk rated bonds.

41:10I mean, that is huge. And even the junk rated bond market has been growing exponentially in recent years, up until 2023 anyway. So how are you looking at those non-bank risks nowadays? That's a great point. Look, we need a strong and resilient banking system that's at the core of our financial system. And we need to pay attention to the non-bank sector, but we can't have a weaker bank system because of concerns about the non-bank sector. We need a strong banking system. And then we also need to pay attention to the non-bank risks. So we do spend a lot of time at the Fed and at our sister agencies looking at and examining risks in the non-bank sector.

41:51You know, I gave a speech yesterday at the Treasury Market Conference. And one of the things that I noted is that hedge funds are significant participants in the Treasury market. That has lots of benefits in terms of liquidity in that market, in terms of matching activity between the cash part of that market and the futures part of that market. in terms of helping asset managers get access to futures that they want. But there are also risks because the activity is being conducted with, in many cases, no margin at all, which means the trades are extremely highly leveraged. Yeah, well, we saw what happened in March 2020.

42:30Exactly. So in March 2020, hedge funds were among the contributors to the disruption in the Treasury market. And so we want to be sure that, first of all, that banks, as they are providing credit to their clients, the hedge funds, are thinking about those risks. And then we also want to make sure that the Treasury market is resilient to those kinds of potential disruptions. So we look very carefully at that. We're looking very carefully at other aspects of the non-bank sector. And all of that, I think, is important for financial stability reasons. On the looking carefully at other aspects of the non-bank financial sector, I mean, obviously, entities, funds can lose money.

43:14But are there other ways in which you could foresee the risks becoming systemic in a meaningful way? Or is the view that, well, yes, risky investors can lose money, but that doesn't necessarily mean systemic risk? Yeah, we aren't really concerned, you know, when investors lose money or when they gain money, that's not really any of our business. It's really about, are there disruptive events that could cause significant harm to the system? You know, one area that I mentioned very briefly that, you know, we're looking at very carefully is the way in which cyber events might cause systemic disruptions.

43:51We had a smaller event over the last couple of weeks that we paid careful attention to working with Treasury and other federal regulators. But we want to make sure that banks and other participants in the market are resilient to cyber attack. And that means both that they have good prevention systems in place and also that they have good systems for recovery in the event that cyber attacks are successful, which given the way the world is, you have to assume that some of those attacks are going to get through. And so we really are quite focused on making sure that that kind of risk is appropriately attended to by regulated entities.

44:31Just going back to Treasury clearing for a second, I mean, this has been a hotly debated topic, the degree to which this actually poses a risk to the market. And I did mention that it definitely became an issue in March of 2020. But there is an argument out there that, you know, do we need to tailor our day-to-day policy for an event that happens, you know, once every like 300 years or something like that? And I think we asked Daryl Duffy this question in Jackson Hole, and he was adamant. He just said, yes, we absolutely do. But I'd be curious to understand how you're sort of balancing, I guess, the immediate trade-offs versus the long-term goal of having a more stable system.

45:16We absolutely have to have a reliable, a stable, a resilient system for trading of treasuries. Treasuries are really at the core of our financial system. They're the way that individuals across the globe price other assets. They're the mechanism for the government to raise funds. They're really at the core of the system. And so we absolutely have to have a reliable, resilient system, a deep system. And so we do need to take the measures necessary to make sure that it stays that way. I think that the kinds of steps that we've taken thus far are useful. For example, one of the steps that the Federal Reserve took is to establish a standing repo facility and a facility for foreign official counterparts, so that if there's pressure in the system, that can be relieved through using repo transactions instead of outright sales that might cause serious dislocations to the economy.

46:18ED HARRISON Tracy mentioned our conversation with Daryl Duffy. And obviously, when we talk about just the sheer amount of debt that's being issued, a lot of people talk about it in terms of macro conditions and the financing costs. But just in terms of infrastructure, is there more in your view that needs to be done, whether on sort of private sector balance sheet side, market structure, central clearing, et cetera, that would make the market more able to absorb, have more capacity for all this issuance? I do think it's a really critical question. We do need a system that can intermediate effectively.

46:54For Treasury securities, there appears to be strong demand for Treasury securities, so it really is a question of making sure that securities can efficiently get to the right buyer. I think that the SEC's move towards central clearing of Treasury securities might be an additional appropriate next step. We're studying lots of other ways. This is, I would say, ongoing work and will be ongoing work. It was just as I mentioned at the Treasury conference yesterday. It's an area that we're paying attention to all the time. So I realize we've hit a lot of different risks in this discussion. So we've done interest rate risk, did operational risk, cyber risk, risks in the Treasury market.

47:39One risk we haven't really talked about, maybe because it isn't in the headlines quite as much anymore, is crypto risk. And, you know, we had a big slide in the crypto market over the past year or so. It doesn't seem like that was a huge deal for the banking system, except maybe, you know, in respect to something like Silvergate. But one aspect of crypto contagion, I guess, or like one little crack that I think hasn't gotten that much attention, even though the guy behind it certainly has, has to do with Sam Bankman-Fried, who has been a guest on this podcast a number of times and is now in a lot of legal trouble for reasons that I think everyone knows.

48:21But he did buy, or FTX appears to have bought a US bank through a Cayman-based company, which seems like a pretty big channel through which crypto could perhaps come into the U.S. banking system. Is that something that you and your supervisory role are looking at or aware of? Or how are you thinking about crypto contagion and the risks posed there more broadly? Well, let me just say that in general, the banking system is not deeply exposed to issues in the crypto space. Most banks have been taking what I would describe as a careful and cautious approach to crypto. But we have been paying attention to these issues very much since I arrived at the board.

49:08We've established a novel activities supervisory program to bring experts from around the Federal Reserve System together to help supervisors deal with issues at banks that are engaging in some crypto-related activity. And that novel activities supervisory program should help us wrap our arms around the issues, should provide greater clarity and guardrails to banks that want to be involved in this space. So we want to enable banks to innovate using these new technologies, but to do that in a way that is safe and sound, that complies with consumer protection laws, that doesn't expose the banking system to threats from illicit finance, terrorist financing, money laundering.

49:57All those issues really need to be completely buttoned down. And this supervisory program will help provide that kind of clarity. MARK BLYTHSKIN Speaking of crypto, while we're on the subject, one of those things that we've sort of learned to appreciate over the time is that systemic risk seems to come from instruments which are presumed not to be risky, but to be safe. And so whether we're talking about the money market funds back in 2008, or just the par value of deposits at a bank in 2023. And so then obviously, when it comes to crypto, that leads you to the stablecoin conversation. So I kind of want to ask two questions.

50:31One is, what further do we need to do to make sure that stablecoins at some point in the future don't become a source of systemic risk? But also in the positive sense, do you feel any optimism at all that stablecoins could be a big privately issued stablecoins could be a meaningful and important part of the global payments landscape going forward? Well, let me just say, first of all, I think that we have to be very careful with stablecoins. Stablecoins are a form of private money. And we've seen throughout really history that private money, if it's not well regulated, can be extremely explosive.

51:08People come to rely on it. In the case of a stablecoin linked to the dollar, stablecoins are really borrowing the trust of the Federal Reserve. And if that's the case, we need strong federal oversight of stablecoins. We need oversight of the issuers and the wallets. We need to make sure that there's strong enforcement, there's strong rules of the road, because they can be quite explosive. And so I do think we have to be really careful in the stablecoin space. I think that innovation is hard to predict. It's hard to say that a particular technology is the one that's going to be the next technology of the future.

51:46I think it's appropriate for us to let that innovation happen. But it's got to happen within really, really clear guardrails. We just have a few minutes left. Shall we take some more questions? Yeah, sure. OK, so this is going back to the FedNow question questioner asked, is the Fed conflicted as a regulator of debit card costs and an operator of FedNow potentially competing with debit costs, card costs? And I also wonder, you know, it sort of dovetails back to this question that I asked earlier about the degree to which real-time payments for various reasons haven't flourished because the lack of real-time payments service.

52:25People make money off of it. People make money on the existing, a lot of money is made on the existing payment system. Yeah, no, I, look, first of all, on the second point, I, you know, we talked about this briefly before. I do think that there are revenues in the banking system, like overdraft fees and insufficient fund fees that some banks have gotten used to. Many banks now are getting out of that business entirely. They've announced that they're not going to do overdrafts anymore. They're not going to charge for them. I think that's positive for our economy and for consumers. Overdraft fees are often really hard for consumers to avoid.

53:01And so if we can get rid of them because banks are deciding that that's not the business they want to be in, I think that's a net positive for households and the like. With respect to the existing payment system, I don't see a conflict between the work that we're doing on debit cards and the work that we're doing on FedNow. Congress has assigned us a very particular role with respect to debit cards. Congress has said that we need to determine that debit card interchange fees are reasonable and proportional in relation to certain specified costs. That's our job. We do the job Congress has assigned us.

53:42We recently issued a proposal to update the rules in that space. And I don't see that influencing or connecting in any way with our work on FedNow. Should I ask a super big picture question? We've been pretty micro. There was a brief moment this summer, sort of post-SVB where it felt like there was a window to suddenly have a sort of existential conversation about the U.S. banking system. There was discussion over what do we actually want this to look like? Do we want a nation of small banks where, you know, everyone knows their banker in it's a wonderful lifestyle? Do we want something that's maybe more similar to Canada where we have like six huge banks that are highly regulated and that sort of thing.

54:29When you're making bank rules, when you're evaluating everything that we've discussed today, do you have a vision of what you want the U.S. banking system to look like? Well, let me just say I very much value the diversity that we have in the United States of different kinds of institutions. We have community banks that are very, very local. We have smaller regional banks. We have large banks that are not the GSIBs. We have very large banks that are super complex and serve different kinds of markets. I think that that diversity in our financial system is actually really healthy. It makes for a stronger, more vibrant economy.

55:08It makes our banking system more resilient to shock. And so I do think that we do take into account, I do think that it's important for us to take into account that diversity of size and type of institution. Can I ask just like a random question that's totally out of order now? I should have asked this during the macro part of the discussion, but when I think about where the Fed is with the policy trajectory, the one area of the economy that I think everyone agrees that the Fed has real influence on is housing and rate policy feeds directly through to mortgage rates and you can slow down. It looks like unambiguously, if there's one thing that rates can do, it's slow down housing activity.

55:49But that cuts both ways, because it reduces demand for new mortgages, but it can also impair supply. And we are in a time in which many people feel like the United States is perhaps millions of units underhoused. How do you think about the supply side aspect of monetary policy and the point at which rate policy ends up constraining supply when in theory more supply is what drives prices down? Yes. So would I give you a technical answer and then maybe a broader answer? So, you know, we really are mostly working on the demand side of the house, if you will, and that, you know, the elasticities of demand are faster and larger than the elasticities of supply.

56:36So what we're really seeing is, you know, overall, our country has not had enough housing supply for a long time. We've been, you know, behind. That was true, you know, before the rate hikes. It was true before the pandemic. It's been true for a while. So we do need just overall in our society to see more housing supply come in in order to catch up. But right now, the major effect, the shortest term effect is really on tamping down aggregate demand so that supply has a chance to catch up. And I think there is evidence that we were talking about before in the data that supply and demand are coming into better balance overall.

57:15Well, Joe, I think we've effectively achieved a random walk through a whole lot of topics. Crossing back and forth a few times. Thank you so much to Michael for being a wonderful guest and playing ball with us on a wide variety of topics. Really appreciate it. Well, it's my pleasure to join you on the show. I've really enjoyed it. Thank you so much. Thank you. That was great. Thank you.

58:05I'm Tracy Allaway. You can follow me at Tracy Allaway. And I'm Joe Weisenthal. You can follow me at The Stalwart. Follow our producers, Carmen Rodriguez at Carmen Armin, Dashiell Bennett at Dashbot, and Kale Brooks at Kale Brooks. And thank you to our producer, Moses Andam. For more OddLots content, go to Bloomberg.com slash OddLots, where we have a blog, transcripts, and a newsletter. And I'm sure there's going to be a lot of conversation about this episode in the OddLots Discord, One of my favorite places to hang out online, discord.gg. And if you enjoy Odd Lots, if you like it when we record these live conversations, then please leave us a positive review on your favorite podcast platform.

58:47Thanks for listening.

59:02Thank you.

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