Thomas Hoenig (“Too Big Has Failed”) tapped for FDIC

Kansas City Federal Reserve Bank President Thomas Hoenig was my favorite recent member of the Federal Open Market Committee, mainly for his outspoken and eloquent criticism of the “too big to fail” policy. I’ve written about his ideas a few times, including here. So now that the Kansas City Fed’s rotating term on the FOMC has come to an end, it’s good to see that President Obama has nominated Hoenig to be Vice Chairman of the Board of Directors of the Federal Deposit Insurance Corporation (FDIC).

Hoenig’s views are summed up in this quote from the article: “We must make sure that large financial organizations are not in position to hold the U.S. economy hostage. We must break up the largest banks.” His March 2009 speech “Too Big Has Failed” lays it out in detail.

Now, I have no idea how much policy-shaping ability the vice chairman of the board of directors of the FDIC has, and Hoenig himself has said the FDIC still lacks adequate resolution-authority powers for closing big bank holding companies, but I’ll be glad to have him back in the loop. Assuming that Senate Republicans don’t block his nomination for one reason or another.

Exiled From Main St. / Start Breaking Up

Thomas Hoenig, president of the Kansas City Fed and one of the most incisive critics of the “too big to fail” policy, has an op-ed in today’s NYT about the current financial reform bill before Congress.  He says it does far too little to end “too big to fail” — while it sets up a mechanism for big failing financial institutions to be put under FDIC receivership, those financial institutions would still have the political clout to snag a bailout instead.

This may be true, but it seems to be a drawback in any financial reform bill that doesn’t call for the biggest financial institutions to be broken up into smaller ones that are not too big to fail, i.e., which can go bankrupt without significant systemic risk to the economy.  Koenig has spoken elsewhere on the need to break up the biggest banks.  It’s a position that finds favor among many liberal economists,including James Kwak of the Baseline Scenario (see previous link).  Rep. Paul Kanjorski of Scranton, PA has proposed an amendment to give the government power to preemptively break up any financial institution whose failure would impose giant costs on the U.S. economy, but the Senate Banking Committee apparently has nothing like that on the table yet.  Alas, the political clout of the big banks may well be enough to make bank size restrictions a non-starter in the Senate.  Simon Johnson of The Baseline Scenario says much the same thing here.

Hoenig says that another provision of the bill actually makes things worse by narrowing the Fed’s supervisory role to just the nation’s 12 largest banks, most of which are headquartered in NYC.  I do not know what the logic of this provision is, and Hoenig doesn’t say; maybe the idea is for the other banks to be supervised by the FDIC and/or other agencies instead.  Whatever it is, Hoenig thinks the Fed needs to give just as much attention to the other 6,700 as to the top 12.  As he points out, that would seem to be the whole point of having 11 regional Fed banks besides the one in New York.

UPDATE:  Simon Johnson puts it a lot more plainly right here.  For the record, Paul Krugman has his doubts that breaking up the banks would help much — see the last three paragraphs of this recent column.  I’m with Simon Johnson here.  By all means, crack down on fraudulent finance at institutions large and small, but I don’t see how you limit the power of the big banks without limiting their size, too.

Still too big to fail

. . . and too big to regulate.  JP Morgan Chase, Goldman Sachs, Morgan Stanley, and seven other megabanks got permission from the Obama Administration to repay their combined $68 billion in TARP debt to the government.  The government made a profit on the loans, and the banks are now out from the under the thumb of the TARP restrictions on executive pay and hiring.  Win-win, right?

Well, no, not for the taxpayers who are still implicitly on the hook for these ten behemoths should anything go wrong.  They are no more regulated than they were before the crisis, and there is no FDIC-like resolution system in place that would allow for the orderly failure of these financial supermarkets should they become insolvent (again?).   It would be rational for their managers to conclude that the institutions are still “too big to fail” and to return to reckless decision-making a la “heads I win, tails the taxpayers lose.”  Today’s Financial Times has an excellent editorial on the matter.   Wish I’d written it myself; the next best thing is to cut and paste most of it here:

Too big to say no to

Banking news of note this past week:

• A bill to allow bankruptcy court judges to modify the terms of troubled mortgages, “cramming down” the amounts owed so as to avoid foreclosures and make these debts and troubled assets more manageable, failed in the Senate, getting just 45 votes.   En route to the bill’s failure, its chief sponsor, Sen. Dick Durbin (D-IL) said the banks “are still the most powerful lobby on Capitol Hill. And they frankly own the place.”  The NYT noted that the White House, despite backing the bill, did not go to bat for it in its final days.
• The Treasury has delayed the release of its “stress tests” of the 19 largest banks, apparently because their credulous-looking certification that all 19 banks are currently solvent is not rosy enough for some of the banks, notably Citigroup.  Word is that Citi and Bank of America are contesting the results, even though the tests (1) appear to have used the banks’ own questionable data on the values of their toxic assets and (2) minimize the amount of hypothetical “stress” these banks might be subject to, by entertaining only fairly optimistic worst-case scenarios.  Various economists have said the tests were rigged in the banks’ favor, but evidently some banks are pushing to make them even more so.  Yves Smith offers the full bill of indictment here.