Thoma Hoenig, President of the Kansas City Federal Reserve, is a pretty credentialed guy. He's been with the Federal Reserve since 1973, specializing in banking supervision. He knows, presumably, both how banks work and also how effective regulators can be when they choose to interfere with their workings. So it seems meaningful that he's giving aggressive speeches arguing for a plan that "is similar to what was done in Sweden." An excerpt:
While you may be familiar with some of my more recent remarks on the “too big to fail” issue, I have been concerned with this problem for some time. Previously, I said, “In a world dominated by mega financial institutions, governments could be reluctant to close those that become troubled for fear of systemic effects on the financial system. To the extent these institutions become too big to fail, and where uninsured depositors and other creditors are protected by implicit government guarantees, the consequences can be quite serious. Indeed, the result may be a less stable and a less efficient financial system.” I also noted that “recent history throughout the world suggests that “too big to fail” may be the policy of choice in crisis situations, particularly when mega institutions play a large role in a country’s economy and financial markets.” I made these comments not this year, but in March 1999.
In recent weeks, I have outlined a resolution framework for how we deal with the large, systemically important institutions at the center of this crisis in the United States. Boiled down to its simplest elements, the plan would require those firms seeking government assistance to put the taxpayer senior to all shareholders with the impact on managers and directors depending on the viability of the firm. Nonviable institutions would be allowed to fail and be placed into a negotiated conservatorship or a bridge institution, with the bad assets liquidated while the remainder of the firm is operated under new management and reprivatized as soon as feasible. This plan is similar to what was done in Sweden in the 1990s and what we did in the United States with the failure of Continental Illinois in the 1980s.
Hoenig can't be dismissed as an idealist unaware of the government's workings or an armchair observer with an insufficient grasp of the complexity of the American banking system. Indeed, judging on resume, he has rather more experience with both regulation and bank supervision than any of the top-level players advising Obama. Which isn't to say he's right. But it is to say that it's just not the case that advocates of bank nationalization are an overwhelmingly inexperienced or untrained lot.
Hoenig's larger point, which he's been making since the late-90s, is that "too big to fail" institutions can't exist in regulatory limbo, as that actually encourages their growth. "When firms are treated as 'too big to fail, they receive an implied subsidy and a competitive advantage over other firms." Either you can't allow firms to become too big to fail or you have to figure out a way that they can fail. Otherwise, it's like a game of checkers where everyone wants to get to the other side of the board and be crowned a king. Size becomes a competitive advantage in and of itself, because it means the government protects you from harm.
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