-
The Federal Reserve's ability to provide emergency lending to institutions in the event of a crisis must be eliminated in order to end "too big to fail," said Richmond Fed President Jeffrey Lacker.
May 26 -
Federal Deposit Insurance Corp. Chairman Martin Gruenberg, discussing progress in establishing big-bank resolution regimes, said the Federal Reserve is developing a rule "to codify" the swaps protocol involving termination rights.
May 12 -
Crucial operational steps remain before the government could clean up the collapse of a massive firm without threats to the broader financial system.
May 18 -
Policymakers are closing in on developing rules key to ensuring the ability of the government to take over failing behemoths, but the ultimate success of their plan may depend on how fast regulators can act.
October 29
Regulators say they've solved the "too big to fail" problem. Clearly they've fallen prey to wishful thinking.
The Dodd-Frank Act seeks to protect the financial system from the failure "too big to fail" banks, thereby reducing the need for future taxpayer-funded bailouts. Recently, the
In reality, these are what the sociologist Lee Clarke calls
Regulators have limited knowledge of the risks facing major banks, as the London Whale scandal and continued slew of big-bank settlements illustrate. So they are forced to rely on the honor system: they ask banks to tell them in their living wills what could go wrong and how they would unwind. Unfortunately, senior managers at these institutions may be less than forthcoming. Furthermore, they may lack knowledge of the risks they face.
Moreover, there are important practical concerns with regulators' reliance on the orderly liquidation provision. Putting aside serious
In addition, as we saw in the last crisis, TBTF banks rarely fail in isolation since they are so interconnected. This is confirmed by an April report from
Even if one does believe this is within reach, surely it's unwise to endanger the financial system by taking the chance that regulators might be able to work things out if all goes according to plan. If a TBTF bank collapses, government intervention is still needed to do what markets are unable to do: provide liquidity and take risk.
The major lesson here is that the TBTF problem can't be solved with living wills and orderly liquidation. Rather, a structural solution is needed to reduce the size of mega-institutions especially the big four of Citigroup, Wells Fargo, JPMorgan Chase and Bank of America, each with assets exceeding $1 trillion. These institutions now represent more than 40% of banking assets in the U.S. financial system, according to the FDIC. The failure of any one of these institutions would endanger the economy.
Despite these facts, there is limited political will for a structural solution at this time. Thus regulators are resorting to fantasy documents to cover up the problem.
Regulatory fantasy documents are not just ineffectual they're also dangerous. Efforts to prevent future crises suffer if regulators and government officials mistakenly believe they can adequately deal with TBTF failures. Worse yet, regulators' unwarranted confidence could lead Congress to further curb the Fed's
It is a fools errand to try to limit the uncontrollable damage of a TBTF failure. Either eliminate the threat entirely through a breakup of TBTF institutions or accept the need for taxpayer-funded bailouts. Hubris and magical thinking will not make the problem disappear.
J.V. Rizzi is a banking industry consultant and investor. He is also an instructor at DePaul University Chicago.