Senator Shelby, quite wisely, as is usually the case with him, is critiquing the Democrat financial regulatory reform bill because he thinks, the way it is currently written, will not solve the too big to fail problem. Meaning, it can be written differently to accommodate both the threat of eventual bankruptcy which the Republicans have always favored and the Democrat proposal of a resolution mechanism as a necessary prelude.
After all, as Senator Shelby well knows from his days in the real estate business in Alabama which gives him the insight on most matters financial, neither businesses like to declare bankruptcy nor do homeowners, but they do so only as a last resort. Bankruptcy is not a way out of irresponsibility, for countries, businesses or people. Yet, this is the predicament being faced by many in America, big and small, because of either the self-induced or circumstantial excesses since the onset of the crisis in 2007, if not the country itself.
The old fashioned way always works. Countries, businesses and people all earn incomes, and then spend some and save some. What they save is what they also invest. By law, all U.S states must balance their budgets and so they save for a rainy day for the times when their incomes could fall short. Many large American financial institutions are the size of small countries, and therefore, they must also save for their rainy days because they do not have the option to print their own money. And if they think they can ask the Fed to do so, which is the core of the too big to fail problem, they are wrong. Neither must the Fed introduce that moral hazard nor should the markets expect it to. It is sad that both of these happened since 1987 as a matter of standard practice.
All financial institutions must save for a rainy day with their bank: the Federal Reserve. And in return they must be exempted from minimum capital requirements. The Basel regime has been an excruciatingly complicated process to both legislate and enforce. The government is frustrated and so are the financial institutions. Large banks must save more and small banks must save less, similar to progressive taxation. All banks must be paid interest at the prevailing federal funds rate, on a compounded basis, until they need the money when the government’s bank supervisors think so. It would be akin to a refundable contingency tax, per a simple schedule based on the revenues of financial institutions, no different from an income tax table.
In the event of individual or systemic crises, these funds would be used up first, followed by any borrowing from the Fed’s discount window and then, if necessary, government supervisors would step in to both save the depositors (not stock holders) and the financial institutions through a process of mergers and acquisitions by arranging marriages with no government monies involved, similar to the Long Term Capital Management (LTCM) bailout that was facilitated by the Federal Reserve. When that is not feasible, the last stage in the resolution mechanism would be bankruptcy.
And all financial assets must be mandated by law to be exchanged traded only, without exception, except in bankruptcy as was recently the case with the General Motors stock that had traded over the counter similar to the early days of the stock markets.
The Congress must establish such a resolution process as a part of financial regulatory reform where all the mechanisms of resolution being currently debated have a role at the various stages of that process. The government must be the penultimate resort and bankruptcy the last.
The first resort must be the financial institution itself. Self-responsibility is any day better than the nanny state of the Basel regime.