Geithner and Too Big to Fail

We hear a lot about 'too big to fail' and how future regulation should be designed, at least in the financial sector, to prevent growth to that size. Apparently, Treasury Secretary Geithner hasn't heard about this:

Even worse is Geithner's notion of designating certain banks as too big to fail and then subjecting them to more stringent capital requirements and a special tax that would be used to pay for the occasional government bailout. In practice, that approach is likely to create a competitive imbalance between the biggest banks and everyone else, while inviting the giants to find clever ways to take on extra risk, knowing that the government will always be there to bail them out. Creating two classes of institutions with different rules and different regulators would also invite the kind of regulatory arbitrage and games-playing at which Wall Street excels.

There probably are businesses where 'too big to fail' is the only consistent way to turn a profit, such as the auto industry. There are advantages of scale, as well as ubiquitous of suppliers, that almost require the to big to fail scale ('boutique' car companies that aim for niches and have limited models probably don't need to get to this size). After all Honda, Toyota, and Nissan are also probably too big to fail also: they simply haven't failed.

But I can think of no reason why there would be economies of scale for banks and investment firms--I haven't heard any reason why a $50 billion loan portfolio is inferior to a $1 trillion loan portfolio. Unless, of course, you simply can't conceive of a world with a smaller banking sector less invested in Big Shitpile....

Impeach Geithner. Impeach him now.

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Finances standing in less than 3 months, it is possible (!). All private firms have to do is to be transformed into banks. With cash dispenser next to the machine with coffee. Silver is directly invest in the firm without passing by a bank.

The problem for the big banks is not so much the size of the funds, but the diversity of businesses. It used to be that the banks were primarily banks. Then banks like Citibank and JP Morgan decided to offer services to compete with the investment banks, and brokerages, and insurance companies, and so on. It was thought that this "one-stop shopping" approach to financial services would produce the economy of scale and be more efficient for the customer. This was Sanford Weill's vision when he joined Citi with Traveler's. Only, of course, very few customers really benefit and proper management is practically impossible. This is why an important part of the solution has to be breaking up the banks.

The US system is freakish in having large numbers of small banks, thousands of them. While the failure of a small bank has fewer consequences for the economy at large they are far more likely to fail. The problem with small banks is that banks are interlinked, one failing can cause others to fail. With big banks the consequences of a failure are worse, however the probability of a failure is much lower. The failure of a small bank can set off a chain reaction of failures. During the great depression the US had thousands of bank failures including the largest single bank (Bank of America). Britain, in contrast, had none. All of the big five clearing banks (Midland, Barclays, National Provincial, Westminster and Lloyds) survived (on the other hand Britain was one of the least affected major economies, only Japan suffered less).

By Brett Dunbar (not verified) on 18 Apr 2009 #permalink