Inside Financial Services

Breaking Up the Big Banks Is Still A Bad Idea

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The push to break up the big banks just won’t die, and is turning into a bit of a cottage industry among a certain circle of regulars and academics who apparently enjoy seeing their names in newspaper stories. On May 16, Minneapolis Fed President Neel Kashkari, a leading big-bank skeptic, will hold the second of his too-big-to-fail summits (the first was last week), this one to be attended by none other than Ben Bernanke. It should be a riot.

I know bad ideas take a long time to die, but this is getting ridiculous. First, no, it wasn’t the big banks’ size that caused (or even contributed to) the credit crackup of 2008. (Massively deteriorating mortgage credit was the problem.)  And, no, a financial system populated by a few large institutions isn’t inherently less stable than a system made up of many smaller ones. If you doubt it, look at Canada and Australia. And, no, the benefits of broad diversification don’t stop existing when the business in question is a bank. Most large institutions came through the recession and panic without missing a beat precisely because they were so large and diversified.

So breaking up the big banks won’t improve anything. In the meantime, the large banks are better-capitalized and more closely regulated now than they were during the inflating of the housing bubble, so that even if some deranged banker somewhere wanted to blow up his institution on purpose, he probably wouldn’t be able to get away with it.

But here’s what’s perhaps the most important point of all: a breakup of large U.S. banks won’t, by some sort of magic, eliminate the demand for the large-scale, broadly arrayed financial services that only large banks can provide. Pick your favorite Fortune 500 behemoth. ExxonMobil? IBM? These are companies that do business in many, many countries around the world in many, many currencies. Their liquidity needs are gargantuan. They like to be able to hedge things, like fuel prices, say, or interest rates, on a massive scale. They have tens of thousands of employees who enjoy being paid on time.

I could go on, but you get my point. These sorts of corporate financial needs simply won’t be met—can’t be met—by clusters of smaller banks. Instead, if the big banks are broken up the way Kashkari and the rest want, the ExxonMobils and IBMs of the world will simply take their business to the large non-U.S. banks, who’ll be perfectly happy to receive it. Those banks’ U.S. units will balloon in size. If U.S. regulators try to downsize those units the way they want to downsize the big domestic banks, then large-scale corporate banking business will move offshore entirely, beyond the reach of U.S. regulators. That will cost jobs, economic growth, and the general availability of credit. I can’t imagine that there’s anyone who thinks that’s a good idea.

In his letter to shareholders this year, Jamie Dimon provides a ringing and persuasive defense of the large banks that is very much worth your while. (The whole letter is, for that matter.) The people who’ll be gathering in Minneapolis next month all ought to read it. A breakup of the large banks would solve absolutely nothing.

What do you think? Let me know!

4 Responses to “Breaking Up the Big Banks Is Still A Bad Idea”

  1. Dave S.

    Totally agree with your comments. The larger banks play an important role in servicing our largest corporations with international operations. The regulators are intensively overseeing the risk profile of the major banks and the banks are better capitalized and more diversified from a risk standpoint as a result. There is little to be gained by breaking them up and significant potential negative impacts for the economy.

  2. SW Pilgrim

    Let’s not forget that the big Banks picked up the feds’ slack in Countrywide, Merril, Wash Mutual, Bear Stearns, & others. However, next time around they are unlikely to be the passive stuffees they were with CEO motivation of big for big’s sake & doing the feds a “favor”. Not a one with emerging market default experience.

  3. etoleary

    It’s not necessarily the size so much as it is the complexity of the business model. Exhibit A is the problem the Fed and the banks are having communicating about living wills.

    Fortunately, the large banks have taken steps to make themselves less complicated and hopefully, less risky. Dodd-Frank has not ended the TBTF issue. There have been interesting articles in the financial press very recently discussing the sorts of risk that continue to “inhabit” bank balance sheets.

    Size is usually a benefit, not a problem. Dimon’s recent comments make a lot of sense and should be read carefully by the likes of Elizabeth Warren.

  4. Anonymous

    The government will make whole the creditors of the big banks. This is moral hazard writ large. I have yet to hear of a solution other than breaking up the banks. Spinoffs work in the industrial sector.

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