Wednesday, July 02, 2008

Not too big to fail? Worldwide:
"`We need to create a resolution process that ensures the financial system can withstand the failure of a large complex financial firm,'' Paulson said in the speech excerpts distributed by the Treasury to reporters traveling with him in London.

The Treasury chief noted while there is a resolution mechanism for commercial banks, there is no such process for securities firms. Federal Deposit Insurance Corp. Chairman Sheila Bair has also urged that an agency be given power to take over and liquidate investment banks in an orderly manner. The FDIC has that power over lenders whose deposits it insures."

Let me confess that teaching Financial Institutions and Markets is not my favorite (although much better than its counterpart Money and Banking). That said, there are times that I wish I were still doing it. This is one of those times since the class room discussion over this would be very interesting. FTR I agree. I think large firms should be allowed to fail and if the current system is such that the cost of failure is too high, lowering it (either by allowing a more orderly liquidation or other means) is a worthy endeavor.


Anonymous said...

How do you feel about allowing Fannie or Freddie to fail?

RP said...


While the concept of FDIC deciding that some agency take over control of Investment Banks in case of a failure seems to be a good idea, especially because when such huge banks fail, it is bound to bring world-wide chaos, as there are going to be numerous big-time investors involved.

But I think the Treasury must concentrate more on increasing the Regulations for these Investment banks. The Treasury must appoint agencies which continuously monitor the activities of Investment Banks, mainly for the following 2 reasons:
- The activities of these banks have a world-wide impact.
- Owing to the severe competition emerging amongst these banks, there will always be a mad rush for investing money in areas promising much higher returns, often overlooking the underlying risks involved.

Moreover, the Treasury must also frame strict rules for Risk Management policies adopted by these big banks.

“Diversification is a protection against ignorance. It makes little sense for those who know what they're doing – Warren Buffet”