Saturday, November 21, 2009

Not all big banks are the same

Washington Post


JPMorganChase CEO Jamie Dimon wrote in the Washington Post that "too big to fail" should be eliminated from our vocabulary. Yet, in the same article, he argues that in todays competitive global financial markets, America also needs to have big banks that can compete against other big institutions from around the world. And speaking as the CEO of one of the largest banks in America, he felt safe to advocate the "let them fail" policy.

There are a few inconsistency in his argument. First of all, let's overlook the fact that Mr. Dimon feels free to be generous because JPMorganChase is not likely to fail now, having received billions of taxpayer money during the height of the financial crisis, not only in the form of TARP, but also in the form of hundreds of billions of low or no interest financing from the Feds, and especially in the form of the bargain-basement fire-sale acquisition of Washington Mutual's hundreds of billions of assets for the meager price of a couple billion. If any banks were to fail, JPMorganChase would be the first in line to snap it up, to continue its epic expansion. In other words, the "let them fail" policy, is perfectly safe for JPMorganChase, and in fact, in perfect alignment with Mr. Dimon's strategic vision for his bigger and better bank. The record number of small banks that failed in this last year, benefited the larger banks, JPMorganChase among them.

Secondly, let's overlook the fact that the largest banks in the world are not the same. Many of the banks larger than JPMorganChase are in fact state run banks in Communist China. They are highly regulated and controlled, with very few degress of freedom, and obey the wishes of the government. This is most evident during the liquidity crisis when Chinese banks were ordered to provide easier credit, and the economy turned around quickly as a result. American banks are still tight-fisted with the hundreds of billions that taxpayers gave them over the year, and yet to see a large percent of that money "trickling" down to small businesses. When large banks are not answerable to anyone, the CEO has a responsibility to wield that power with due diligence. The financial crisis has shown the lack of care and abilities on the part of American bankers to refrain from reckless profit motivated gambles and maneuvers that border on being criminal. This is true of JPMorganChase as well. See the article on the recent settlement.

Last but not least, let's examine the executive compensation of these large banks.

As seen in the accompanying graphic found in the article, "Study shows U.S. bank CEO pay dwarfs rest of world", the largest American banks, with freedom to act independent of supervision or regulation, only serve to benefit the executives who continue to give themselves exorbitant compensation, using other people's money.

Americans are told to increase their saving rate. It is unconscionable for the guardian of people's hard earned savings to gamble on risky ventures, pay themselves exorbitant unjustifiable compensation, and ignore public opinions. It is now clear that the true colors of Goldman Sachs will be revealed in the light of day, depicting all the covert maneuvers that floated their coffers during the worst financial crisis in recent memory. And still, their tune-deafness claim their billions of bonuses are justified.

The question is not whether financial regulation is necessary. There is no doubt that left to themselves, the banks do not act responsibly. The profit motive built into our laissez-faire capitalist system demands that they act selfishly and not for the good of the community.

It is not a matter of allowing big banks to fail. It is a matter of regulating and supervising the big banks so that they do NOT fail, because their failure devastate people whose life savings are wiped out. Mr. Dimon may benefit from banks failing. Americans do not want banks to fail. They want banks to be managed responsibly, with prudence and due diligence, not for profits and not with reckless self-indulgence.

When banks are large and wield exceptional power, they must be regulated to safeguard public interests. When banks are small and serve local communities, they can be deregulated and given the freedom to adapt to local conditions. The monolithic scenario suggested by Mr. Dimon benefits no one, except the huge banks, that has grown larger in the last year, by swallowing up the record number of smaller failed banks.


Our company, J.P. Morgan Chase, employs more than 220,000 people, serves well over 100 million customers, lends hundreds of millions of dollars each day and has operations in nearly 100 countries. And if some unforeseen circumstance should put this firm at risk of collapse, I believe we should be allowed to fail. As Treasury Secretary Timothy Geithner recently put it, "No financial system can operate efficiently if financial institutions and investors assume that government will protect them from the consequences of failure." The term "too big to fail" must be excised from our vocabulary.

But ending the era of "too big to fail" does not mean that we must somehow cap the size of financial-services firms. Scale can create value for shareholders; for consumers, who are beneficiaries of better products, delivered more quickly and at less cost; for the businesses that are our customers; and for the economy as a whole. Artificially limiting the size of an institution, regardless of the business implications, does not make sense. The goal should be a regulatory system that allows financial institutions to meet the needs of individual and institutional customers while ensuring that even the biggest bank can be allowed to fail in a way that does not put taxpayers or the broader economy at risk.

Creating the structures to allow for the orderly failure of a large financial institution starts with giving regulators the authority to facilitate failures when they occur. Under such a system, a failed bank's shareholders should lose their value; unsecured creditors should be at risk and, if necessary, wiped out. A regulator should be able to terminate management and boards and liquidate assets. Those who benefited from mismanaging risks or taking on inappropriate risk should feel the pain. We can learn here from how the Federal Deposit Insurance Corp. closes banks. As with the FDIC process, as long as shareholders and creditors are losing their value, the industry should pay its fair share.

Establishing this resolution authority will require thoughtful legislation that promotes predictability in the resolution process in accordance with recognized priorities, requires sound risk-management practices, and maintains a level playing field among firms with similar business models. It also requires effective international cooperation, as the implications of a major financial institution's failure are global. This is challenging but worth doing. The alternatives, neither of which is acceptable, are to perpetuate the politically, economically and ethically bankrupt "too big to fail" idea, or to try to impose artificial limits on the size of U.S. financial institutions.

As we have seen clearly over the last several years, financial institutions, including those not considered "too big," can pose serious risks for our markets because of their interconnectivity. A cap on the size of an institution will not prevent that risk. Properly structured resolution authority, however, can help halt the spread of one company's failure to another and to the broader economy.

While the strategy of artificial limits may sound simple, it would undermine the goals of economic stability, job creation and consumer service that lawmakers are trying to promote. Let's be clear: Banks should not be big for the sake of being big. Moreover, regardless of a company's size, it must be well managed. As we've seen in many industries, companies that grow for the sake of growth or that expand into areas outside their core business strategy often stumble. On the other hand, companies that build scale for the benefit of their customers and shareholders more often succeed over time.

To understand the harm of artificially capping the size of financial institutions, consider that some of America's largest companies, which employ millions of Americans, operate around the world. These global enterprises need financial-services partners in China, India, Brazil, South Africa and Russia: partners that can efficiently execute diverse and large-scale transactions; that offer the full range of products and services from loan underwriting and risk management to providing local lines of credit; that can process terabytes of financial data; that can provide financing in the billions.

And it's not just multinational corporations that rely on such a large scale. J.P. Morgan Chase and others supply capital to states and municipalities as well as to firms of all sizes. Smaller banks play a vital role in our nation's economy, too -- but a fragmented banking system cannot always provide the level of service, breadth of products and speed of execution that clients often need. Capping the size of American banks won't eliminate the needs of big businesses; it will force them to turn to foreign banks that won't face the same restrictions.

It is vital that policymakers and those with a stake in our financial system work together to overhaul our regulatory structure thoughtfully and well. While changes may seem arcane and technical, they are critical to the future of the whole economy. It is clear that we must modernize our financial regulatory system. The stakes are simply too high and the consequences too far-reaching to do this hastily. Many of the rules governing our markets today were put in place more than 70 years ago. On a timeline, that Depression era would be closer to the Civil War than to our current century.

Global economic growth requires the services of big financial firms. It also requires that big financial firms be allowed to fail.

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