Tuesday, March 30, 2010

"Too Big To Fail": Financial Reform

As you would expect, the mainstream “experts” have it all wrong. Their idea of reform of the financial market is to attack the companies. They, the “experts”, decided when the financial crisis hit that some financial companies were “too big to fail”, and that the government must step in and “save” them by pouring mountains of money down drain holes. These companies were insolvent and needed to be liquidated, but the “experts” argued that the government must not let that happen, the consequences, they said, were too dire. But, people in general didn’t really buy off on that. There was enough of a ruckus about the massive amount of money spent in the bailouts that the “experts” then argued that something had to be done to avoid this problem in the future. Now, of course, that “something” did not include any suggestion that bailouts shouldn’t be made, or that the cause of the problem in the first place might be to government policy.

Now the Congress is considering what to do. We are now hearing from those same “experts”. As pointed out elsewhere (e.g., Meltdown by Thomas Woods) these “experts” are the same people who said that the rise of residential real estate prices was not a problem, that the types of mortgages being offered wasn’t a problem, that the increasing foreclosures wasn’t a problem, and that the initial problems with financial institutions wasn’t a problem. Why is anyone listening to these people now? Apparently, no one in the government and the media has the capability to learn from past mistakes. They certainly do not posses the ability to question any belief that they hold, let alone the ideas of the “experts”.

So the Congress is considering the issue of “reforming” the financial industry. The answer is of course, more regulation, which will mean more unproductive cost and layers of government employees with arbitrary power. But there is one proposal to which we should pay particular attention.

The answer to the “too big to fail” problem, it is shouted, is to reduce the size of the American financial companies. This is said, ironically, in the face of the fact that the solution to the potential failure of many financial companies was to push them off on other not-so-bad-off large financial companies, making the resulting companies much bigger. All of those companies that assisted in the “solution” to the last bust are now to be reduced in size.

One of the architects of the original mess, the crisis, the bailouts, and the lack of recovery, the Chairman of the Federal Reserve Board, Ben Bernanke, was recently speaking to a banking conference. He said, “If, in the end, funds must be injected to resolve a systemically critical institution safely, the ultimate cost must not fall on taxpayers or small financial institutions, but on those institutions that are the source of the too-big-to-fail problem,” Bernanke continued in his speech to the Independent Community Bankers of America. “It is unconscionable that the fate of the world economy should be so closely tied to the fortunes of a relatively small number of giant financial firms,” Bernanke said. “If we achieve nothing else in the wake of the crisis, we must ensure that we never again face such a situation.”

Any history of the world financial markets will record that the push to increase the size of the major financial firms came from two sources, one is the market and the second is the actions of governments. The market would make the scope and range of activities in our world market pushing toward the ability of a financial firm to meet the demands of large, international companies, both in the lower costs of scale of a large company and the ability to work in the large size of the transactions required. The governmental actions were, to name a couple examples, the additional costs that regulations impose, which are easier to absorb for larger firms, the fact that the size of the funds is made larger than necessary by the constant inflation that central banks create, and the success of larger firms in receiving government handouts and favors (and giving the support that legislators require; this list of government influences is not meant to be exhaustive).

To the extent that American financial firms are forced to downsize, in contrast to their competitors in other countries, American firms will encounter a competitive disadvantage. The financial center of the world could and most likely will swing away from New York toward the East. We will see a self-imposed degradation of the United States and its ability to maintain a competitive position. American non-financial firms will tend to move toward foreign companies to meet their international financial requirements. American financial firms, being smaller, may be picked off and purchased by the larger Eastern institutions.

It may be the case that the U.S. government “experts” will attempt to encourage their foreign counterparts to follow their lead and downsize foreign financial firms. To the extent that all financial firms are downsized, we will see a curtailment of international activity as financing becomes less available. But, some countries will see the benefit of being financial giants, in a world of pigmies.

We will be seeing another step in the continuing destruction of the United States of America as a economic powerhouse and standard of freedom and individual liberty.

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