JP Morgan CEO warns of Treasury shortage

Kaja Whitehouse | USA TODAY

Government-backed Treasury bonds are in short supply — a problem that will grow markedly worse in the next economic crisis, warned JP Morgan Chase CEO Jamie Dimon.

"In a crisis, everyone rushes into Treasuries to protect themselves," Dimon said in a letter to shareholders issued this week. "This will be even more true in the next crisis. But it seems to us that there is a greatly reduced supply of Treasuries to go around."

Dimon, 59, pointed to a day last October when normally stable Treasury bonds moved 40 basis points, or .04 percentage points, in one fell swoop. Dimon called the move — promoted by fears that the Federal Reserve would slow its program to stimulate lending by buying large banks' assets — "unprecedented."

It was "an event that is supposed to happen only once in every 3 billion years," the outspoken CEO said.

Underlying the warning are the 59-year-old CEO's ever-ready concerns about the impact of regulation on banking. By highlighting last October's dramatic move in Treasuries, Dimon was seeking to underscore the impact stricter capital requirements could have on demand for safe assets, like Treasuries, in the event of a downturn.

"In effect, there may be a shortage of all forms of good collateral," Dimon said.

Indeed, banks will be leading the charge to swallow up Treasuries and other liquid assets in the event of another downturn due to stricter rules defining how much liquid assets banks must hold relative to potential cash outflows.

Banks are required to hold liquid assets against 100% of potential cash outflows in a crisis. Hint of financial tremors, therefore, could lead to a mad dash for cash held at central banks, Treasuries and agency mortgage-backed securities.

Meanwhile, banks will also be forced to turn some deposits away for fear that short-term deposits will increase their capital requirements, Dimon said.

"(Treasury) inventories are lower — not because of one new rule but because of the multiple new rules that affect market-making, including far higher capital and liquidity requirements and the pending implementation of the Volcker Rule," he said. The Volcker Rule is the brainchild of former Fed chairman Paul Volcker, which aims to restrict banks from certain types of speculative investments.

Former Treasury secretary Larry Summers on Thursday told CNBC he agreed that he agreed with Dimon's assessment that liquid assets could be crunched in the event of another downturn, due in part to regulatory requirements that will force banks to seize liquid assets.

"I think there's a danger that in their enthusiasm for keeping each individual institution safe that regulatory authorities will lose sight of keeping markets open and liquid, and I think that is a legitimate concern that is raised," Summers said.

Despite his concerns about the liquidity risks new regulation has created, Dimon said the banking industry is overall "stronger and safer because of all of the new regulations."

"There is no question that, today, the global banking system is safer and stronger — possibly more so than it has ever been. That is not to say that the changes do not create a whole range of challenges, complexities and new risks," he said.

Dimon, who has often clashed with government officials in recent years, also took a shot at the Department of Justice for penalties tied mortgage assets sold by Bear Stearns and Washington Mutual — firms that JP Morgan purchased during the financial crisis.

"In case you were wondering: No, we would not do something like Bear Stearns again," he said of the 2008 purchase, which was initially set at $2 a share. "In fact, I don't think our Board would let me take the call," he said about the deal, which was negotiated with the help of then-Treasury secretary Henry Paulson.