Some more thoughts on the five steps former FDIC chair Sheila Bair suggested to reform the financial system.
- Break up the “too big to fail” banks
My take is that breaking up may be difficult to achieve politically, but raising capital ratios for banks above a certain threshold would discourage further growth and encourage splintering over time.
- Publicly commit to end bailouts
Just because the bailouts were profitable isn’t a good reason to give Wall Street an indefinite option to “put” its losses to the Treasury and to taxpayers.
As Joseph Stiglitz points out: the UK did a far better job of making shareholders and management suffer the consequences of their actions. Sweden in the early 1990s, similarly demanded large equity stakes in return for rescuing banks from the financial, leading some to raise capital through the markets rather than accept onerous bailout conditions.
- Cap leverage at large financial institutions
I support Barry Ritholz’ call for a maximum leverage ratio of 10. That should include off-balance sheet and derivative exposure. Currently the Fed only requires a leverage ratio of 20 (5%) for well-capitalized banks — and that excludes off-balance-sheet assets.
- End speculation in the credit derivatives market
Bair pointed out that we don’t get to buy fire insurance on someone else’s house, for a very good reason. How is speculating using credit derivatives any different?
Again Ritholz makes a good suggestion: regulate credit default swaps (CDS) as insurance products, where buyers are required to demonstrate an insurable interest.
- End the revolving door between regulators and banks
When regulators are conscious that, with one push of the door, they could end up working for the organizations they are today regulating – or vice versa – “it corrupts the mindset”
A similar revolving door corrupts the relationship between politicians and lobbyists. Enforcing lengthy “restraint of trade” periods between the two roles would restrict this.