Too Big To Fail

Just in case you believed all the BS around the passage of Dodd-Frank that in the future there would be no such thing as too big to fail, just look at yesterday's JP Morgan hearings in Congress.  

U.S. lawmakers on Wednesday interrogated J.P. Morgan Chase Chief Executive James Dimon in a much-anticipated and sometimes-heated exchange after the bank registered more than $2 billion in derivatives losses

No one grills Exxon-Mobil executives when the company loses a couple of billion to a nationalization somewhere or grills Sears executives as the blunder their way towards bankruptcy.  These are private business losses.  The only reason to grill JP Morgan is if Congress still considers the American taxpayer to be ultimately on the hook for trading losses (above and beyond deposit insurance requirements, which the Bear Sterns and AIG bailouts certainly were).

  • LarryG

    Well Sears and Exxon won't take the country down with them...right?

    Look at FDIC for a govt model to protect depositors AND non-depositors who can be hurt if a bunch of banks go down and panic ensues....

    FDIC is often ignored as one of the more successful regulations that has worked remarkably well ....and has a solid reputation and is trusted such that most banks tout their FDIC status.

    I notice that even well known politicians that are now hawking reverse mortgage products make sure the audience knows that they are Govt Insured.... Now why would such guys who openly diss the Govt and it's regulations go on TV and convince would-be customers that a product is a good product because the govt stands behind it?

    How about all the Pharmaceutical drugs? FDA-approved.... right?

    how about nutrition labels? People design their diets around the disclosed nutrition info.

    here's the deal. The govt cannot stop ANY and ALL companies that fail including the "too big to fail". But that does not mean that they can have a strong beneficial impact.

    It's a hard argument to say "it would have been worse" but that's exactly how FDIC has operated ever since the depression. It's doesn't prevent banks from going broke but it does safeguard them from turning into a wildfire.

  • BFD

    It is an election year.

  • Matt

    @LarryG,

    FDIC prevents local panics by making the depositors (Not the bank itself whole). However, there is good reason to believe that if there ever were to be a repeat of the nation wide bank run at the start of the great depression that FDIC would NOT be able to cope.

  • morganovich

    bfd-

    exactly. that's the reason. it's cheap political points and a no lose for the attackers. if something bad does happen later they can say they told you so and claim to have been on the right side, if nothing bad happens, they can strut and pretend they "brought jpm to heel".

    it's cheap politics.

    it's also unnecessary.

    http://www.law.harvard.edu/programs/about/pifs/symposia/europe/baer.pdf

    this plan used jpm as a case study for orderly liquidation.

    with some foresight, it can be done.

    but all this JPM criticism is just grandstanding.

    the system just worked.

    jpm took a big loss. but they will still be profitable this q. their shareholders lost money, the traders and managers lost bonuses, some lost their jobs, no one else was harmed, and life goes on.

    what's the big deal here? why is this an issue congress even looked at? there was nothing even remotely resembling a systemic threat here nor anything that even brought JPM to within 4 billion of losing money this q. this loss was maybe 10% of their annual profits. since when is a 10% loss some dire crisis?

    this is pure election year grandstanding.

  • http://EasyOpinions.blogspot.com Andrew_M_Garland

    Any good effect of government deposit (investment) guarantees has to be balanced against the costs and the systemic bad effects. The FDIC is in trouble ( moneyteachers.org/FDIC.html ) and has cost $100+ billion from time to time above the insurance premiums which it collects from banks.

    The movie "It's a Wonderful Life" is interesting.
    In the bank run scene ( youtube.com/watch?v=qu2uJWSZkck ) James Stewart explains to the crowd that their money isn't really in the bank, it has been lent out to build houses. This is news to them! They thought their money was safe in the back room, and now they are told it is gone, dependent on the bank staying in business. That is reassuring.

    Consider, would anyone loan money to a bank (make deposits) without the government guarantee? I wouldn't. I would find a pure vault and checking service and pay $100 per year for the service. Of course, banks might devise a private system of deposit (investment) insurance which would meet the demands of risk depositors.

    One could argue, this shows that the guarantee is absolutely necessary. I say that it shows the primary instability of US banking and the fundamental fraud that keeps banks going in their current form.

    If you want interest on a loan, then there is risk. Banks have transfered their risk onto the government to the extent that their FDIC premiums are not sufficient to pay for bank failures. They have transferred a lot of risk. Worse, each bank is encouraged to take excess risk both to meet political pressure and to make extra profits. Heads they win, tails we lose.

    Government is not merely intermediating, that is enabling a voluntary market which might not otherwise exist. Instead, government is subsidizing an industry where the depositers are ignorant of what is going on. The depositors do not really want to "invest" their money and take risks. The bank dearly wants to make money from lending out these deposits, but does not want to bear the full costs of doing this.

    So, have two types of account,
    • Checking: The money is in the back room and the bank handles checks or debit cards for the depositers for a fee.
    • Investment: (Dont' call it savings) The bank accepts your money on terms that match its investment portfolio and you recieve interest, dividends, gains, and losses as earned, like a mutual fund.

    Under this system, everyone would get the results which they expect and there are no bank runs or bailouts. Yes, there would be much less investment through banks. The availability of capital would match the preferences of depositors, and government would not be a shadow investor commandeering resources to support a favored industry and government social planning.

    Our recession was promoted by collapsing home prices and mortgage losses, after an extended period of government providing easy money and guarantees to support Fannie Mae, Freddie Mac, and the entire banking system. The government is still doing this. The bad housing policy was designed, encouraged, and required by government, mostly by Democrats.

    The government's ability to issue guarantees is an unlimited, off-budget, extremely dangerous power. Guarantees were granted to Fannie Mae and Freddie Mac (among other institutions) above and below the table. They used these guarantees to borrow and lend massive capital resources. This power was used unwisely to build houses that could not be paid for. This has caused our financial crisis.

    We Guarantee It - The Government Caused the Economic Crisis