So Banks Think There’s No Such Thing as “Too Big to Fail” – The Audacity of Dopes

On Friday the 13th, the Chairman and CEO of J.P. Morgan Chase decided to weigh in on whether a bank could be too big to fail. I’m sure you’re on the edge of your seat wondering which side of this argument he’d be on. I know I’ve been breathlessly waiting for one of the titans of Wall Street to tell me what the best way to regulate their businesses would be. Thank heavens I finally know what to think!

Before we evaluate the points, let’s consider the timing and the source. This op ed wasn’t benevolently shared with us in the 4th quarter of 2008 when the survival of the banking sector (especially the larger players) were in public question; no. . . Rather, we have it from him now in the 4th quarter of 09. How brave and forward thinking (sarcasm). And, we’re hearing this from an institution that received an undisclosed amount of insured aid for the purchase of Bear Stearns before they received 25 billion in federal assistance to stay afloat during the hardest times. J.P. Morgan Chase would say that they purchased Bear Stearns at the request of the Treasury and FED and I’ll give them that. But, if they assert that they didn’t need the TARP funds, just remind them of March 9th when they made Paul Kangas’ Stocks in the News as they plummeted to $14.96 a share from their 6 month high of $49.85. They might assert that they led the pack in paying back their assistance but that came on the heels of complaints about bonuses and a 138 million dollar announcement for purchase of corporate jets and hangar renovations (another great moment for an op ed).

The good Chairman and CEO uses 886 words to basically make 3 points:

1. That we should be, “creating the structures to allow for the orderly failure of a large financial institution starts with giving regulators the authority to facilitate failures when they occur.” He expounds on this point stating that these structures require, “effective international cooperation, as the implications of a major financial institution’s failure are global.”

2. “Scale can create value for shareholders; for consumers, who are beneficiaries of better products, delivered more quickly and at less cost; for the businesses that are our customers; and for the economy as a whole.”

3. That by capping the size of banking institutions, somehow banks wouldn’t be able to adequately service multinational corporations.

All of these points are erroneous.

To point number 1:

This is the most laughable of the 3 arguments. The institutions that are or have been used to facilitate orderly failures of banks in the past are too small and underfunded to enable the orderly failure of a bank like J.P. Morgan Chase. In the wake of the S&L crisis, the Resolution Trust Corporation or RTC handled 394 billion in total assets over 6 years. Hmm, let’s see, J.P Morgan Chase’s assets total over 2 trillion and with all the griping from the US tax payer on funding the RTC, TARP, the Emergency Economic Stabilization Act of 2008 and the like, you can bet they’re not going to reach further into their wallets for the likes of those kinds of funds.

So why not the FDIC? They can handle it, right? In 2007, the FDIC had to manage 2.6 billion in assets. In 2008, 371.9 billion. How about 2009? See for yourself. As breathtaking a list as that may be, it’s nothing compared to J.P. Morgan Chase’s balance sheet. Short of having a bake sale, the FDIC has had to require a 3 year prepayment on their insurance fees from participating banks.  So no, they couldn’t take on a J.P Morgan Chase-like balance sheet if they wanted to.

But never fear, the good Chairman and CEO has a solution for this too! We’ll use international cooperation to cure the modern day shortfalls of existing institutions. Yeah, that worked really well when we needed troops in Afghanistan. Amongst deflation, one of the greatest fears during times like these is economic protectionism and we’re supposed to rely on international cooperation to solve the next banking crisis? I think not.  In times like these you couldn’t get an international organization to manage the orderly failure of a lemonade stand.

To point number 2:

I’m not going to spend a lot of time on this one because it’s a hardly defensible position (it’s notable that not much ink was spent on it in the op ed either). Legitimate competition to the big four include credit unions staffed with as few as 4 persons, boutique investment houses and one person mortgage brokerages. Seriously, J.P. Morgan Chase competes with institutions like that.  With competition like this, who needs size of the kind J.P. Morgan Chase recommends? Theories of savings in financial instruments through size and vertical integration have not materialized. That day may come but despite many promises, it never has. Service delivery speed, at best, is the same as smaller firms and far less personal.

To point number 3:

A lot can be learned from the retort to point number 2 if one wants to understand why point number 3 is baseless. Point number 3 assumes that technology doesn’t innovate and that regulators are so dumb that they’ll shrink banks such that they can’t service the General Motors, Dell’s and 3M’s of the world. While I am periodically dumbfounded at legislative stupidity, you can bet that legislators aren’t going to do anything that would injure these companies. Further, I am continuously astounded at what the tech sector continues to bring to delivering and managing financial products and I’m confident that these products will meet the needs of tomorrow regardless of the size of banking institutions.

Perhaps a case could be made that the largest 100 or so credit instruments offered by each of the big four banks couldn’t be done the way they currently are under a new regulatory regime and that may be true to a certain extent. What is not true is that these instruments couldn’t be made at all under the new, not too big to fail bank structure. The banks would simply have to use participation to get the instruments completed. I guess John Stumpf and James Dimon will have to share.

Look, I don’t want to pick on Dimon. I commend him for writing this op ed because heaven knows the other 3 of the other large banks are thinking the same thing. I’m also not one of those torch-waving, pitchfork-wielding people that blame Wall Street bankers for the credit crunch. There’s a ton of blame to go around on that one. I’m picking on all of the big banks for how selfish, short-sighted and intellectually bankrupt their solutions for a new regulatory regime are.

Difficult, but worthwhile conversations would include regulating derivatives (a.k.a. bucket shops), establishing a modernized version of the Glass Steagall Act, reforming ratings agencies, divesting the Federal Reserve of conflicts of interest from its charter, raising capital requirements (rather how to do it) and forcing the sales of investment houses/management services that masquerade as FDIC insured banks. I realize this is hard but it’s a lot more realistic than dealing through some international body to create a RTC-like solution. So rather than calling the IMF or EU or writing op ed’s like this one, the CEO’s of the big four should start honest, constructive and quiet conversations with congress and the white house.

Charles Dailey – Branch Manager, Loan Officer, Certified Military Housing Specialist – CA DOC, MN DOC & WI DFI – NMLS ID# 79048

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