Sometimes things just don’t work out the way you want them to. Sen. Bernie Sanders (I-Vt.) introduced legislation earlier this month that would end “too big to fail” banks even though he’d previously supported legislation that did the opposite. If passed, Sanders’s “Too Big to Fail, Too Big to Exist Act” would dissolve the nation’s largest banks, forcing those with total assets that exceed three percent of gross domestic product to restructure and downsize within two years.
Too Big to Fail?
Today, three percent of gross domestic product amounts to roughly $584 billion, so the law would break up banks like Goldman Sachs and Wells Fargo, just to name a few. Yet the law would not only apply to banks but also other large financial institutions—including insurance companies like Prudential and AIG, and even Warren Buffet’s multinational conglomerate Berkshire Hathaway.
Large banks must be allowed to exist—and, therefore, be allowed to fail.
This idea of “too big to fail” lies in the notion that the potential collapse of a bank would be so detrimental to the national economy that it necessitates government intervention. During the financial collapse of 2008 and 2009, this type of bailout cost American taxpayers $631.4 billion.
Large banks must be allowed to exist—and, therefore, be allowed to fail. Despite the irony of his role in overseeing the bank bailouts, former Treasury Secretary Tim Geithner put it best: “No financial system can operate efficiently if financial institutions and investors assume that government will protect them from the consequences of failure.” One would expect Sen. Sanders to agree with this statement given his open hatred for banks, but that isn't so.
Despite his anti-Wall Street rhetoric, Sen. Sanders did them a favor by voting to codify “too big to fail” when he supported the Dodd–Frank Act in 2010. Passed and signed into law in the wake of the financial collapse, Dodd-Frank permanently legitimized “too big to fail” by creating a statutory taxpayer backstop for distressed banks.
With the OLA in place, market participants know the government will step in to keep a failing bank afloat.
Title II of the law established the Orderly Liquidation Authority (OLA) as a government-run alternative to traditional bankruptcy proceedings. After approval from the Treasury and Federal Reserve, a bank in default and on the brink of insolvency is seized by the government and liquidated by the Federal Deposit Insurance Corporation (FDIC). When carrying out these proceedings, the bank falls into FDIC receivership where the government assumes their bad assets, and the FDIC is further authorized “to use taxpayer funds to carry out OLA liquidations,” leaving taxpayers with the bill for a bank’s bad decisions.
The OLA also creates a moral hazard in the financial system where profits are privatized and losses socialized. With the OLA in place, market participants know the government will step in to keep a failing bank afloat instead of allowing the free market to take its course. This only enables and excuses the overly-risky behavior of investors, which is exactly what Sen. Sanders believes was a large contributor to the financial collapse in the first place.
It's Not about Size
Sen. Sanders’ “Too Big to Fail, Too Big to Exist” proposal ignores that size has little to do with how dangerous a bank is to the economy. We can find much better indicators of a bank’s risk in its interconnectedness, complexity, liquidity, and substitutability. While complex, there are other regulations in place that take these into account and make sure banks are adequately capitalized. For example, risk-weighted capital ratios require banks to reserve a certain amount of money based on the riskiness of their assets, accounting for more than just size alone. This summer, a series of stress tests by the Federal Reserve found regulations like these enough to ensure the safety and soundness of the nation’s largest banks.
A solution for ending “too big to fail” would permanently eliminate the OLA, ensuring taxpayers never have to rescue floundering banks.
It’s one thing for Sen. Sanders to introduce a bill aimed at ending “too big to fail.” But it’s another for him to deliberately overlook the fact that he voted to make the “too big to fail” law, though perhaps this explains why he later took $55,000 directly from Wall Street in his 2016 presidential run. A better solution for ending “too big to fail” is House Financial Services Chairman Jeb Hensarling’s (R-TX) “Financial CHOICE” Act, which would permanently eliminate the OLA, ensuring taxpayers never have to pony-up and rescue floundering banks. Despite passing the House last year, Democratic senators refused to take up the bill.
Bernie’s hypocrisy is sickening. If he and his Democratic colleagues truly cared for ending “too big to fail,” they would work towards ending taxpayer-funded bank bailouts. Instead, they introduce signaling bills used to pander to the left and their anti-Wall Street sentiments.