Dear Tim Geithner, Ben Bernanke, Barack Obama, and Larry Summers. Check out what’s going on on the other side of the Atlantic Ocean.
The big banks, which nearly turned the UK into a mega-Iceland are being broken up. They’re not just talking about it. They’re actually doing it. It started with ING, earlier this week, but it won’t stop there.
The Independent: Lloyds, Royal Bank of Scotland and Northern Rock will be broken up and parts of their businesses sold off to create three new banks, it emerged last night.
Government sources said ministers were “determined” to see more competition in the market, following the £1.2 trillion bailout of the sector which resulted in the loss of three independent banks and several building societies.
The European Union will today approve the split of Northern Rock into two sections, a “good”, profitable, bank with no bad debt, and a “bad” bank. Ministers will begin exploring sale options at the start of next year when the split happens and a deal could be finalised before the general election. The remaining “bad” bank will remain in state hands for the time being although sales of “tranches” of the more risky mortgages it holds will be explored in the longer term.
The Lloyds and RBS sell-offs will follow over the next three to five years and will be supervised by UK Financial Investments, the government body set up to oversee taxpayers’ investment in the banks.
These are some of the biggest financial institutions in the world, and the government there isn’t afraid to make them smaller, and there’s no reason we should be either.
It would be one thing if consumers liked megabanks, and got cheaper, better service from them, but they don’t. if there were some coherence to the hodgepodge of various financial services, then there’d be a case for keeping them together — but as it is, what you have is hedge fund-like units with access to easy, persistant capital, which is toxic. If there were some evidence that a bank the size of Citigroup (C) or Bank of America (BAC) were well run, then making them smaller wouldn’t be such a priority, but there just isn’t. They’re still big, bloated machines, making bad loans, and treating their customers like garbage.
Of course, breaking up the large banks isn’t going to solve our problems. A wave of small and medium-sized bank failures could be just as damaging, but smaller banks would at least help insure that you don’t get one cowboy risk taker (like Joseph Cassano) with the potential to take down the entire system.
It’s a bit of a Catch-22, of course. We probably won’t do anything about large banks, until they see their political power diminished. But they probably won’t lose their political power, as long as they’re so big.
Red-hot University of Chicago professor Luigi Zingales wrote a long piece to this effect at National Affairs, discussing deregulation and the political problems posed by large banks.
The apex of this process was the 1999 passage of the Gramm-Leach-Bliley Act, which repealed the restrictions imposed by Glass-Steagall. Gramm-Leach-Bliley has been wrongly accused of playing a major role in the current financial crisis; in fact, it had little to nothing to do with it. The major institutions that failed or were bailed out in the last two years were pure investment banks — such as Lehman Brothers, Bear Stearns, and Merrill Lynch — that did not take advantage of the repeal of Glass-Steagall; or they were pure commercial banks, like Wachovia and Washington Mutual. The only exception is Citigroup, which had merged its commercial and investment operations even before the Gramm-Leach-Bliley Act, thanks to a special exemption.
The real effect of Gramm-Leach-Bliley was political, not directly economic. Under the old regime, commercial banks, investment banks, and insurance companies had different agendas, and so their lobbying efforts tended to offset one another. But after the restrictions were lifted, the interests of all the major players in the financial industry became aligned, giving the industry disproportionate power in shaping the political agenda. The concentration of the banking industry only added to this power.
This perspective gives more support to the idea that they should be broken up. You see, there’s bound to be another bubble and another financial crisis, and any regulation will impose will be weakened and overturned. That’s just an iron reality. But a more diverse, less coordinated financial industry will be slower to lobby and get favours from government. That alone should tell us to start chopping up these institutions.