Home
News
In Focus
Business
Metro
Nation
World
Sports
Feature
Opinion
View more »Opinion Columns
Wan LixinOpinion deputy editor of Shanghai Daily
Forum emphasizes BRI cooperation between China and Arab countries
Rights to lower sleeper berths should be softened by empathy for fellow passengers
Sunday
- Subscribe
Home » Opinion » Foreign Views
The banks too big to fail are too big to exist
By Joseph E. Stiglitz |
December 11, 2009, Friday
|
Print Edition
Print Edition
A GLOBAL controversy is raging: what new regulations are required to restore confidence in the financial system and ensure that a new crisis does not erupt a few years down the line?
Mervyn King, the governor of the Bank of England, has called for restrictions on the kinds of activities in which mega-banks can engage.
British Prime Minister Gordon Brown begs to differ: after all, the first British bank to fall - at a cost of some US$50 billion - was Northern Rock, which was engaged in the "plain vanilla" business of mortgage lending.
The implication of Brown's observation is that such restrictions will not ensure that there is not another crisis; but King is right to demand that banks that are too big to fail be reined in. In the United States, the United Kingdom, and elsewhere, large banks have been responsible for the bulk of the cost to taxpayers.
America has let 106 smaller banks go bankrupt this year alone. It's the mega-banks that present the mega-costs. The crisis is a result of some distinct but related failures.
For example, too-big-to-fail banks have perverse incentives: if they gamble and win, they walk off with the proceeds; if they fail, taxpayers pick up the tab. For another example, incentive structures within banks are designed to encourage short-sighted behavior and excessive risk taking.
Regulators and supervisors are fallible, which is why we need to attack the problems from all sides. There are, of course, costs to regulations, but the costs of having an inadequate regulatory structure are enormous.
King is right: banks that are too big to fail are too big to exist.
If they continue to exist, they must exist in what is sometimes called a "utility" model, meaning that they are heavily regulated.
In particular, allowing such banks to continue engaging in proprietary trading distorts financial markets.
Why should they be allowed to gamble, with taxpayers underwriting their losses?
The one thing nowadays that economists agree upon is that incentives matter.
Bank officers got rewarded for higher returns - whether they were a result of improved performance (doing better than the market) or just more risk taking (higher leverage).
Either they were swindling shareholders and investors, or they didn't understand the nature of risk and reward. Possibly both are true. Either way, it's discouraging.
Given the lack of understanding of risk by investors, and deficiencies in corporate governance, bankers had an incentive not to design good incentive structures.
It is vital to correct such flaws - at the level of the organization and of the individual manager.
That means breaking up too-important-to fail (or too-complex-to-fix) institutions.
The bigger the bank, and the more risk-taking in which big banks are allowed to engage, the greater the threat to our economies and our societies.
What is required is a multi-prong approach, including special taxes, increased capital requirements, tighter supervision, and limits on size and risk-taking activities.
Such an approach won't prevent another crisis, but it would make one less likely - and less costly if it did occur.
(The author is university professor at Columbia University and the winner of the 2001 Nobel Prize in economics. Copyright: Project Syndicate, 2009. Shanghai Daily edited this article.)
Mervyn King, the governor of the Bank of England, has called for restrictions on the kinds of activities in which mega-banks can engage.
British Prime Minister Gordon Brown begs to differ: after all, the first British bank to fall - at a cost of some US$50 billion - was Northern Rock, which was engaged in the "plain vanilla" business of mortgage lending.
The implication of Brown's observation is that such restrictions will not ensure that there is not another crisis; but King is right to demand that banks that are too big to fail be reined in. In the United States, the United Kingdom, and elsewhere, large banks have been responsible for the bulk of the cost to taxpayers.
America has let 106 smaller banks go bankrupt this year alone. It's the mega-banks that present the mega-costs. The crisis is a result of some distinct but related failures.
For example, too-big-to-fail banks have perverse incentives: if they gamble and win, they walk off with the proceeds; if they fail, taxpayers pick up the tab. For another example, incentive structures within banks are designed to encourage short-sighted behavior and excessive risk taking.
Regulators and supervisors are fallible, which is why we need to attack the problems from all sides. There are, of course, costs to regulations, but the costs of having an inadequate regulatory structure are enormous.
King is right: banks that are too big to fail are too big to exist.
If they continue to exist, they must exist in what is sometimes called a "utility" model, meaning that they are heavily regulated.
In particular, allowing such banks to continue engaging in proprietary trading distorts financial markets.
Why should they be allowed to gamble, with taxpayers underwriting their losses?
The one thing nowadays that economists agree upon is that incentives matter.
Bank officers got rewarded for higher returns - whether they were a result of improved performance (doing better than the market) or just more risk taking (higher leverage).
Either they were swindling shareholders and investors, or they didn't understand the nature of risk and reward. Possibly both are true. Either way, it's discouraging.
Given the lack of understanding of risk by investors, and deficiencies in corporate governance, bankers had an incentive not to design good incentive structures.
It is vital to correct such flaws - at the level of the organization and of the individual manager.
That means breaking up too-important-to fail (or too-complex-to-fix) institutions.
The bigger the bank, and the more risk-taking in which big banks are allowed to engage, the greater the threat to our economies and our societies.
What is required is a multi-prong approach, including special taxes, increased capital requirements, tighter supervision, and limits on size and risk-taking activities.
Such an approach won't prevent another crisis, but it would make one less likely - and less costly if it did occur.
(The author is university professor at Columbia University and the winner of the 2001 Nobel Prize in economics. Copyright: Project Syndicate, 2009. Shanghai Daily edited this article.)
- About Us
- |
- Terms of Use
- |
-
RSS - |
- Privacy Policy
- |
- Contact Us
- |
- Shanghai Call Center: 962288
- |
- Tip-off hotline: 52920043
- 沪ICP证：沪ICP备05050403号-1
- |
- 互联网新闻信息服务许可证：31120180004
- |
- 网络视听许可证：0909346
- |
- 广播电视节目制作许可证：沪字第354号
- |
- 增值电信业务经营许可证：沪B2-20120012
Copyright © 1999- Shanghai Daily. All rights reserved.Preferably viewed with Internet Explorer 8 or newer browsers.
