Too Big to Fail a Farce

Since 2009, our economy has improved moderately and we continue to limp forward economically as a nation. But sooner or later, another recession will happen, and another banking crises is sure to occur.

 What I’m interested to see is how far the “too big to fail” doctrine will go in providing reckless companies assistance the next time around, and how the government will defend their action then. Roughly $100 million a year was spent by banks lobbying in both 2011 and 2012, even though the last banking crises is in the rear view mirror and another one cannot be seen on the horizon yet. I suspect this has a lot to do with “paying it forward.”

 The idea behind “too big to fail” is that some banks are far too systemically entrenched in our financial system, that their failure to exist or operate would result in economic disruption across our entire society. Even the politically liberal economist Paul Krugman defends this idea and feels more regulation is the answer, so we can allow these large institutions to persist.

 What I never hear in the “too big to fail” debate is how to allow a bank to fail, or how to unwind such a large company. Perhaps that is why people believe in “too big to fail,” because they don’t understand that you can break a bank apart and still wake up tomorrow without total economic destruction.

 Step 1: Tell the shareholders to take a hike, and tell senior management to stay put. Sorry shareholders, you invested in a business that went bankrupt and you must suffer the consequences of that risk. Senior management needs to stick around to keep the lights on while we get this big boy diced up. Don’t worry, they’ll just be happy to have a job at this point.

 Step 2: Bring out the dead! Take all the bad loans and sell them off to various debt collectors and distressed asset buyers. There are plenty out there, trust me.

 Step 3: Bust it up trust-busting style. In each part of the country, there will be regions or large branches of this failed bank which have good loans and deposits. Those can be marketed to local institutions in that market. You mean banks/CUs will buy loans from other institutions? Yep, this isn’t uncommon. You mean banks/CUs will buy deposits from another bank/CU? You bet!  This is done all the time when one institution disposes a branch, or an institution is merged or bought-out by another.

 Step 4: Spin-off those systems which are the glue holding everything together. If they have a very effective payment system, treasury management, or other client services, then why couldn’t those business lines be packaged as a business by itself and sold to the highest bidder? Companies sell divisions all the time.

 Voila! You just managed a bank failure in a fair way that didn’t destroy the American economy. So realistically, why didn’t this happen with very large banks? Manpower has a lot to do with it. There simply wasn’t enough regulators at that point in time to do all the slicing and dicing. I would still contend that is not an adequate reason to pursue “too big to fail.” I would argue the government could step in and keep the doors open while they went out and hired or contracted the help they needed.

 Politically, “too big to fail” is expedient. Managing a bank failure could take years. Telling people they won’t allow a big bank to fail seems to clear up uncertainty rather quickly and ease fears. But the truth is, it is the easy way out. It favors the large institutions over the small, it encourages reckless risk-taking for the powerful, punishes the disenfranchised for being prudent, and it protects shareholder equity at the expense of all taxpayers. Yes, it is an easy patch in scary times; but in the long run, it is unjust and harmful to the economy.