(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)
By John Foley
NEW YORK, April 18 (Reuters Breakingviews) - The problem child of U.S. banking has been sitting on the naughty step for six long years. Wells Fargo was prohibited from getting any bigger for a series of flagrant customer abuses. Either it has learned its lesson by now or it’s time to grant a reprieve.
Back in 2018, then-Federal Reserve Chair Janet Yellen imposed the punishment that, however unusual, fit the unusually heinous crime. To meet sales targets, employees had created millions of unauthorized accounts, and for years the California-based lender allowed foundational weaknesses to fester. Regulators had written letters and doled out private warnings, which a congressional report later found that Wells Fargo “repeatedly ignored.”
The move was largely unprecedented. Citigroup suffered something similar, but only for a year. Few big companies have endured anything of the sort; the closest might be the restriction on Boeing’s production of 737 jets over serious safety issues.
Even the Fed itself envisioned that Wells Fargo would be on its way to having the $2 trillion cap on assets lifted by the end of 2018. Two chief executives later, however, and the mega-bank is stooping under its balance-sheet ceiling. That another U.S. regulator, the Office of the Comptroller of the Currency, recently removed its thumbscrews from Wells Fargo over shoddy past sales practices gives investors some hope the Fed might follow. For now, hope is all it is.
Since 2019, Wells Fargo CEO Charlie Scharf has been picking up pieces left behind by his ousted predecessor, Tim Sloane. The bank last week reported a respectable 10.5% return on equity for the first quarter. As evidence that scarcity makes for economy, Wells Fargo runs an efficient balance sheet. The spread between the interest the bank receives on its loans and what it pays for deposits is 2.8%, compared with 2% at Bank of America .
Even so, the dunce cap has proved costly. Since Wells Fargo got thwacked, its peers have grown dramatically. The bank missed out on $540 billion of deposit growth, analysts at Wolfe Research estimate. In the meantime, JPMorgan , Bank of America, PNC Financial and US Bancorp all have expanded their balance sheets by more than 40% since 2018. Had Wells done the same, at its current 1% return on assets, it would be generating an extra $8 billion of earnings a year. At today’s valuation multiple, according to estimates gathered on LSEG, that would equate to some $90 billion of additional market capitalization.
If the cap were removed, Wells Fargo would have room to grow, selectively. One avenue is trading, an activity heavily dependent on assets and where rivals are leagues ahead. At the end of March, the bank had about $200 billion devoted to the buying and selling of stocks, bonds and other securities, which generated $1.8 billion of revenue. Bank of America’s $630 billion, by contrast, yielded $5.2 billion of income.
Under Scharf, Wells Fargo has moved up the ranks in foreign exchange and other areas, but it struggles to compete in low-risk services such as financing – lending short-term funds against its clients’ investment portfolios. Beefing up these sorts of businesses would in turn turbo-charge Scharf’s push into investment banking. During the first three months of the year, Wells Fargo brought in $627 million of fees from advising on mergers and underwriting the issuance of securities, almost twice as much as a year earlier, but one-third as much as JPMorgan. Some aggressive hiring by Scharf, including senior bankers from UBS-subsumed Credit Suisse, is indicative of his aspirations.
There’s room for growth elsewhere, too. Wells Fargo’s credit-card balances have barely increased from their pre-penalty $40 billion level. JPMorgan’s have risen by one-third over that time, to more than $200 billion, and are one of the highest-yielding, large-volume loan categories. Scharf has basically had to rebuild the whole business, and only recently rolled out a rewards-led product to rival the Chase Sapphire offering from JPMorgan.
It’s not just Wells Fargo that has been affected by Yellen’s edict. JPMorgan and Bank of America are presumably bigger than they otherwise would have been had their main competitor been unfettered. Banks geographically closer to Wells Fargo branches experienced higher growth in uninsured deposits and greater stress during the March 2023 mini-crisis in which such flighty customers ditched many smaller lenders, according to researchers from the University of Georgia and National University of Singapore.
The strangest thing about Wells Fargo’s predicament is the mystery shrouding it. The Fed in 2018 outlined a process involving rehabilitation plans, approvals and reviews, but neither the regulator nor the bank will say where things stand. Scharf recently repeated his earlier assumption that the cap would be lifted no sooner than 2025. He can’t really be more specific: the bank already paid $1 billion to settle a lawsuit over his predecessors’ communications on the matter. The Fed is also bound by confidentiality rules surrounding supervision, but it could in theory change the rules.
Nor is it clear that the cap serves as much of a deterrent. While Wells Fargo’s offenses were particularly egregious, its five biggest peers – JPMorgan, Goldman Sachs , Citigroup, Morgan Stanley and Bank of America – have paid $13 billion of fines between them since 2018, according to the GoodJobsFirst Violation Tracker, in some cases for similar sorts of offenses.
Setting Wells Fargo free clearly isn’t a simple decision. For one thing, it would reflect poorly on regulators if the bank got into more trouble any time soon. Citigroup was only restricted from “significant expansion” for a year, but it lurched from crisis to crisis after the curb ended in 2006. Removing the cap requires a vote by the Fed’s board of governors, but their to-do list is long. And only one of its seven members, Chair Jay Powell, was around when the penalty was first imposed.
The Fed doesn’t want regulation to seem capricious or politicized, but it also wants banks to behave. Its protracted efforts raise troubling questions, though. If it’s not possible to fix a firm’s noxious culture in six years, is it possible at all? And if that’s true for Wells Fargo, a lender that the Basel Committee on Banking Supervision considers one-third as complex as JPMorgan, what hope would there be of rehabilitating other more intricate banks if the need arises?
These quandaries suggest it’s time for the Fed to do one of three things before the disciplinary measure reaches its seventh anniversary: Scrap the cap, explain why it remains, or if the rot really persists, get tougher. If the goal was primarily to punish, Wells Fargo’s forgone market value and the durable edge the cap has handed to its rivals have already done the job.
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(Editing by Jeffrey Goldfarb and Katrina Hamlin)
((For previous columns by the author, Reuters customers can click on john.foley@thomsonreuters.com; Reuters Messaging: john.foley.thomsonreuters.com@reuters.net))
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