Big Banks: Too Big to Handle

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Big Banks: Too Big to Handle SIMON JOHNSON

In the discussion of whether US largest financial institutions have become too big, a sea change in opinion is underway. Two years ago, during the debate about the Dodd-Frank financial-reform legislation, few thought that global megabanks represented a pressing problem. Some even suggested that large European banks represented something of a role model for the US. In any case, the government, according to the largest banks CEOs, could not possibly impose a cap on their assets size, because to do so would undermine the productivity and competitiveness of the US economy. Such arguments are still heard but, increasingly, only from those employed by global megabanks, including their lawyers, consultants and docile economists. Others hold that these financial behemoths have become too large and too complex to manage with adverse consequences for the wider economy. And every time the CEO of such a bank is forced to resign, the evidence mounts that these organisations have become impossible to manage in a responsible way that generates sustainable value for shareholders and keeps taxpayers out of harmÃÔ way. Wilbur Ross, legendary investor, recently told CNBC, Ū think it was a fundamental error for banks to get as sophisticated as they have, and I think that the bigger problem than just size is the question of complexity. I think maybe banks have gotten too complex to manage as opposed to just too big to manage. In the wake of Vikram PanditÃÔ resignation as CEO of Citigroup, John Gapper pointed out in the Financial Timesthat ŤitiÃÔ shares trade at less than a third of the multiple to book value of Wells Fargo, because the latter is a ÅÔteady, predictable bank, whereas Citigroup has become too complex. Gapper also quotes Mike Mayo, a leading analyst of the banking sector, Ťiti is too big to fail, too big to regulate, too big to manage, and it has operated as if itÃÔ too big to care. Even Sandy Weill, who built Citi into a megabank, has turned against his own creation. At the same time, top regulators have begun to articulate ÃØith some precision what needs to be done. Our biggest banks must become simpler. Tom Hoenig, a former president of the Federal Reserve Bank of Kansas City and now a top official at the Federal Deposit Insurance Corporation, advocates separating big banks commercial and securities-trading activities. The cultures never mesh well, and big securities businesses are difficult to manage. Hoenig and Richard Fisher, president of the Federal Reserve Bank of Dallas, have been leading the charge on this issue within the Federal Reserve System. Both of them emphasise that ÅÕoo complex to manage is almost synonymous with ÅÕoo big to manage? at least within the US banking system. Conservative columnist George Will recently endorsed FisherÃÔ view. Big banks get a big taxpayer subsidy in the form of downside protection for their creditors. This confers on them a funding advantage and completely distorts markets. These subsidies are dangerous; they encourage excessive risk-taking and very high leverage relative to equity and relative to the economy as a whole. Now, these themes have been picked up by Dan Tarullo, an influential member of the Board of Governors of the Federal Reserve System. He recently called for a cap on the size of AmericaÃÔ largest banks, to limit their non-deposit liabilities as a percentage of GDP an entirely sensible approach, and one that fits with legislation that has been proposed by two congressmen, Senator Sherrod Brown and Representative Brad Miller. Tarullo rightly does not regard limiting bank size as a panacea his speech made it clear that there are many potential risks to any financial system. But, in the often-nuanced language of central bankers, Tarullo conveyed a clear message: the cult of size has failed. More broadly, we have lost sight of what banking is supposed to do. Their role is not to assume a huge amount of risk, with the downside losses covered by society. Ross got it right again this week, when he said: Ū think that the real purpose and the real need that we have in this country for banks is to make loans particularly to small business and to individuals. I think thatÃÔ the hard part to fill. Smaller companies and private individuals donÃÕ have really the option of public capital markets. Hoenig and Fisher have the right vision. Tarullo is heading down the right path. Ross and many others in the private sector fully understand what needs to be done. Those who oppose their proposed reforms are most likely insiders people who have received payments from big banks over the past year or two. (The author is a former chief economist of the IMF)

Economic Times So, have the banks now become too big/complex to manage? If yes, then is a Cap on the size really a good solution?

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And incidentally finance ministry and RBI are taking steps to merge the nationalized banks to make Banking in India more efficient.