What if there were no “too big to fail”? Fed’s Hoenig has a vision
Democrats and Republicans alike on Capitol Hill say they want to toss out the concept of “too big to fail” in the financial regulation reform they are tussling over. That way if a financial firm is going to go under, it will go under, with no thought for a taxpayer handout.
Since the concept of “too big to fail” has yet to be erased by law, and its demise yet to be tested by a failing financial institution, it was interesting to hear how Kansas City Federal Reserve Bank President Thomas Hoenig envisioned the financial industry without that concept to lean on.
Looking back in time — “If you had a clear resolution process, and you had clear rules on leverage,” a domino-like string of large bank failures may have been less likely.
“And if the other institutions were sound but only had liquidity problems, the discount window could have been and would have been used in those instances,” he said at a Reuters Global Financial Regulation Summit.
“So, I don’t know the counter-factuals, but I know there’s a reasonable case to say if the market knows the rules are firm, that the resolution process is under the rule of law, that you will be held accountable, and here are the steps we’re going to take, would you have had the same outcome?”
“If you cannot say that we can address this, then you need to break them up,” he said.
Hoenig sees financial regulation reform as a measure of prevention that will mitigate another banking crisis. “But no one can guarantee anything. But I do know that if we don’t address it, then I know exactly what the outcome is.”
What are the risks if financial reform is not done the right way?
Hoenig saw continued consolidation, a less competitive environment, and “the outcome will be long-run negative for this country.”
Photo credit: Reuters/Jim Young (Kansas City Federal Reserve Bank President Thomas Hoenig at Reuters Summit)