Jeff Gelles: Time to take on 'too big to fail'?

Former Delaware Sen. Ted Kaufman (right), with former Treasury Secretary Tim Geithner, thinks the time has come to break up big banks.
Former Delaware Sen. Ted Kaufman (right), with former Treasury Secretary Tim Geithner, thinks the time has come to break up big banks. (Bloomberg News)
Posted: March 18, 2013

What was the biggest shortcoming of 2010's massive Dodd-Frank financial reform - a flaw that still threatens the U.S. economy and all who rely on it?

One answer pops up with remarkable consistency from across the political spectrum: the belief that the law didn't actually solve the problem that some financial institutions are so large that they're "too big to fail."

Tea party favorites such as Sen. Rand Paul (R., Ky.) have warned against it, as have conservative pundits such as George Will and Peggy Noonan - making unusual common cause with liberals like former Labor Secretary Robert Reich, Columbia University economist Joseph Stiglitz, and former Sen. Ted Kaufman (D., Del.).

They share a concern that some institutions - especially four megabanks that now each count more than $1 trillion in assets - are still protected by an implicit guarantee that the government will step in to stop their collapse.

That's what happened in fall 2008, when the growing financial crisis pushed Lehman Brothers into bankruptcy while the administration of President George W. Bush stood by. To avoid further panic - and prevent what some feared would be another Great Depression - Bush switched course. His Treasury secretary, Hank Paulson, teamed with Congress and the Federal Reserve on emergency steps designed to prevent a repeat.

The legislation sponsored by Sen. Chris Dodd (D., Conn.) and Rep. Barney Frank (D., Mass), to be fair, sought to end "too big to fail" - not by addressing "too big" but by insisting that teetering banks face an orderly failure rather than a bailout. It established a process for regulators to resolve the affairs of even the largest, most complex institutions, much as the Federal Deposit Insurance Corp. takes over insolvent smaller banks.

It's an elaborate mechanism that won't truly be tested till we face the inevitable next crisis - when the collapse of another "systemically important institution" threatens calamity.

But there's always been another, simpler approach - one that Kaufman championed during the Dodd-Frank debate: breaking up the largest banks. And Kaufman, for one, thinks its time may have finally arrived.

Back then Kaufman joined Sen. Sherrod Brown (D., Ohio) in sponsoring an amendment called the SAFE Banking Act, which failed on a 61-33 vote - opposed by most Republicans, many Democrats, and President Obama's Treasury secretary, Tim Geithner.

What's changed? I put that question last week to Kaufman, a Philadelphia native who has an MBA from the University of Pennsylvania's Wharton School and served for 19 years as Joe Biden's Senate chief of staff.

The biggest difference: "Brown-Kaufman" is now "Brown-Vitter" - named for its new cosponsor, Sen. David Vitter (R., La.), a conservative who shares his concerns and is willing to push for a bank breakup.

Vitter is hardly alone, though the extent of that may be tested this weekend. On Saturday, Dallas Federal Reserve Bank President Richard Fisher is expected to make his own case for limits on banks' size before an unusual audience: the annual Conservative Political Action Conference.

"To me, this is something that should appeal to a group that is as conservative as this because it's a Main Street argument," Fisher told the Wall Street Journal last week. "They don't like concentrated power."

Kaufman says Dodd-Frank's inadequacy has become increasingly evident, as megabanks have grown larger and as Wall Street has resisted the rule, named for former Fed Chairman Paul Volcker, designed to prevent them from speculating - gambling - with depositors' money.

The stunning $6 billion loss by JPMorgan Chase's "London Whale," defended as a "hedge" by CEO Jamie Dimon, is a case in point.

"He continued to pour money into a position that he was losing money in," Kaufman says. "Jamie Dimon said it was a hedge, but you don't hedge to make money, you hedge to protect yourself from a greater loss."

If Kaufman were czar, he says, he'd also reimpose Glass-Steagall, the 1930s law that separated commercial banking from investment banking. It worked for 60 years before its 1999 repeal, "and then we hit a rock."

But one big step at time. Right now, Kaufman says, we need to recognize that too big to fail is also too big to manage and too big to resolve. Better to solve it before we hit the next crisis.

Contact Jeff Gelles at 215-854-2776

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