The following are selected passages from the speech delivered by the President of the Federal Reserve Bank of Kansas City, Esther L. George "Looking Ahead: Financial Stability and Microprudential Supervision":
Too big to fail:
Looking Ahead: Financial Stability and Microprudential Supervision: ...I believe the first and most important step that we can take is to eliminate TBTF policies. This crisis provided overwhelming evidence that the ingrained response of policymakers is to treat our largest institutions as being TBTF. With the help of bailouts, TARP money, the discount window, accommodative monetary policy and other actions, our largest institutions not only survived the crisis, but in many cases, emerged as even larger players in the financial system.
The funding, capital and other advantages that TBTF provides are enormous, and such advantages—as seen in this crisis—remove important constraints on risk-taking that financial institutions would otherwise face from their stockholders, creditors and uninsured depositors. One simple example of these advantages is that the five largest U.S. banking organizations in June 2009 were given ratings on their senior long-term bank debt that on average were four notches higher than what they would have received based on their actual condition alone. One of these organizations even received an eight-notch upgrade for being TBTF. In a very competitive marketplace, such advantages are enormous and highly unfair to those institutions not receiving them. These ratings advantages continue to exist after the crisis—albeit at a notch or two less now, and investors have reason to believe that similar advantages may yet exist.
What can be done to address these moral hazard and TBTF issues? The Dodd-Frank Act provides an orderly liquidation authority for resolving the failure of a systemically important organization, thus adding to the existing framework for closing insolvent or nonviable commercial banks. Having this legal framework, though, is only the first, and perhaps easiest, step in dealing with TBTF...
...as we can see from this crisis, the most critical issue in addressing TBTF concerns is having policymakers with the resolve to follow through. In a crisis, there will always be concerns about creditor or depositor panics, public confidence issues, interconnections with other institutions and disruptions in financial services. While I believe these concerns often are exaggerated and can be minimized through the resolution frameworks we now have in place, others will almost certainly have different views. What we must remember, though, is that ending TBTF is the only sure way to curtail the expansion of public safety nets and break the pattern of repeated and ever-escalating financial crises...[Continue]