Banks too big to fail: Should they be propped up, or split up?
Filed under: Economy, JP Morgan Chase, Morgan Stanley , Bank of America
How can the U.S. solve its systemic banking issues? If you're former Federal Reserve Chairman Paul Volcker (pictured) or Bank of England Governor Mervyn King, your answer would be: Let's split up the banks. Volcker would like to see some form of a Glass-Steagall-like bill passed to reconstruct the wall between commercial banking and investment banking. Glass-Steagall, a law passed after the Great Depression, was repealed in 1999.But from actions they've taken, it appears that others, including current Fed Chairman Ben Bernanke and current Treasury Secretary Timothy Geithner, think propping up the largest banks is the best way to go. In fact, they clearly like to see big banks getting bigger. John Mack, CEO of Morgan Stanley (MS), has spoken of the pressure he faced from Bernanke and Geithner to merge Morgan Stanley with JPMorgan Chase (JPM) during the depths of last year's crisis. Bank of America's (BAC) tale of woe regarding how it was pressured to acquire Merrill Lynch is very similar in tone.
Former Fed Chairman Alan Greenspan comes down somewhere in between the Volcker and Bernanke/Geithner camps. He thinks banking regulators should consider breaking up financial institutions considered "too big to fail," but doesn't support reinstating Glass-Steagall. He believes that by marrying investment banks with commercial banks and allowing them to become too big to fail, the U.S. has created an illusion that allows them to borrow at lower cost, because lenders believe the government will always back them up, Greenspan told the Council on Foreign Relations. He went on to say that the current situation squeezes out competition and creates a danger to the financial system, according to a report in The New York Times.
Volcker definitely wants to turn back the clock to an era when commercial banks were prohibited from engaging in risky Wall Street activities. He believes the banks exist to serve the public and that is what their mission should be. He thinks investment banking activities create conflicts of interest and promote risk taking. Volcker wants President Obama to shield commercial banking from Wall Street's excessive risk taking. In his view, commercial banks should only be allowed to take deposits, manage the nation's payments system, make standard loans and trade securities for their customers, but not for themselves.
The others on Obama's economic team want to let the giant banking entities survive essentially as they are now, but want to regulate them extensively in order to prevent them from getting the country into trouble again. But how's that working out so far? Legislation is stalled in the Congress, banks are once again engaging in their most risky activities, and they're planning to pay out billions in bonuses for 2009.
Robert Pozen, chairman of MFS Investment Management, agrees with Bernanke and Geithner that a new version of the Glass-Steagall Act should not be instated, but I doubt he would agree with extensive regulation. He thinks the repeal of Glass-Steagall "helped to reduce the severity of the financial crisis. When Bear Stearns and Merrill Lynch got into serious trouble, they were promptly acquired with Federal assistance by JPMorgan Chase and Bank of America, respectively," Pozen writes in a Forbes commentary.
But that's exactly the response that Greenspan believes gives lenders and investors the incorrect impression that the government will always step in and protect giant banks. We can't allow that impression to continue to fester. At the very least, we must either create smaller entities as Greenspan suggests, or rebuild the wall between commercial banking and investment banking as Volcker wants.
Some think that those interventions would not work, given the globalization of financial markets. But policymakers must decide: Do we want a commercial banking industry that serves the needs of the American public, or do we want an industry that takes massive global risks and expects the U.S. government bail it out whenever something goes wrong?
Lita Epstein has written more than 25 books, including Trading for Dummies and The Complete Idiot's Guide to the Federal Reserve.
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Reader Comments (Page 1 of 1)
10-21-2009 @ 12:02PM
nattxn said...
A bank to big to fail should be shut down and all assets distributed to the users and nothing to investors.
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10-21-2009 @ 12:31PM
Donovan said...
I can only hope the Government has learned its best to let the banking business deal with its own financial issues, and stop bailing them out. Its not the Governments nor the tax payers responsibility to get involved in the finances of privately owned corporations or business's. As we are all aware, the BILLIONS of TARP funding handed out has been totally misused. If these banks, automakers etc, can afford to pay excessive salaries and bonus's. Then they should not have requested, or received TARP funds in the first place. No more bail outs. PERIOD.
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10-21-2009 @ 12:25PM
Hoxsie454 said...
The big banks are not consumer friendly. Unless you run a company that has a thousand employes and does multinational business, you cn do better with a credit union or a locally owned community bank.
Geithner would do well to work hard to minimize his supercilious demeanor and maybe go back to the Manhattan financial mill from whence he came.
Break up the fifty largest banks in this country and get back to the basics where decisions are made in local board rooms by local businessmen, not by congressional committees.
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10-21-2009 @ 3:19PM
Donovan said...
If the banking regulators had been doing their job, the financial meltdown of our banking system, should not have transpired in the first place.
As for splitting up the banks. Excellent idea. However, That all depends on who our Government thinks this would be in the best interest of. If its in the best financial interest of the American people, Government, and global economy. I say Split em up. And the faster this is done, the better. Much easier to deal with smaller financial failures. As opposed to huge financial collapse's.
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10-21-2009 @ 1:24PM
Jim said...
It's a big world out there. That's why we call it the global economy and that's why we need big global banks. Breaking them up just puts us behind the eight ball. And Glass Steagall is no answer, at least not the way it was. Look at recent profit and loss statements for Bank of America and the like. In this age of debt securitization, the investment arms of these outfits are the only ones making money. We have a world-wide financial system. The old days of your friendly neighborhood bank, like your friendly neighborhood doctor, are gone. They vanished with the information revolution. Poof!!! Yes, we need reform, but we don't want the old fashioned prohibitions of yesteryear.
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10-22-2009 @ 7:38AM
postmodernprimate said...
"It's a big world out there. That's why we call it the global economy and that's why we need big global banks. Breaking them up just puts us behind the eight ball." - Jim
That's not an argument, it's a sales pitch. 'Big Banks for a Big World'
"And Glass Steagall is no answer, at least not the way it was. Look at recent profit and loss statements for Bank of America and the like. In this age of debt securitization, the investment arms of these outfits are the only ones making money." - Jim
This is exactly why Glass Steagall was enacted in the first place. To protect people's deposits from the kind of speculative activity our major banks are currently engaged in. If less available credit is the price we pay for ending a policy of risk free investment banking/federally insured hedge funds then the cost will surely be dwarfed by the inevitable bailouts that are a certainty if we leave the policy in place. Besides, why should we assume that lending won't increase when we stop giving money to TBTF banks that have blown a giant hole in their balance sheets? We don’t really need these giant gamblers. We don’t really need JP Morgan, Citi, Bank of America, Goldman Sachs or Morgan Stanley. What we need are dedicated lenders.
10-21-2009 @ 2:21PM
Unemployed said...
Where is the money to help the UNEMPLOYED people stay in their homes????????????? We don't deserve to be foreclosed on when we wanted to work and to no fault of our own got laid off!!!!!!!!!!! This is not helping the unemployed people to make their mortgage payments...SOMETHING NEEDS DONE and needs to be done NOW!!! Banks won't even talk to you or want to help in any way when you are unemployed, this is very unfair to the American people because when they needed bailed out that got it, Meanwhile the Unemployed need a life-line and there is none!!! WAKE UP WASHINGTON and help those of us who are looking for work and want to keep our homes! Every unemployed person needs to call their Representatives and ask this question and demand something be done. Pennsylvania has a program for the Unemployed to stay in their homes called Hemap why can't other states have the same program to help the Unemployed till we can find a job instead of taking our homes away from us!!!
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10-21-2009 @ 6:36PM
John Galt said...
"Where is the money to help the UNEMPLOYED people stay in their homes????????????? "
You should be asking where are the policies aimed at creating jobs? I do not see any.
Again, you should be pushing for policies that will create more jobs, like say, suspend the payroll tax for the next fiscal year.
Jobs are the only thing that will help unemployed people, not government handouts, the latter would just lead to more unemployment.
Free homes for the homeless? Yea, why don't we just create jobs? We do not need any bailouts! Now or before!
Your ideas will just lead to more unemployment, sorry Mr. Unemployed, but I think you need to do some more thinking...
10-21-2009 @ 3:53PM
david calabrese said...
I stopped using banks and went to credit unions when the
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10-21-2009 @ 6:49PM
Vince said...
In the old days, each of our financial institutions were restricted in some regard to allow for a semblance of fair competition among them and to regulate their exposure to reasonable risk. The purpose of this was to establish the boundarys that each institution could operate within without stepping too hard on their competitors toes. But this level playing field was changed in 1999 when the Glass/Steagle Act was repealed. Unfortunately, this opened up Pandora's box that eventually left us with the mess we are in now. But this experience proves that our business leaders can't manage this kind of freedom without sucumbing to temptations not easily controlled. It also proved that our regulators needed more amunition to controll our ambitious CEO's from destroying the universe out of sheer greed. Couple this with incompetent and integrity deprived politicians (Frank, Dodd Shumer, Pelosi,Reed), to name a few, and you get instant financial ruin. Now we have a number of Monday morning quarterbacks who have all the answers albeit a little late. The point is that Glass Steagle was passed for a reason that worked pretty well for a long time. That is, until our leaders decided, with a little help from their friends, to allow all this pent up creativity to blosso
And now, after the fit hit the shan, these quarterbacks want to recreate the wheel. I say just beef up the authority of the regulators and give them enough firepower to get the job done right.
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10-21-2009 @ 7:07PM
Allen said...
You ever wonder why the Bush Administration changed the bankruptcy laws a few years back? So the big banks wouldn't have to take in the shorts so bad knowing the industry was headed for disaster. We are already paying them with the bailout money, big bonuses, etc. the Banks aren't really working with the "Making Homes Affordable Program. The last satistics I saw a couple of weeks ago were somewhere in the range of: JP Morgan (Chase) 18%, CITI Group 22% and BofA 11%. Of course we know why BofA is behind, there to busy gathering documents for the NY States Attorney's office and the SEC. Oh yea, and Chase is to busy gathering documents on the WAMU frontline. They don't want to write down these mortgages to make them affordable that leves more money in the till for them to wirte off the bad debt against the bailout money, the hole time raping the consumer with massive numerous overdraft fees, excessive interest rates and taking your property on a short sale only to re-sale it at a later date when the market rebounds, offeriing new loans with 50% down, shadowing the majority of the foreclosed homes from the market etc. Now you know why bankruptcy filings were up 41% last month.
Oh yes and these debts will written off againt the bailout money.
Wake up Congressmen and Represenatives, you have got to do something with these Banks and do it fast. I say send 50% of the IRS auditors in their offices and shake 'em up they have at least 4 to 5 months of work before the new tax season (2009) and we have to pay'em anyway.
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10-21-2009 @ 7:38PM
DC said...
First of all.....all of you that think there is some kind of disconnect between you and the financial/banking industry, you are wrong, wrong, wrong. When banks fail, businesses/entreprenuers can't startup or get operating loans, and people can't get home loans and have safe/insured places to put their money. When businesses can't get loans they lay off workers and/or go out of business. When workers get laid off they stop buying things and the economy stops and state/local/federal governments can't pay for things like police, fire departments, hospitals, roads, national defense etc etc. This wasn't just a wallstreet and banking problem. This was EVERYONE'S PROBLEM. The majority of Tarp funds are going toward their intended purpose: helping the banks balance their balance sheets so that they don't become insolvent and we don't have 30% unemployment. Did a minority abuse the funds and continue wreckless practices? Yes, but that is not a condemnation of the program as a whole. Remember that.
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10-26-2009 @ 4:27PM
robert pozen said...
This blog has my position half right and half wrong. I do not think it is feasible to reinstate the barriers in Glass Steagall Act. But I do believe that very large banks should be subject to higher capital requirements, together with extra loan loss reserves. I also feel strongly that the federal government should not have bailed out 600 financial institutions under the vague rubric of too big too fail. We need a more disciplined and transparent process for deciding whether and how to bail out any financial institution. All of this is laid out in my new book, Too Big to Save? How to Fix the US Financial System, which will be published by Wiley on November 6. See materials at
http://bobpozen.com
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