Categorized | economy

Paul Volcker agrees with me (kind of sort of)

Okay, Paul Volcker doesn’t know me from a turd on a Toronto street (though I’ve talked with the neither jolly nor green giant a couple dozen times back in the eighties, but he has talked with tens of thousands of somebodies and and twice as many nobodies, so it means nothing), but way, way back in October, I posted an instantly ignored comment to one of Justin Fox’s posts on the Wachovia-Wells Fargo merger (don’t they respond to their commenters? Sheesh.). Here’s the text of my comment from October 3:

Has anyone noticed that, with these bargain basement acquisitions, we’re going the wrong way in terms of overall risk? We put federal resources for Fannie Mae, Freddie Mac, and AIG because they were “too big to fail.” Have the new big three of Chase, Wells, and BoA simply created just three more “too big to fail” financial institutions? Couldn’t we argue convincingly that the growth of creative and complex financial instruments directly correlates with the centralization of the financial system and the creation of mega-institutions with massive amounts of capital? That the sheer size of these institutions also allows them to more indomitably push back against the regulations and controls that are, well, in everybody’s best interest? Sure, these mega-mergers are getting taxpayers off the hook for now, but aren’t we reproducing the problem in order to solve the problem?

Now, I read mucho, mucho articles, papers, newspapers, and scholarship on economics and just about every aspect of business, and I had chalked this one up to my typical quirkiness since no-one anywhere was commenting on how we were just creating more “too big to fail” institutions.

Well, I spent the better part of this afternoon reading Paul Volcker’s “Group of Thirty” Report, “Financial Reform: A Framework for Financial Stability” on fixing the financial system so that we don’t have a meltdown like the one we’re experiencing now. Since Obama, unlike our dear, departing President, seems like the sort to actually take advice, you’re probably looking at a pretty fair outline of the future of the financial industry.

The lightning strike is Recommendation 1d (see, everyone, I’m not the only person with crazy ideas!):

To guard against excessive concentration in national banking systems, with implications for effective official oversight, management control, and effective competition, nationwide limits on deposit concentration should be considered at a level appropriate to individual countries.

Is he saying banks shouldn’t get “too big to fail”? Indeed. More after the break.

In a news conference, Volcker was asked about this recommendation and replied:

“Keep them small, so that any failure won’t have systematic importance.”

Which is what I’ve been saying for four months.

We’ve been looking to save bailout money by getting big banks to buy the banks “too big to fail”. Leaving us even too bigger banks to fail. We’ve been going the wrong way. Or, as Shrek says, we’ve been “going the right way to a smacked bottom.”

But, as you can see from my comment to Justin Fox above, I’d go much further. Large, mega-institutions create excessive pools of capital which encourage greater risk. And, more importantly, leave fundamentals behind. Yes, some small banks are failing, but far more are doing just fine, thank you. In fact, all the banks featured in a recent New York Times article as making out like bandits with TARP money are small banks.

Most importantly, from a political standpoint it’s easier to regulate many smaller institutions rather than a few very big ones. The outsized influence that mega-banks like BoA, Chase, and Wells Fargo exercise on legislators and regulators will move political winds away from the recommendations Volcker outlines. Keep in mind that every piece of legislation that either conservatives or liberals point to as “the cause” of the problem (like the partial repeal of Glass-Steagal), were pushed, prodded, and paid for by the large banks. “Too big to fail” can also be translated to mean “too big to write any rules for.”

Keep in mind that there’s such a thing as “good economic policy” on the one hand and “what politicians do” on the other. Decentralizing finance may lower overal economic productivity, but it means that financial institutions will pursue ends more in everyone’s long-term interest — including their own — than having a few bullies on the block slapping around any government regulation that gets in their way.

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