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Too Big to Fail: Why The Big Banks Should Be Broken Up, But Why The White House and Congress Don't Want To
And now there are five -- five Wall Street behemoths, bigger than they were before the Great Meltdown, paying fatter salaries and bonuses to retain their so-called"talent," and raking in huge profits. The biggest difference between now and last October is these biggies didn't know then that they were too big to fail and the government would bail them out if they got into trouble. Now they do. And like a giant, gawking adolescent who's just discovered he can crash the Lexus convertible his rich dad gave him and the next morning have a new one waiting in his driveway courtesy of a dad who can't say no, the biggies will drive even faster now, taking even bigger risks.
What to do? Two ideas are floating around Washington, but only one is supported by the Treasury and the White House. Unfortunately, it's the wrong one.
The right idea is to break up the giant banks. I don't often agree with Alan Greenspan but he was right when he said last week that "[i]f they're too big to fail, they're too big." Greenspan noted that the government broke up Standard Oil in 1911, and what happened? "The individual parts became more valuable than the whole. Maybe that's what we need to do." (Historic footnote: Had Greenspan not supported in 1999 Congress's repeal of the Glass Stagall Act, which separated investment from commercial banking, we wouldn't be in the soup we're in to begin with.)
Former Fed Chair Paul Volcker, whose only problem is he's much too tall, last week told the New York Times he'd like to see the restoration of the Glass-Steagall Act provisions that would separate the financial giants' deposit-taking activities from their investment and trading businesses. If this separation went into effect, JPMorgan Chase would have to give up the trading operations acquired from Bear Stearns. Bank of America and Merrill Lynch would go back to being separate companies. And Goldman Sachs could no longer be a bank holding company.
But the Obama Administration doesn't agree with either Greenspan or Volcker. While it says it doesn't want another bank bailout, its solution to the "too big to fail" problem doesn't go nearly far enough. In fact, it doesn't really go anywhere. The Administration would wait until a giant bank was in danger of failing and then put it into a process akin to bankruptcy. The bank's assets would be sold off to pay its creditors, and its shareholders would likely walk off with nothing. The Treasury would determine when such a "resolution" process was needed, and appoint a receiver, such as the FDIC, to wind down the bank's operations.
There should be an orderly process for putting big failing banks out of business. But this isn't nearly enough. By the time a truly big bank gets into trouble -- one that poses a "systemic risk" to the entire economy -- it's too late. Other banks, competing like mad for the same talent and profits, will already have adopted many of the excessively-risky banks techniques. And the pending failure will already have rocked the entire financial sector.
Worse yet, the Administration's plan gives the big failing bank an escape hatch: The receiver might decide that the bank doesn't need to go out of business after all -- that all it needs is some government money to tide it over until the crisis passes. So the Treasury would also have the authority to provide the bank with financial assistance in the form of loans or guarantees. In other words, back to bailout. (Historical footnote: Summers and Geithner, along with Bob Rubin, while at Treasury in 1999, joined Greenspan in urging Congress to repeal Glass-Steagall. The four of them -- Greenspan, Summers, Rubin and Geithner also refused to regulate derivatives, and pushed Congress to stop the Commodity Futures Trading Corporation from doing so.)
Congress is cooking up a variation on the "resolution" idea that would give the Federal Deposit Insurance Corporation authority to trigger and handle the winding-down of big banks in trouble, without Treasury involvement, and without an escape hatch.
Needless to say, Wall Street favors the Administration's approach -- which is why the Administration chose it to begin with. If I were less charitable I'd say Geithner and Summers continue to bend over bankwards to make Wall Street happy, and in doing so continue to risk the credibility of the President, as well as the long-term financial stability of the system.
Wall Street could live with the slightly less delectable variation that Congress is coming up with. But Congress won't go as far as to unleash the antitrust laws on the big banks or resurrect the Glass-Steagall Act. After all, the Street is a major benefactor of Congress and the Street's lobbyists and lackeys are all over Capitol Hill.
The Street obviously detests the notion that its behemoths should be broken up. That's why the idea isn't even on the table. But it should be. No important public interest is served by allowing giant banks to grow too big to fail. Winding them down after they get into trouble is no answer. By then the damage will already have been done.
Whether it's using the antitrust laws or enacting a new Glass-Steagall Act, the Wall Street giants should be split up -- and soon.
What to do? Two ideas are floating around Washington, but only one is supported by the Treasury and the White House. Unfortunately, it's the wrong one.
The right idea is to break up the giant banks. I don't often agree with Alan Greenspan but he was right when he said last week that "[i]f they're too big to fail, they're too big." Greenspan noted that the government broke up Standard Oil in 1911, and what happened? "The individual parts became more valuable than the whole. Maybe that's what we need to do." (Historic footnote: Had Greenspan not supported in 1999 Congress's repeal of the Glass Stagall Act, which separated investment from commercial banking, we wouldn't be in the soup we're in to begin with.)
Former Fed Chair Paul Volcker, whose only problem is he's much too tall, last week told the New York Times he'd like to see the restoration of the Glass-Steagall Act provisions that would separate the financial giants' deposit-taking activities from their investment and trading businesses. If this separation went into effect, JPMorgan Chase would have to give up the trading operations acquired from Bear Stearns. Bank of America and Merrill Lynch would go back to being separate companies. And Goldman Sachs could no longer be a bank holding company.
But the Obama Administration doesn't agree with either Greenspan or Volcker. While it says it doesn't want another bank bailout, its solution to the "too big to fail" problem doesn't go nearly far enough. In fact, it doesn't really go anywhere. The Administration would wait until a giant bank was in danger of failing and then put it into a process akin to bankruptcy. The bank's assets would be sold off to pay its creditors, and its shareholders would likely walk off with nothing. The Treasury would determine when such a "resolution" process was needed, and appoint a receiver, such as the FDIC, to wind down the bank's operations.
There should be an orderly process for putting big failing banks out of business. But this isn't nearly enough. By the time a truly big bank gets into trouble -- one that poses a "systemic risk" to the entire economy -- it's too late. Other banks, competing like mad for the same talent and profits, will already have adopted many of the excessively-risky banks techniques. And the pending failure will already have rocked the entire financial sector.
Worse yet, the Administration's plan gives the big failing bank an escape hatch: The receiver might decide that the bank doesn't need to go out of business after all -- that all it needs is some government money to tide it over until the crisis passes. So the Treasury would also have the authority to provide the bank with financial assistance in the form of loans or guarantees. In other words, back to bailout. (Historical footnote: Summers and Geithner, along with Bob Rubin, while at Treasury in 1999, joined Greenspan in urging Congress to repeal Glass-Steagall. The four of them -- Greenspan, Summers, Rubin and Geithner also refused to regulate derivatives, and pushed Congress to stop the Commodity Futures Trading Corporation from doing so.)
Congress is cooking up a variation on the "resolution" idea that would give the Federal Deposit Insurance Corporation authority to trigger and handle the winding-down of big banks in trouble, without Treasury involvement, and without an escape hatch.
Needless to say, Wall Street favors the Administration's approach -- which is why the Administration chose it to begin with. If I were less charitable I'd say Geithner and Summers continue to bend over bankwards to make Wall Street happy, and in doing so continue to risk the credibility of the President, as well as the long-term financial stability of the system.
Wall Street could live with the slightly less delectable variation that Congress is coming up with. But Congress won't go as far as to unleash the antitrust laws on the big banks or resurrect the Glass-Steagall Act. After all, the Street is a major benefactor of Congress and the Street's lobbyists and lackeys are all over Capitol Hill.
The Street obviously detests the notion that its behemoths should be broken up. That's why the idea isn't even on the table. But it should be. No important public interest is served by allowing giant banks to grow too big to fail. Winding them down after they get into trouble is no answer. By then the damage will already have been done.
Whether it's using the antitrust laws or enacting a new Glass-Steagall Act, the Wall Street giants should be split up -- and soon.
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We need to break up the biggest bank of them all. Hint: it's headed by Ben Bernanke.
At least we need to audit it, as Ron Paul is trying to get them to do.
October 25, 2009 1:04 PM | Reply | Permalink
A certain level of re -regulation is in order..Without repeal of the Glass- Stegeall Act this would never have happened...
Mergers and consolidation have wrecked havoc wiht our economy and the corporate structure!! Greed was allowed to raise its ugly head
Read the Shock Doctrine..it is not the corps so much as the people who run them but de reg...will start the process..Go for it Reich..Push the agenda.
October 27, 2009 12:24 PM | Reply | Permalink
It is nice that M. Reich speaks with such candor and explains the situation to us in his blog, but it is sad that he can do so -- because he is not in the new administration. Instead, Obama has chosen the worst of the Clinton alumni and put them in charge of solving the problems they caused.
Perhaps the right-wingers were right to warn us about Obama's disgraced associates in Chicago. But they were wrong to worry about Ayers, Rezko or Wright; the really dangerous people Obama palled around with were at the University of Chicago, particularly the free market jihadists at the department of Economics.
No wonder Summers and Geithner (i.e. Wall Street hacks) are now in charge, instead of Reich and Volcker.
October 25, 2009 1:11 PM | Reply | Permalink
Exactly. The University of Chicago is the problem.
Why are so many in congress so blind? Because they own stocks and bonds instead of real businesses. Most have never made a payroll. Most do not know that insurance is crippling small business. Their personal interest is their portfollio. They think what is good for Goldman Sachs is good for them.
October 25, 2009 8:10 PM | Reply | Permalink
I read this. "The expansion of debt and speculation that characterized the US economy (and advanced capitalism as a whole) since the 1960's represented the main means by which the system managed to avoid sinking into a deep slump - while not enabling it to overcome the stagnation of the 'real' economy." (I've also read that a supporting truth of succesful capitalism is that we create wealth by making things, the 'real' economy.)
So it would seem that Obama's economic advisors prefer the 'expansion of debt and speculation' model, which on its face indicates that they're going for what is politically expedient - in other words avoiding a 'deep slump.'
My question is does the expansion of debt and speculation necessarily disable the 'real' economy because if it does as long as we adhere to it we will experience periodic economic melt-downs. And the pain, tragically, will ultimately be felt on Main Street, not Wall Street.
October 25, 2009 1:38 PM | Reply | Permalink
Was this:
(emphasis mine) a deliberate turn of phrase, or a typo like the one misspelling of "Steagall"? Nonetheless, I like it. Bending over bankwards for the banksters... :-)October 25, 2009 1:50 PM | Reply | Permalink
It looks like Geithner and Summers both think that the problems can be solved by tinkering around with the internal management and regulation of the super-banks, when the problem is such that only a restructuring of the financial system and breaking up the largest banks is the only thing that will work.
That's not too surprising of a blind spot. Both have made their careers out of tinkering with the internal operations of banks. They simply don't think on the level of the financial system. They are supported by the free marketer's assumption that the overall system manages itself. And of course it doesn't, because the overall financial system contains free markets. It is not itself a free market entity.
The financial system overall is a social entity that is dependent on the general economy, and on which the general economy depends. The financial system and the overall economy are in other words interdependent, not in competition. It is very different from the free market that which is self-regulating because of competing entities.
The financial system within the economy is analogous to the heart in the body. The heart and the body are interdependent rather than in competition. And the superbanks are analogous to cancers growing within the heart. When they grow too large, the heart is disrupted and it can stop the heart from operating within the body. The same is true for the superbanks within the financial system.
Geithner and Summers simply don't recognize their own failure to think in system terms. They are too close to the banks themselves. They are stuck in thinking in market terms instead in system terms.
October 25, 2009 2:49 PM | Reply | Permalink
Dr. Reich...spot on. These big kludge banks need to be spit up. Not only that...laws need to be enacted to prevent any bank or corporation from ever getting this big in the first place.
C
October 25, 2009 2:55 PM | Reply | Permalink
I have been complimented, from time to time, for insight.
But, WTF: what does it mean that in the late 90's, I woke from two sequential dreams in which one intoned the inexplicable word, "Halliburton" and the other spake "JP Morgan."
What was one to do? Invest in said Halliburton and JP Morgan? Or be far more farsighted than I was, and see both names as problematic?
Christopher Buckley wrote a wry and prescient novel called "God is my Broker."
What shall we make of the murky dream prognostications, enigmatically rendered, when a voice (certainly not god) intones "Halliburton" and "JPMorgan"??????
October 25, 2009 8:02 PM | Reply | Permalink
I have heard the general message of this post a couple of times. No more bailouts. Instead, the White House strategy, next time, is to allow a "managed" crash. That is sort of like managing an avalanche, isn't it?
I think the avalanche is coming. Soon. Probably this winter. The Construction and Automobile industries are dead men walking. Most of small business has serious pneumonia. The bankers, well they have their heads in the sand and don't realize how sick their industry is.
This economy is crashing. It is not getting better.
October 25, 2009 8:23 PM | Reply | Permalink
It's too bad we hoped that we would have elected a new FDR in '08. What we have is the new Herbert Hoover.
October 25, 2009 9:36 PM | Reply | Permalink
Do these people really believe that keeping these huge institutions in one piece is possible or advisable? And can they prove it?
Because if not, then they are acting on faith that "somehow" the market will take care of things and we will all be all right.
On a smaller scale, American homeowners (even those who gamed the system to get their mortgages) operated on a similar belief. We all know how well faith-based economics worked out for them.
Caution, Goldman Sachs.
October 26, 2009 1:04 AM | Reply | Permalink
Mr. Reich, if you are available I would like to hear your thoughts on this.
I should clarify my earlier inscrutable comment.
It seems to me that what many people do not consider about the housing crisis is that people who bought homes during the bubble, even those who knowingly or unknowingly gamed the system, were acting on Faith.
Faith may seem like a strange term to use, but I believe if we ignore the influence of Faith we miss a crucial piece of the story. Capitalism is (and I know it's weird) part of the religion of the United States of America, which is why middle-and-lower income Americans can be persuaded to act against their economic interests--it is a religious obligation. (Think how many people ruined their knees kneeling in church!) The bubble buyers bought their houses to get into a rising market, in the belief that somehow, "The Market" would take care of it and they would be rewarded eventually, although hopefully before arriving in heaven. In this context, "Greed is Good" because AMERICA (TM) is good, Capitalism is good, they were just pushing the edges of the Capitalist system, etc.
Of course, Reality trumps Faith. We know it didn't work out, and many of those people are economically crushed, not to mention having their faith shaken. (The idea that people "walked away" from their properties is largely incorrect--it's more of a "crawl away" in most cases.)
The larger point is that the same Faith-based economic certainty that "The Market" will take care of things is being employed at the highest levels of government and Finance. The Lucrescenti weren't dumb enough to think that the masses would get out of this alive and in fact were happy to plan for plenty of foreclosures after the bubble. But I suspect they do have a giant, arrogant blind spot in believing that "The Market" they've so painstakingly modeled will somehow right the overall system, that it's ok that ordinary people have been destroyed, or that eventually a rising tide will lift all boats again.
I don't think we should wait for the massive reality check.
October 26, 2009 12:35 PM | Reply | Permalink
We might shame them if we tell them about a debate going on in the Kuwaiti legislature.
The majority of the legislators there want to do a bailout. Not an American styled one which "bails out the banks", but an American styled one which "bails out the people".
They want to help the middle class and poor, realizing the rich do not need it.
October 26, 2009 4:17 PM | Reply | Permalink
That too big to fail line can then apply to the resat of our economy besides banks. We have had far to much of the big fish swallowing up the smaller fish in the name of 'efficiencies of size', and we pay for it in lost jobs, lost choice, and price control by just a few mega companies. How many communities have seen their home companies bought by giants, then had local offices and Hqs shuttered while control is passed elsewhere? It's time for the pendulum to swing the other way, and regulate the living daylights out of these companies. Also, break up many of them into much smaller enterprises, and last but not least have a government that looks at these planned mergers with and eye toward really protecting the consumers, not the planned surviving company in the planned merger. While I'm at it, let's put an end to selling our companies to foreign enterprises. It's time we start keeping control of our own businesses.
October 26, 2009 6:37 PM | Reply | Permalink
Good comment. And, first to be broken up should be the big national and regional banks. Banks were once locally owned. Usually a few local rich people owned large blocks, but many in the community had a stake. Those banks made good loans because they knew the community and they kept the loans on the bank's books until it was paid off.
October 26, 2009 7:39 PM | Reply | Permalink
As far as the Obama administration either believing or pretending to believe that they can administratively deal with an about-to-fail Big Bank: Has no one reminded them that they will not be in office forever? Regulatory laws are not impossible to rescind, but would certainly have more lasting effect than what Obama, et.al. are suggesting. Repeal of most of Glass-Steagall would be a good start; then RE-MODERNIZE the Commodities Futures Modernization Act. Classy name for rape, pillage, and fraud, eh wot? The part of that bill that rankles the worst is that STATES were even prohibited from investigating and regulating derivatives.
October 27, 2009 12:06 PM | Reply | Permalink
Picking Geithner and Summers certainly has been a problem, but I suspect that the will in Government and in the Public to actually do the sensible thing and restructure the financial system (to boring effectiveness) would not have been there regardless.
What's missing, is that the Great Recession has not been Depressing enough. Not to worry, we'll have another chance. let's just hope that we then make the right choices. If not the Teabaggers will appear quaintly docile by comparison with an enraged public looking for scapegoats. And they won't be looking in the mirror.
October 27, 2009 12:57 PM | Reply | Permalink
I think that Geithner and Summers were appointed to send a message to our world-wide creditors that the government would stand behind prior commitments made by American business. In so many words, we need foreign investments to keep us afloat - for the last 30 years we've depended on foreign entities lending us $500 billion/yr. - and that demands an AAA credit rating which would have fallen to a ZZZ credit rating had the government not come through.
October 27, 2009 2:40 PM | Reply | Permalink
Love your line "... Geithner and Summers continue to bend over bankwards to make Wall Street happy, and in doing so continue to risk the credibility of the President ...". By the way what credibility does Obama have? Seems to me his credibility blew away awhile ago. Unless I'm mistaken you don't have to kowtow to him, the man, while being respectful of the office.
October 27, 2009 4:47 PM | Reply | Permalink
Mr. Reich’s disturbing article suggests even broader questions.
Can any form or amount of regulation control the banking system when they have the authority and power to create the nation’s money and control our monetary policy?
How does granting such power to a very few elite experts and bank owners, who are not elected by the people and who are inclined to act in their own personal interest, impact our democratic principle?
How is the fact the President appoints the Chairman and members to the board of directors of the Federal Reserve reconciled with the US Constitution that designates that power to regulate the value of money to the Congress?
How is it necessary and proper for congress delegate its sovereign authority to issue money (“In Galleried V. Greenland (1884), the Supreme Court extended Knox, upholding the validity of legal tender laws during peacetime. The Court held that the federal government's monetary power was inherent in its sovereignty; thus it need not be enumerated in the Constitution.” From a Heritage Foundation book on the Constitution) to a privately owned corporation when the US treasury was circulating US currency until 1971?
The banking system creates 99.9% of our money as the principle of debt, extends it into the economy as loans that must be repaid with interest. The system creates only the principal of loans – so, what is the source of money to pay the interest?
October 27, 2009 10:25 PM | Reply | Permalink