Spitzer vs Big Finance, Part 2

Eliot Spitzer is blogging! Or he has a column at Slate, anyway:

For years, we have accepted a theory of financial concentration–not only across all lines of previously differentiated sectors (insurance, commercial banking, investment banking, retail brokerage, etc.) but in terms of sheer size. The theory was that capital depth would permit the various entities, dubbed financial supermarkets, to compete and provide full service to customers while cross-marketing various products. That model has failed. The failure shows in gargantuan losses, bloated overhead, enormous inefficiencies, dramatic and outsized risk taken to generate returns large enough to justify the scale of the organizations, ethical abuses in cross-marketing in violation of fiduciary obligations, and now the need for major taxpayer-financed capital support for virtually every major financial institution.

This is quite right. Spitzer doesn’t explain how we can undo what we have done — he prefers to say that we should never have allowed ourselves to get into this situation in the first place, which is true, but not particularly helpful. But he does seem to think that the big banks should be broken up:

Imagine if instead of merging more and more banks together, we had broken them apart and forced them to compete in a genuine manner. Or, alternatively, imagine if we had never placed ourselves in a position in which so many institutions were too big to fail. The bailouts might have been unnecessary.

This is the diametric opposite of the US government’s present strategy, which is to encourage consolidation at almost any cost. The problem is that breaking up banks is non-trivial, to say the least. And breaking them up into pieces small enough that they’re no longer too big to fail — that’s really hard. The fact is that many consumers want their bank to have a global presence, and a large number of the rest want at least a national presence. And it’s pretty much impossible for any bank to be in many states at once without being too big to fail.

I can’t, off the top of my hand, think of a single country which has an efficient banking system and which doesn’t have banks which are too big to fail. The fact is that bank failure is always a systemic risk — and even if no bank is too big to fail, there’s a good chance that they’ll all be making more or less the same loans, which means that collectively they’re all prone to fail at the same time anyway. That’s what happened in the S&L crisis, here in the US.

The answer, I think, is not breaking banks up, but rather regulation with real teeth. Is that possible? The case of Spain seems to imply that it might be. But the US, of course, isn’t Spain, and we’ve never had tough regulators here. Spitzer made his name by stepping in as New York attorney general where the regulators feared to tread: he knows this better than anyone. Which is maybe why he reckons that only breakups will work.

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