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Odd Political Bedfellows Agree: Banks Still Too Big To Fail

Filed by KOSU News in US News.
March 19, 2013

Amid Washington’s dysfunction, one issue has united some liberal Democrats and conservative Republicans: a common concern that “too big to fail” is alive and well.

Despite the Dodd-Frank financial reforms, these lawmakers believe the nation’s largest banks still pose a threat to the economy and that the government will step in to bail them out if they get in trouble.

At a recent hearing on Capitol Hill, Sen. Elizabeth Warren, D-Mass., confronted Federal Reserve Chairman Ben Bernanke with her concerns. “We’ve now understood this problem for nearly five years,” she said. “So when are we going to get rid of too big to fail? Any idea when we’re going to arrive in the right direction?”

Bernanke pointed to Dodd-Frank’s prohibition against government bailouts, the authority the law gives to the Federal Deposit Insurance Corp. to wind down the biggest banks and the added capital the law requires those banks have on hand to absorb potential losses.

But the hearing’s next questioner, Republican Sen. David Vitter of Louisiana, wouldn’t drop the subject.

“My top concern is actually the same as Mrs. Warren’s,” he said. “There is growing bipartisan concern across the whole political spectrum about the fact that too big to fail is alive and well.”

Left And Right Unite Around New Reforms

Vitter says the evidence is in the financial market. He says investors are willing to lend to the megabanks more cheaply than to smaller banks because they believe the government would bail out the big banks if they get in trouble — despite Dodd-Frank.

Vitter has teamed up with Sen. Sherrod Brown of Ohio, a liberal Democrat, to create a bill that would require the six biggest banks to have even more capital to cushion potential losses. The bill would also limit the big banks’ access to the federal safety net — FDIC insurance and cheap loans from the Fed.

Brown is also pushing a bill that would curb the size of the megabanks by limiting how much they could borrow.

“They really are too big to manage,” Brown says. “The people running these banks don’t understand the complexity, in many cases, of some of the derivatives with which they’re involved. And that says to me that it’s not just too big to fail, it’s too big to manage.”

As proof, Brown points to JPMorgan Chase’s $6 billion loss in 2012 stemming from disastrous financial bets made by its so-called London whale.

To Some, ‘No More Bailouts’ Pledges Are ‘Empty Words’

But it’s not just on Capitol Hill that there’s worry that “too big to fail” lives on despite Dodd-Frank. There’s concern within the Federal Reserve system, too. Harvey Rosenblum, an official at the Federal Reserve Bank of Dallas, has worked with the bank’s president, Richard Fisher, to develop an alternative plan.

Rosenblum acknowledges that Dodd-Frank clearly states there will be no more bailouts. But “those are empty words,” he says. “Right now all you have is, ‘Oh, we’re … writing over 9,000 pages of regulations to make sure we don’t have too big to fail anymore.’ But nobody can follow regulations that that they don’t understand.”

The Dallas Fed plan would limit the government safety net to the traditional commercial banking part of the megabanks, but not to their investment bank or securities units, for instance. Then, Rosenblum says, the plan would require that people doing business with those outside units sign a pledge acknowledging this simple fact. Signatories would be demonstrating, in effect, “I understand that if this company loses money, I’m stuck. I get it,” he says.

“That in and of itself would change the incentives enormously and would clarify where the safety net is and where it isn’t,” Rosenblum adds.

For Some, Dodd-Frank Remains Best Tool

Former FDIC Chairman Sheila Bair agrees that the limits of the safety net must be made clearer — she argued for just that in her book, Bull by the Horns. But Bair says that can be done within the Dodd-Frank framework. Those who wish to put a stake through the heart of “too big to fail,” she says, should recognize Dodd-Frank is the best tool for the job.

Bair says she wishes lawmakers had pushed harder for these tougher measures back when Dodd-Frank was being debated, but reopening the legislation, she fears, would give Wall Street a chance to weaken the reforms.

“Once this gets opened up, you never know what Congress is gonna do,” Bair says. “So again, it’s a healthy discussion, but let’s try to use the tools we have now. And I think that will be faster, too, than trying to get Congress to do a bill.” [Copyright 2013 NPR]

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