Last night the Treasury and Barney Frank, head of the House
Financial Services Committee,
unveiled a draft of legislation intended to address the
regulation of "too big to fail" banks and financial institutions.
The main provision of the jointly-written legislation would be to
impose the costs of bailouts of a systemically-important firms on
other big firms. Regulators would assess companies with more than
$10 billion in assets with fees to go into a pool to finance
bailouts of other "too big to fail" banks.
The idea is that any firms large enough to warrant an implicit
bailout should bear the costs of any similar bank that is bailed
out because regulators consider it too big to fail, thereby
sparing taxpayers the bill for rescuing companies that took on
too much risk because they knew the feds had their back.
The New York Times is
reporting that the assessments for the bailout fund would
only be levied after the collapse of a systemically
important firm.
Initial thoughts:
1. This plan would give big banks incentives very similar to
those that Fannie and Freddie faced. Once firms reach the
arbitrary $10 billion cutoff, they know that they have socialized
risks. Bank managers will not care if those risks are shared with
other large financial institutions or the general public. In
other words, the regulators will create an identifiable group of
firms that are designated to receive bailouts in case of a
collapse.
2. The provision that the assessments for the bailout fund will
only be made after a firm collapses seems like a large drawback.
Consider that the recent collapses happened because the industry
as a whole was on the verge of a collapse. If this measure had
been in place when Bear Stearns was going under, would regulators
really have considered going to other banks and asking them to
draw on their own weak balance sheets to fund the bailout?
Wouldn't it be more likely that banks would get them to suspend
or postpone the assessments?
3. The overall solution is much more palatable for the financial
industry than a Glass-Steagall II or firm size-restriction
measure would be.
More on this topic soon.
