New Year’s Hoenig January 8, 2014 at 8:32 pm

Yesterday I promised a dose of Thomas Hoenig. Here we go:

separating commercial banks and broker-dealers would benefit all parties affected by the conduct of complex firms — including the public, the broader banking and financial industry, institutional borrowers, and the very firms that were at the center of the crisis.

What struck me reading this was how the barbell of M&A works against the financial system’s interest. Small firms are too little to be worth doing due diligence on: few who want to run a bank are going to both going over the books of the First Third Bank of Bumfluff. Very large banks can’t be taken over and split up because the takeover is too big to finance. So all the activity takes place in medium sized banks, and most of that is medium sized banks getting bought by bigger banks. Thus there is a natural tendency, economies of scale aside, for big banks to get bigger. (There are other effects which push in this direction, too.)

What we need is a counterveiling force. I still like capital requirements that are quadratic in balance sheet size over a reasonable threshold, but I could be persuaded of the merits of other approaches. It really doesn’t matter how you downsize, either, provided that deposit insurance is not subsidizing the funding of non-useful activities. Just make them smaller and simpler. Is that really a bad New Year’s resolution?

One Response to “New Year’s Hoenig”

  1. My main problem with regulatory CBAs is the arbitrariness of the scope setting. Some scenarios are deemed out of scope because they can’t be cleanly isolated from other factors. The EBA’s LCR impact assessment, for instance, doesn’t even consider what might happen if the LTRO/FLS is withdrawn or scaled back.