Niall Ferguson: No such thing as TBTF in a free market

[Winehole23]

There's no such thing as too big to fail in a free market (http://www.telegraph.co.uk/finance/financetopics/financialcrisis/6263315/Theres-no-such-thing-as-too-big-to-fail-in-a-free-market.html)

The collapse of a financial institution is not necessarily a disaster. If free markets are to thrive, we must not allow giant, state-supported banks to believe that they are indestructible, Niall Ferguson warn



Grand illusions: there is a presumption that some big banks under threat of liquidity or solvency problems can turn to government for help


For conservatives, the financial crisis that began in the summer of 2007 has posed a major problem. We had grown rather accustomed to singing the praises of free financial markets. The crisis threatens to discredit them.
But this crisis was not the result of deregulation and market failure. In reality, it was born of a highly distorted financial market, in which excessive concentration, excessive leverage, spurious theories of risk management and, above all, moral hazard in the form of implicit state guarantees, combined to create huge ticking time-bombs on both sides of the Atlantic. The greatest danger we currently face is that the emergency measures adopted to remedy the crisis have made matters even worse.


It has often been said since the crisis began that an institution that is "too big to fail" (TBTF) is too big to exist. I agree. The question is how we can best get rid of the TBTFs without increasing the power of government in the economy still further. This should be among the first priorities of an incoming Conservative Chancellor of the Exchequer.


The past two decades witnessed an unprecedented concentration in the financial services sector. Between 1990 and 2008, the share of financial assets held by the 10 largest US financial institutions rose from 10 per cent to 50 per cent, even as the number of banks fell from over 15,000 to about 8,000.


By the end of 2007, 15 megabanks, with combined shareholder equity of $857 billion, had total assets of $13.6 trillion and off-balance-sheet commitments of $5.8 trillion – an aggregate leverage ratio of 23 to 1. They also had underwritten derivatives with a gross notional value of $216 trillion – more than a third of the total.


This was far from being a purely American phenomenon. By 2003 the five largest banking groups in the UK accounted for 71 per cent of deposits and 75 per cent of loans.


Yet concentration in banking has not gone so far as to eliminate competition. On the contrary, banking remains a highly competitive business. Indeed, it was precisely this competition that encouraged bank executives aggressively to pursue economies of scale, to increase leverage and to take on increasingly risky positions. To some extent, the excessive risks taken in the period leading up to 2007 can be blamed on defective mathematical models. However, another explanation is that big financial institutions had reason to believe that they enjoy a privileged and in some measure protected position.


Economists have long held that bank failures pose a "systemic" economic risk, because failed banks are associated with monetary contractions for the economy as a whole. There is therefore a presumption that, if big banks are threatened with liquidity or solvency problems, they should be bailed out by the action of the central bank or government. Despite much pious talk of "moral hazard" prior to 2007, little was done to disabuse big financial institutions of this notion. They could and did assume that they enjoyed an implicit government guarantee.


With the exception of Lehman Brothers, they were right. Beginning with the British Government's takeover of Northern Rock in 2007 and culminating in the US Government's vast injections of capital into AIG, Citigroup and other institutions, the Western world has witnessed a succession of government interventions in the banking system unprecedented other than in time of war. These measures can be justified on the ground that without them there would have been a banking crisis comparable with that of 1931, which did as much as the 1929 stock market crash to plunge the world into a Great Depression.


But there is a danger that justified emergency measures give rise to unjustifiable permanent conditions.


What happened last year provided a belated vindication for one of the central tenets of Marxism-Leninism: that increasing concentration of financial capital would lead ultimately to crisis, followed by the socialisation of the banking system. This was the basis for the concept of "state monopoly capitalism".


The crisis brought "stamokap" several steps closer in two ways. First, it wiped out three of the biggest US banks – Bear, Merrill, and Lehman – while at the same time condemning more than 140 (and still counting) smaller regional and local banks to oblivion. Second, because the failure of Lehman was so economically disastrous, it established what had previously only been suspected – that the survivors were Too Big To Fail.


This is moral hazard run mad – a system in which a few giant banks get to operate as hedge funds with a government guarantee that if they blow up, their losses will be socialised.


Few of the regulatory reforms proposed so far do enough to solve the central problem of the TBTFs. Consider what US Treasury Secretary Geithner proposed in his Congressional testimony of September 23:
There will be a new National Bank Supervisor. However, responsibility for regulating the TBTFs will lie elsewhere, by implication with the Federal Reserve or the Treasury.


The administration intends to "tighten constraints on leverage… by requiring that all financial firms hold higher capital and liquidity buffers". But TBTFs will be asked to do more, in at least two respects. First, they will be asked to prepare "living wills" – plans for how they should be "dismantled in case of failure". Second, they will also be subject to "very strong government oversight".


Are these measures sufficient? Britain's Labour Government apparently thinks they go too far. Speaking in the House of Commons on July 8, the Chancellor of the Exchequer declared that he feared "the consequences of telling a large bank that it is too big. In response to that, the bank might say, 'We're too big, so we'll go somewhere else.' "


Although prepared to countenance tighter regulation for big financial institutions, the Government made it clear in its White Paper of the same date that it was "not persuaded that artificial limits should be placed on firms to restrict their size or complexity".


By contrast, some continental European governments, notably the French and the German, would like to go further than the Geithner proposals. In particular, the egalitarian-minded continentals are itching to impose some kind of international cap on bankers' compensation. Another idea, floated by the head of the UK Financial Services Authority, Lord Turner, is to levy a tax on all financial transactions.


Then there are those traditionalists who would like to see a return to the separation of commercial banking and investment banking along the lines of the old Glass-Steagall Act. A case could also be made for tightening anti-trust rules for the financial services sector; this is roughly the position of the EU Commissioner Neelie Kroes. Finally, a few economists on both sides of the Atlantic have begun arguing for "narrow" or "limited purpose" banking, which would limit the ability of deposit-taking institutions to engage in risky business.


There is, however, a danger that the essential goal – the euthanasia of the TBTFs – will vanish from sight as the number of proposals increases. So let us dismiss the various red herrings. The headline-grabbing compensation issue, it should be noted, is the reddest of the lot. Million-dollar bonuses are a symptom, not a cause, of the deeper malaise. Almost as red a herring is the Turner tax. Raising transaction costs in the financial sector would help rather than hinder the TBTFs. It would be the biggest firms, exploiting economies of scale, that could most easily cope with such a change.
Also a herring, though more pink in hue, is Secretary Geithner's pledge to regulate the TBTFs more tightly. It is impossible to be impressed by such pledges when it was the most regulated institutions in the financial system that were among the most disaster-prone. The old Latin question is apposite here: quis custodiet ipsos custodes? Who regulates the regulators?


The most appealing fish on offer – but still a herring – is the idea of "narrow" banking. The problem with this is that it would turn the clock back not to the 1930s but to the 1650s – to the period before fractional reserve banking began to spread through the Western world. I remain unpersuaded that we need to jettison so much of what financial evolution has achieved over three and a half centuries, especially since two of the most systemically dangerous firms in the crisis were not deposit-taking institutions.


There is, in fact, one simple insight, buried in Secretary Geithner's testimony, upon which we need to build. As he clearly understands, the real aim of government should be to give the TBTFs "positive incentives … to shrink and to reduce their leverage, complexity, and interconnectedness".
The best way of creating such incentives is to reiterate, preferably once a week, one key point: in case of failure, "the largest, most interconnected firms" should in future be wound up "in a way that protects taxpayers and the broader economy while ensuring that losses are borne by creditors and other stakeholders".


That was the principle that was thrown overboard in the crisis, when it was decided to prevent the holders of bank bonds (apart from those of Lehman Brothers) from losing their money. Removing that protection will necessarily raise the cost of credit for the TBTFs, reduce their profitability and encourage them to split themselves up.


During the crisis it was often said that officials at the Federal Reserve and Treasury would do "whatever it takes" to avoid a Great Depression. Now they must do whatever it takes to address one of the key causes of the financial crisis: the existence of financial institutions that consider themselves too big to fail – but which are run in such a way that they are bound to do so.

[MannyIsGod]

The best way of creating such incentives is to reiterate, preferably once a week, one key point: in case of failure, "the largest, most interconnected firms" should in future be wound up "in a way that protects taxpayers and the broader economy while ensuring that losses are borne by creditors and other stakeholders".

Not a terrible article, but the segment above is what gets me. HOW?

[Winehole23]

Like the FDIC does with banks, or did when it created the RTC.

coyotes_geek has suggested anti-trust action and bankruptcy courts as possibilities.

[EVAY]

I assume that this is your answer to a question posed in another thread, i.e., how would you accomplish the dismantling of the TBTFs.

I happened to be on the Board of Directors of a Bank before the regulatory mechanism allowed deposit banks to also provide investment banking services along with checking and savings and deposits (this was in the early 90's). I remember all of us being very unhappy that the bank was limited in its functions, and very thrilled when the law changed. Then every bank in American started gobbling up all the smaller banks, and we all cheered wildly because A) as stockholders in a smaller regional bank we were poised to make out like bandits in the merger mania that ensued, and B) it was closer to 'unfettered' capitalism that we all believed would be the salvation of mankind.

The point here, I believe, is that this stuff is cyclical, and there is no silver bullet of regulation or deregulation that can guarantee that what happened will not happen again. Eventually.

[boutons_deux]

"can guarantee that what happened will not happen again"

Glass-Steagal, etc, kept the financial system stable and boring since the 1930s, all through the fantastic growth in real wealth after WWII up to Viet Nam.

It's only when the Repugs/conservatives starting deregulation in the early 1980s, that financial system became unboring, and risky. Boom! the S&L disaster.

Because the financial system and corps OWN Congress, both parties, serious, save-our-asses re-regulation simply won't happen.

There is already a bubble coming with Wall St buying up life insurance policies and bundling them off into ownership by capitalists to cash them in.

[Wild Cobra]

I disagree with some of the article, but completely agree with the opening paragraph.

[angrydude]

"can guarantee that what happened will not happen again"

Glass-Steagal, etc, kept the financial system stable and boring since the 1930s, all through the fantastic growth in real wealth after WWII up to Viet Nam.

It's only when the Repugs/conservatives starting deregulation in the early 1980s, that financial system became unboring, and risky. Boom! the S&L disaster.

Because the financial system and corps OWN Congress, both parties, serious, save-our-asses re-regulation simply won't happen.

There is already a bubble coming with Wall St buying up life insurance policies and bundling them off into ownership by capitalists to cash them in.

way to jump over the 70's.

Problem is, this is just a natural result of the banking system we have.

[SouthernFried]

Be nice if people would take this one step further...and let govt fail and go into reorganization...financially. If it thinks it's too big to fail financially, nothing stops it from doing what it's been doing...just spend more.

Next time they ask you for more money...just say no.

[Winehole23]

The point here, I believe, is that this stuff is cyclical, and there is no silver bullet of regulation or deregulation that can guarantee that what happened will not happen again. Eventually.Guarantee? No.

In your mind what could be done to mitigate/manage the risks of banking?

Surely we can manage the system better than we do now.

[Winehole23]

If we can't, we're screwed.

[EVAY]

If we can't, we're screwed.

I think we may be screwed.

[Winehole23]

Supposing there is a slight chance we are not completely screwed yet, what would be prudent to do?

[EVAY]

I don't mean to be flip. I honestly don't know how to fix any of this crap that is going on now.

The regulatory framework that Boutons referred to was, in fact, what kept the banking industry boring, and kept Republican politicians claiming that the market would 'regulate itself' if the regulators would just get out of the way.
Well, sometimes regulation is worthwhile. I think the financial system is one area where regulation would be good. Having said that, though, there is no way that the regulations necessary to do the job would be considered anything other than 'socialism'. I don't think Obama is anywhere near being ready to take on that fight.

Look at what is happening today. The market is overheated right now, in much the same it was absurdly tanked last fall and winter. It was WAY oversold last fall and winter, based mostly on psychology, and it has moved up too fast (maybe not too far, given leading economic indicators, but certainly too fast). There will always be arbitrage opportunities in the financial markets, and there will always be arbitrage opportunities in regulatory frameworks. Bankers will figure a way around things, or they will buy the politicians necessary to change the regulations.

The folks who control the markets today are the attitude-movers (not unlike the media) who write up stuff (true or not) about this or that company and then short the stock (watching the shmucks like us try to get out of it before it completely tanks) or the market itself (as happened last fall), make a mint, then exit laughing.

Look at how little coverage this sort of real debate gets in either the left-wing or the right-wing media. This is stuff of policy, and politicians don't get elected on things like this. They get elected based on what people are most afraid of at that moment in time (like too long a war or too many taxes or too much government incompetence, or whatever). So I don't have high hopes.
Sorry.

[mogrovejo]

Guarantee? No.

In your mind what could be done to mitigate/manage the risks of banking?

Surely we can manage the system better than we do now.

Why not left the bankers and their shareholders to worry about that? It's their money, they're the ones with the biggest incentives to minimize risks. Why do "we" need to manage a system?

Otherwise, the only "prudent approach" is to get rid of the fiat money, by changing the tender laws.

[EVAY]

Having said all of that, I generally believe that Ferguson is right.

I think that the leverage requirements are the most important piece, ( I mean a balance sheet is a balance sheet, you know...banks shouldn't be held to a lower standard than Joe's plumbing company) but the guy who said that if we require that, they will just say 'we will take our business elsewhere' has clearly been in contact with American bankers. Because they WILL go overseas, wherever the regulations are more tolerable ( the regulatory arbitrage thing), and then whatever political party was responsible for the regulation will be blamed for losing all of that capital, and on and on and on.

[Winehole23]

Well, sometimes regulation is worthwhile. I think the financial system is one area where regulation would be good. Having said that, though, there is no way that the regulations necessary to do the job would be considered anything other than 'socialism'. I don't think Obama is anywhere near being ready to take on that fight.
We'll see. It's needful. The status quo ante wasn't perfect, it made banking boring, but it was a pretty good system for about 60 years.


The folks who control the markets today are the attitude-movers (not unlike the media) who write up stuff (true or not) about this or that company and then short the stock (watching the shmucks like us try to get out of it before it completely tanks) or the market itself (as happened last fall), make a mint, then exit laughing.
Buy on the rumor, sell on the news.


Look at how little coverage this sort of real debate gets in either the left-wing or the right-wing media. This is stuff of policy, and politicians don't get elected on things like this. They get elected based on what people are most afraid of at that moment in time (like too long a war or too many taxes or too much government incompetence, or whatever). So I don't have high hopes.Look on the bright side: there could be a stumble -- or something worse -- on the way to recovery that will get everyone focused on the problem again. But I agree that if the problem isn't immediately in front of people, attention goes away.

The door for business reform already appears to be closing. IMO Obama should have tackled this before health care.

[EVAY]

The door for business reform already appears to be closing. IMO Obama should have tackled this before health care.

Now that is something I definitely agree with. I think that he didn't because Geithner, Summers, etc. are as committed to free markets as anyone else. I honestly think they believe that if they wait long enough, the ship will 'right' itself.

[Winehole23]

Why not left the bankers and their shareholders to worry about that? It's their money, they're the ones with the biggest incentives to minimize risks. Why do "we" need to manage a system? Because we just hocked our future productivity to pull their bacon out of the fire and we can't afford to do it again.

The government backstop is still in place. It needs to be removed.


Otherwise, the only "prudent approach" is to get rid of the fiat money, by changing the tender laws. I agree, but monetary reform is even more of a long shot than business reform. Maybe another financial panic -- or a series of them -- will make this solution credible again. for now, it's beyond the political pale.

But at least people are starting to talk about it. That's something.

[Winehole23]

Also, HB 1207 now has 290 co-sponsors and S 604 has 30. Another, possibly encouraging sign.

[mogrovejo]

Because we just hocked our future productivity to pull their bacon out of the fire and we can't afford to do it again.

The government backstop is still in place. It needs to be removed.

I agree, but monetary reform is even more of a long shot than business reform. Maybe another financial panic -- or a series of them -- will make this solution credible again. for now, it's beyond the political pale.

But at least people are starting to talk about it. That's something.

Just remove it and stick to it. The reason why TBTF exist in the first place is because there's an implicit understanding that the government sees them as TBTF. As Fergunson says, remove that incentive and TBTF will cease to exist.

I agree about the lack of feasibility in the near future for monetary reform. I don't think any other kind of regulation will make much of a difference though.

[LnGrrrR]

Why not left the bankers and their shareholders to worry about that? It's their money, they're the ones with the biggest incentives to minimize risks. Why do "we" need to manage a system?

I would think the obvious answer is because they f'd it up to such a giant degree that we were forced to do one of two things:

1) Get the American taxpayer to pay off the bail

2) Let the economy contract and go through a series of layoffs, company closures and destruction of wealth

[LnGrrrR]

Additionally, there can be a real information asymetry for shareholders. Bankers can (fraudulently) cook the books, claim nothing is wrong, and skate out, leaving the shareholders with the bill.

[coyotes_geek]

Glass-Steagal, etc, kept the financial system stable and boring since the 1930s, all through the fantastic growth in real wealth after WWII up to Viet Nam.

The Gramm-Leach-Bliley act undid Glass-Steagal. Senate dems voted 38-7 in favor. House dems supported it 155-51. A democratic president signed it.

Even Garn-St. Germain which deregulated the S&L's back in 1982 made it through a house of representatives where democrats had a 50+ seat advantage over the republicans.

Deregulation happened because both parties wanted it. Of course that fact conveniently gets ignored by the blue team puppets who are trying to use revisionist history to put all the blame on republicans.

[MannyIsGod]

Just remove it and stick to it. The reason why TBTF exist in the first place is because there's an implicit understanding that the government sees them as TBTF. As Fergunson says, remove that incentive and TBTF will cease to exist.

I agree about the lack of feasibility in the near future for monetary reform. I don't think any other kind of regulation will make much of a difference though.

This makes it seem as though the only reason corporations are that large is because they want the protection of government bailouts and that simply ins't the case. There are plenty of reasons for corporations to want to become that large even with the risk of failure.

Removing it sounds fabulous in theory, but the fact is that corporations would still become quite large and would still endanger our economy. Its also easy to say that we should all ignore the shareholders and let them take the loss but the fact is the ramifications of actions of that nature extend much further than simply to those who own the stock.

[Wild Cobra]

Additionally, there can be a real information asymetry for shareholders. Bankers can (fraudulently) cook the books, claim nothing is wrong, and skate out, leaving the shareholders with the bill.
That can happens with any corporation.

Remember ENRON?

[Wild Cobra]

Also, HB 1207 now has 290 co-sponsors and S 604 has 30. Another, possibly encouraging sign.
297 cosponsors.

[LnGrrrR]

That can happens with any corporation.

Remember ENRON?

Yes, I'm well aware. However, the consequences are much greater (obviously) the bigger the corporation. Hence the need to split up these TBTF companies.

[SouthernFried]

Thread is kind of funny....

The US govt is in worse shape that all of the TBTF's combined.

The US govt gave these TBTF's money for one reason...they wanted to control them. It is people like OBAMA's dreamscape.

The worst offender, is guarding the lesser offenders.

Would be funny...if people actually saw it for what it is.

[LnGrrrR]

The US govt gave these TBTF's money for one reason...they wanted to control them. It is people like OBAMA's dreamscape.


I'm sure the collapse of the banking system, and America's economy as we know it with it, had nothing to do with it.

You've got it mixed up SouthernFried. The banks own Congress, not the other way around.

[Wild Cobra]

Yes, I'm well aware. However, the consequences are much greater (obviously) the bigger the corporation. Hence the need to split up these TBTF companies.
How is it worse for bigger corporation?

Yes, it affects more stock holders.

Yes, it affects more jobs.

They need to fail to keep them from repeating.

However, if we let them fail, we don't have the domino effect of having to do the same for more. CEO's try their best to make a company recover instead of being the one who failed. It's not a failure for the CEO when he get's billions to keep the copmpany alive, and still be able to pay executives big bonuses.

What do you want? Corporations that are too big, getting bigger and never in fear af failure? Big enough to actually control this nation like OCP in Robocop because the can buy every politician?

OK....

An Omni Comsumer Products (look-alike) and a Delta City (look-alike) are in our future thanks to people like you.

http://i181.photobucket.com/albums/x262/Wild_Cobra/Politics/OCP-1.jpg

[Wild Cobra]

The banks own Congress, not the other way around.
And if congress ever wanted to get out of their control, this was the time to do it.

Let them fail!

[LnGrrrR]

And if congress ever wanted to get out of their control, this was the time to do it.

Let them fail!

Who would pay for all those junkets then WC? :lol

[nuclearfm]

An Omni Comsumer Products (look-alike) and a Delta City (look-alike) are in our future thanks to people like you.

http://i181.photobucket.com/albums/x262/Wild_Cobra/Politics/OCP-1.jpg


:lmao
http://blogs.amctv.com/scifi-scanner/robocop2.jpg

[nuclearfm]

And if congress ever wanted to get out of their control, this was the time to do it.

Let them fail!

This is actually one of the few things I agree with on WC. If they fail, people will adapt. The important thing is that individuals regain power.

[LnGrrrR]

How is it worse for bigger corporation?

Yes, it affects more stock holders.

Yes, it affects more jobs.

They need to fail to keep them from repeating.

However, if we let them fail, we don't have the domino effect of having to do the same for more. CEO's try their best to make a company recover instead of being the one who failed. It's not a failure for the CEO when he get's billions to keep the copmpany alive, and still be able to pay executives big bonuses.

What do you want? Corporations that are too big, getting bigger and never in fear af failure? Big enough to actually control this nation like OCP in Robocop because the can buy every politician?

OK....

An Omni Comsumer Products (look-alike) and a Delta City (look-alike) are in our future thanks to people like you.

http://i181.photobucket.com/albums/x262/Wild_Cobra/Politics/OCP-1.jpg

You misread me. I'm in agreement that we should only have big corporations if those corporations are able to fail without wrecking our entire economy. If those corporations get to such a ridiculously large size, then they should probably be split up into sister corporations. (To be honest, I don't have a good answer for this.)

I understand the pragmatic reasons for the bailout, but as Winehole has pointed out, the moral hazard in letting banks perform badly without consequences is heinous.

[Wild Cobra]

You misread me. I'm in agreement that we should only have big corporations if those corporations are able to fail without wrecking our entire economy. If those corporations get to such a ridiculously large size, then they should probably be split up into sister corporations. (To be honest, I don't have a good answer for this.)

I understand the pragmatic reasons for the bailout, but as Winehole has pointed out, the moral hazard in letting banks perform badly without consequences is heinous.
OK, my mistake.

In general, we agree on this topic.

[Winehole23]

I’m sympathetic to the view that financial regulation ought to strive not to prevent failures but to ensure that failures are frequent and tolerable. Rather than make that case, I’ll refer you to the oeuvre of the remarkable Ashwin Parameswaran, or macroresilience (http://www.macroresilience.com/). Really, take a day and read every post. Learn why “micro-fragility leads to macro-resilience”.


Note that “micro-fragility” means that stuff really breaks. It’s not enough for the legal system to “permit” infrequent, hypothetical failures. Economic behavior is conditioned by people’s experience and expectations of actual events, not by notional legal regimes. As a matter of law, no bank has ever been “too big to fail” in the United States. In practice, risk-intolerant creditors have observed that some banks are not permitted to fail and invest accordingly. This behavior renders the political cost of tolerating creditor losses ever greater and helps these banks expand, which contributes to expectations of future bailouts, which further entices risk-intolerant creditors. [1 (http://www.interfluidity.com/v2/3531.html#forcing_frequent_failures_1)] In order to change this dynamic, even big banks must actually fail. And they must fail with some frequency. Chalk it up to agency problems (“you’ll be gone, i’ll be gone (http://www.urbandictionary.com/define.php?term=IBGYBG)“) or to human fallibility (“recency bias”), but market participants discount crises of the distant past or the indeterminate future. That might be an error, but as Minsky points out (http://isbn.nu/9780300040005), the mistake becomes compulsory as more and more people make it. Cautious finance cannot survive competition with go-go finance over long “periods of tranquility”.


So we need a regime where banks of every stripe actually fail, even during periods when the economy is humming. If we want financial stability, we have to force frequent failures. An oft-cited analogy is the practice of setting occasional forest fires rather than trying to suppress burns. Over the short term, suppressing fires seems attractive. But this “stability” allows tinder to build on the forest floor at the same time as it engenders a fire-intolerant mix wildlife, creating a situation where the slightest spark would be catastrophic. Stability breeds instability. (See e.g. Parameswaran here (http://www.macroresilience.com/2009/12/06/minskys-financial-instability-hypothesis-and-hollings-conception-of-resilience-and-stability/) and here (http://www.macroresilience.com/2011/06/08/forest-fire-suppression-and-macroeconomic-stabilisation/). Also, David Merkel (http://alephblog.com/2012/10/13/forest-fires-and-central-banking/).) We must deliberately set financial forest fires to prevent accumulations of leverage and interconnectedness that, if unchecked, will eventually provoke either catastrophic crisis or socially costly transfers to creditors and financial insiders.


Squirrels don’t lobby Congress, when the ranger decides to burn down the bit of the forest where their acorns are buried. Banks and their creditors are unlikely to take “controlled burns” of their institutions so stoically. If we are going to periodically burn down banks, we need some sort of fair procedure for deciding who gets burned, when, and how badly. Let’s think about how we might do that.

http://www.interfluidity.com/v2/3531.html

[boutons_deux]

"Let’s think about how we might do that."

Still thinking? nothing

Just like the FDIC takes over failing banks, the FDIC should have taken over, yes NATIONALZED, all the big financial institutions that were, by any measure, bankrupt in 2008/09, and some still are if their accounting wasn't fraudulent.

Money is utility, like water, electricity, roads, SEWAGE! :lol, and should be heavily regulated. Banking needs to be a BORING UTILITY again, not a wild casino (where the house always wins). 24% APR is a crime. $30B+ revenue/year for overdrafts alone is perverse.

[Winehole23]

I roughly agree with most of that.

I've been recommending a stronger resolution authority for years, boutons. odd how you reflexively mock posters whether they agree or disagree.

[RandomGuy]

I roughly agree with most of that.

I've been recommending a stronger resolution authority for years, boutons. odd how you reflexively mock posters whether they agree or disagree.

EEK! You have posted a solution!

What the fuck man? Where is the "look at what stupid thing the other team is doing?" stuff?


/sarcasm.

So now we need to ask, how best to do that?

We need some way of capping banks so that none of them get too large.

Ideas?

[RandomGuy]

I disagree with some of the article, but completely agree with the opening paragraph.

Ok, now give us a solution you and yours can get behind, other than letting large financial institutions catastrophically collapse in a chain reaction domino, because that was tried in the GD, and it didn't work too well.

[boutons_deux]

"how best to do that"

Well, this is all academic hot air, since the financial sector OWNS the country, the legislators, the regulators.

So there's really nothing that can be done, other than expel hot air.

The derivatives market (aka bets on bets on bets, all legally binding) world wide far exceeds the worlds total GDP.

And what about the shadow (unregulated) banking system?

Gecko/Ryan fully intend to kill any and all financial regs that were imposed post-2008. Coupled with them not enforcing any remaining regulations, and we're sure to have yet another world financial system disaster in the next few years. The 1% will escape with $Ts, the 99% will be totally screwed deeper and harder than ever. And there's no way to prevent it.

[Winehole23]

abandon hope all ye who enter here. except, you ain't exactly Dante.

[TeyshaBlue]

EEK! You have posted a solution!

What the fuck man? Where is the "look at what stupid thing the other team is doing?" stuff?


/sarcasm.

So now we need to ask, how best to do that?

We need some way of capping banks so that none of them get too large.

Ideas?

A tighter liquidity restriction could be a tool and, I know you're not a fan, but you've got to let anything outside of a restricted class fail.

IOW, keep your liquidity at xxx. Any entity crossing that line does so without protection other than FDIC insurance for account holders.

[coyotes_geek]

We need some way of capping banks so that none of them get too large.

Ideas?

One pond for little fish, one pond for big fish. Banks who want do individual banking things like checking/savings/small loans/mortgages get to play in the little fish pond. Banks who want to do commercial/investment/underwriting stuff have to play in the big fish pond. You have to pick one or the other. Each pond has it's own cap on the percentage of the pond's assets a single bank can own. You won't be able to completely keep the ponds separate, especially when dealing with things like mortgages. But when mortgages that originate from small pond banks get bundled and moved over to the big pond you can still make the small pond banks hold a stake in the individual mortgages they sold to keep them on the hook for some risk.

[RandomGuy]

A tighter liquidity restriction could be a tool and, I know you're not a fan, but you've got to let anything outside of a restricted class fail.

IOW, keep your liquidity at xxx. Any entity crossing that line does so without protection other than FDIC insurance for account holders.

I am all for letting companies fail. Negative feedback works wonderfully.

How about a sliding scale of liquidity/capital reserves, that gets (HA) progressively more restrictive the larger you get? (equity is a better word than "liquidity" here. You can be very liquid, and still be insolvent)

Capital cushions should be scaled up very quickly past a certain point would work wonders. If you want to be "too big to fail", then you have to have a huge cushion of surplus capital sitting around.

The larger the "E" part of the A-L=E, the more you can cope with large swings in your asset valuation.

It would be a very simple, easy tool to measure, and would encourage a lot of smaller competitors who would specialize in certain things.

[TeyshaBlue]

I am all for letting companies fail. Negative feedback works wonderfully.

How about a sliding scale of liquidity/capital reserves, that gets (HA) progressively more restrictive the larger you get? (equity is a better word than "liquidity" here. You can be very liquid, and still be insolvent)

Capital cushions should be scaled up very quickly past a certain point would work wonders. If you want to be "too big to fail", then you have to have a huge cushion of surplus capital sitting around.

The larger the "E" part of the A-L=E, the more you can cope with large swings in your asset valuation.

It would be a very simple, easy tool to measure, and would encourage a lot of smaller competitors who would specialize in certain things.

That's an intelligent approach at first blush. BTW, when I was tossing around liquidity, I was referring to the liquidity ratio that the Fed imposes...deposits on hand : outstanding loans.

*edit* Should there be concerns around a Bank having large amounts of surplus capital laying around that is basically, doing nothing?

[Wild Cobra]

Ok, now give us a solution you and yours can get behind, other than letting large financial institutions catastrophically collapse in a chain reaction domino, because that was tried in the GD, and it didn't work too well.
I'm not under the impression that if a large financial institute fails, that it would be catastrophic.

How does it hurt the borrowers?

It only hurts the investors, which no matter where you invest, has some degree of risk.

[RandomGuy]

I'm not under the impression that if a large financial institute fails, that it would be catastrophic.

How does it hurt the borrowers?

It only hurts the investors, which no matter where you invest, has some degree of risk.

The large financial institutions own each others debt, and stocks.

So... if you get one institution that gets hammered and collapses, its stock becomes worthless, and drags down the stock valuation of others right off the bat. That institutions debt then falls in value.

The other banks almost certainly have impaired assets of the same kind as the one that failed, so their capital cushion is affected. Additionally, they have to take the hit on their balance sheet from writing down losses for the first domino bank, and losses from the rest of the sector in general.

Their liquidity is affected, because no one will do short term lending. This means they then have to sell non-cash assets into a declining market to meet cash needs, generally at a loss. This flood further feeds a downward pressure on asset prices.

The weakest 2nd domino then finds itself insolvent, collapses, its stock becomes worthless, and drags down the stock valuation of others right off the bat. That institutions debt then falls in value.

The other banks almost certainly have impaired assets of the same kind as the one that failed, so their capital cushion is affected. Additionally, they have to take the hit on their balance sheet from writing down losses for the first AND SECOND domino bank, and losses from the rest of the sector in general.

The next weakest 3rd domino falls... etc.

This is why people were so freaked out when Lehman failed. It was the first domino, and it would not have been the only one without the bail out, propping up the dominos that had oh-so-conveniently lined themselves up and were essentially holding guns to their heads threatening to kill themselves if the government did not step in and take their losses public. Moral hazard at its finest.

[RandomGuy]

That's an intelligent approach at first blush. BTW, when I was tossing around liquidity, I was referring to the liquidity ratio that the Fed imposes...deposits on hand : outstanding loans.

*edit* Should there be concerns around a Bank having large amounts of surplus capital laying around that is basically, doing nothing?

Yes, there should be concerns. Investors would then pressure the bank to give it out as dividends so they can take it elsewhere an invest it. Sort of self correcting in a beautiful way.

There will be some equilibrium between this impulse, and the efficiencies of scale of large institutions. If you want to pay the costs of having so much cash/equity sitting around, then an efficient market says you are getting some benefit.

This is an example of what I would call a good regulation that imposes a rule/boundary, but lets the market figure out how best to structure things, IMO.

[boutons_deux]

Romney Adviser Scoffs At Notion Of Capping Bank Size (http://thinkprogress.org/economy/2012/10/16/1024251/romney-adviser-cap-banks/)

“I understand Dan Tarullo gave those remarks. I disagree with them. First of all I’m not quite sure what a cap would be and how I would figure it out,” Hubbard said in response to a question at a National Association for Business Economics conference.


“The reason we’re concerned about big banks is that they’re too big to fail,” he added. “If the market forces say these banks are too big and too complex, they will be wittled down to size. And I think that’s a much better (solution) than arbitrary limits on bank sizes.”

http://thinkprogress.org/economy/2012/10/16/1024251/romney-adviser-cap-banks/

ah, yes, blind trust in the "market" to fix everything,when the "market" broke everything. :lol

Just gotta love these assholes' constant repetition of pure bullshit.

[TeyshaBlue]

lol thinkprogress.

[Winehole23]

http://www.bloomberg.com/news/2012-10-28/breaking-up-big-banks-is-a-severely-conservative-project.html

[boutons_deux]

Breaking up the TBTF banks is useless without stopping the insanity of $50T+ plus in derivatives.

[Winehole23]

no, it isn't.

[RandomGuy]

[quoth the GOP free-marketeers] “If the market forces say these banks are too big and too complex, they will be wittled down to size. And I think that’s a much better (solution) than arbitrary limits on bank sizes.”

The problem is that a free-market won't do that, as such things are too hard to really gauge by outsiders and unsufficiently grasped by insiders until it is too late.

Given how interlocked things are, such overwhelming, unimaginative faith in free markets is downright dangerous.

The world has changed since these people cut their teeth on capitalism, and they don't really quite understand that, even with the rather blatant example taht the recent financial crisis has served us.

[RandomGuy]

Breaking up the TBTF banks is useless without stopping the insanity of $50T+ plus in derivatives.

More like a quadrillion or so, depending on how you define them.

[Clipper Nation]

"Too big to fail" is just a convenient excuse for more corporate welfare, money-printing, and propping-up of the 1%, tbh.... time to stop the insanity and get back to common sense... if a company fucks up their finances badly enough to go bankrupt, they need to face the consequences regardless of their size instead of forcing the taxpayers to spend hundreds of billions on letting them stay corrupt and mismanaged...

[Clipper Nation]

The world has changed since these people cut their teeth on capitalism, and they don't really quite understand that, even with the rather blatant example taht the recent financial crisis has served us.

The Fed-engineered boom-and-bust cycles and the malinvestment frauds that brought about the financial crisis would have no place in true free-market capitalism, actually, because there'd be no fractional reserve banking to ruin lives and inflate currency, and there'd still be a justice system to punish con-men....

[boutons_deux]

"Fed-engineered boom-and-bust cycles"

how does the Fed engineer the decades-old instability of capitalism?

it's the deregulation of the financial sector that causes, every damn time, financial crises, not the Fed.