Should The Government Start Breaking Up Too Big To Fail Banks?

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The irony of the failure of some of Wall Street's biggest institutions to manage risk properly is that the consolidation of banks and brokerages--which many cite as exacerbating the crisis--is likely to accelerate. Indeed, it already has, with JP Morgan Chase swallowing Bear Stearns. Increased regulations and government oversight, which increases the overhead costs of compliance, are likely to increase the pressure to consolidate.
But shouldn't it be the other way around? Shouldn't the government begin to wonder what can be done so that the failure of a single bank or brokerage doesn't necessitate extraordinary government intervention? In a new essay in the Washington Independent Jonathan Macey, a professor at Yale Law School, argues that the government should use antitrust laws to break-up "too big to fail" banks.
After the jump, Macey's plan and why it won't work.


The government should have noticed prior to the bailout of Bear Stearns that it was too big, or too interconnected to fail, Macey says. It ought to have used its powers to break-up Bear--and similar financial institutions where financial power had become too concentrated-or imposed additional regulations to provide for its safety. Instead, by bailing out Bear and its counterparties, the Fed risks creating severe distortions in the capital markets by implicitly protecting large financial institutions from failure.
"So the government is now in the business of insuring investment banks as well as commercial banks -- one it should not be in. If investment banks are really too big, or too "interconnected," to fail, then the antitrust laws should be deployed to fix the situation by breaking them up," Macey writes. "Barring that, the government should, at a minimum, organize the same sort of coherent system for dealing with investment bank failures that it has for commercial bank failures."
Barring that is cute. Of course that option is barred. What major bank or brokerage isn't too big to fail these days? What Macey doesn't touch on is that the underlying dynamic of regulation doesn't give much hope for the kind of decentralizing reform he seems to prefer. Indeed, many of the reforms being considered--licensing mortgage brokers, requiring additional reporting, greater capital reserve requirements--are likely to lead only to further consolidation.
Was Bear Stearns Too Big to Fail? [Washington Independent]
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