Re: "Is TBTF Over? Only One Way to Find Out," June 14
The problems with "Too Big to Fail" is not just what happens should a large firm approach failure. Indeed, that may be the least expensive and dangerous problem with the TBTF.
Arguably the biggest problem is what the continuance of TBTF — reinforced by the implementation of the Dodd-Frank Act — is doing right now. As long as the markets perceive the continuation of TBTF they are giving a funding advantage to those firms, with all of the distortion of risk pricing that comes with that.
A recent Wall Street Journal estimate put that funding advantage at some 80 basis points, very substantial in today's low-interest rate environment. Requiring the large banks to pony up more capital only makes that worse, as it makes lending to TBTF firms look even safer still.
A closer embrace of the TBTF firms by the federal regulators is also counterproductive to ending TBTF, as the close hug reinforces the image and likelihood of an implicit government guaranty.
When I served as Assistant Treasury Secretary part of my assignment was to give speeches about how the implicit Treasury guaranty of Fannie and Freddie was mythology, but when the chips were down and F/F headed for failure, overnight Treasury abandoned that policy and gave explicit protection to F/F's creditors.
Wisely, the markets watch what the government does and has done much more than they listen to what government leaders say.
Executive Vice President
American Bankers Association