Before Congress and the Obama administration finalize how they'll govern Too-Big-to-Fail, one matter that bears resolving is what happens after resolution.

Most of the debate over proposals on keeping TBTF on a leash has centered on which federal agency will have oversight of failed systemically important institutions, as well as how to minimize the costs and market impact of their wind-down. What's missing, according to critics like Wake Forest economics professor Robert Bliss - a former Chicago Federal Reserve senior financial economist - is the crucial matter of the actual mechanics of a resolution. Last summer, Bliss addressed the National Economists Club in Washington, D.C., on how the Treasury's proposals failed to address the discrepancies between resolving a chartered bank (through the FDIC) vs. a nonbank or financial services holding company (bankruptcy). They differ not only in process, but in outcome - requiring a smart strategy to deal with market response to resolution actions.

Bliss points out shortcomings in the Treasury's plan to create "bad-bank" bridge institutions under government receivership in which the toxic assets and operations would be transferred. These troubled properties would now be, in effect, the obligation of the government, and it "would be impossible for the government to impose losses" on creditors who must be shielded to prevent the danger of systemic fallout, said Bliss. (Just like the Federal Reserve Bank of New York's stipulations that AIG use bailout funds to pay up obligations in full to Goldman Sachs and others).

"This doesn't change anything," Bliss says. "You'll end up guaranteeing the counterparties in the contracts that caused the problem."

Meanwhile, the shareholders at what remains of the "healthy" arm of the institution will see their investments nearly wiped out - either because of absence of that high-risk, high-revenue operation(s) of the company, or because the FDIC or other agency has overtaken the remainder of the institution with the determination to punish stakeholders with losses. The FDIC is not apt to make creditors and shareholders whole, Bliss says.

Deciding which areas of a troubled TBTF to cart off for systemic treatment - in AIG's case, it would have been its London-based credit-default swap unit - will still be a politicized and ad-hoc process invoked on a case-by-case basis. Investors or traders will likely not want to risk bets with institutions if they're unsure whether their claim would be fairly protected in a bankruptcy route, or be at the whim of the government (particularly international counterparties who may fear having the lowest priority for restitution).

Finding a hybrid solution that increases bankruptcy protections for all creditors and shareholders while preserving the quick-turn, pre-insolvency powers of a federal agency could be the path to finding an end game to resolution.

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