Saturday, October 22, 2011

Break up the big banks...

It's encouraging to see that the president of the Federal Reserve Bank of Kansas City has come out arguing that "too big too fail" banks are "fundamentally inconsistent with capitalism." See the speech of Thomas Hoenig. One excerpt:
“How can one firm of relatively small global significance merit a government bailout? How can a single investment bank on Wall Street bring the world to the brink of financial collapse? How can a single insurance company require billions of dollars of public funds to stay solvent and yet continue to operate as a private institution? How can a relatively small country such as Greece hold Europe financially hostage? These are the questions for which I have found no satisfactory answers. That’s because there are none. It is not acceptable to say that these events occurred because they involved systemically important financial institutions.

Because there are no satisfactory answers to these questions, I suggest that the problem with SIFIs is they are fundamentally inconsistent with capitalism. They are inherently destabilizing to global markets and detrimental to world growth. So long as the concept of a SIFI exists, and there are institutions so powerful and considered so important that they require special support and different rules, the future of capitalism is at risk and our market economy is in peril.”

4 comments:

  1. Mark,

    As an alternative to breaking them up, can't we simply let them fail rather than bail them out?

    Thanks.

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  2. Quantity Theory of Money

    MV = OP

    Letting SIFIs outright fail would be catastrophic to the flow of funds and consequently output & prices (GDP). We need to gradually reduce their influence on the flow of funds via regulations and enforcement thereof.

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  3. unfortunately too big to fail was institutionalized long ago when FDIC deposit insurance was introduced, which historians almost universally deem a successful policy in arresting the vicious circle of fear and bank runs during the great depression. no free lunches right?

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  4. Bagehot (1873) wrote the following:

    “very large (domestic) loans at very high rates are the best remedy for the worst malady of the money market when a foreign drain is added to a domestic drain.”

    Walter Bagehot’s principle is over a century old. It identifies the need for a central bank with the language “very large (domestic) loans”. It also identifies the need to maintain the flow of funds with the language “best remedy.”

    The “best remedy” is to provide liquidity to the flow of funds to facilitate the role of markets and institutions of matching borrower and lender. Congress realized the magnitude of this need and created the Federal Reserve to implement this sound principle. Unfortunately, it is more of an art than a science when determining the structure of those “very large loans” and the “very high rates”.

    ReplyDelete