Thomas Donlan‘s latest editorial commentary for Barron’s considers the five-year anniversary of decisions in Washington that cemented the “too big to fail” arrangements for the nation’s major financial institutions.
Faced with the possibility that the Treasury (or the Federal Reserve or the tooth fairy) might not honor the implicit government guarantee of the financial system, the system swooned. Troubled institutions needed credit like addicts need dope, but nobody would lend to a credit junkie, least of all another credit junkie. It takes one to know one, and even without the help of credit-ratings agencies, they all knew one another very well, like scorpions in a bottle.
The government swooned next. Lehman Brothers was the only major financial institution allowed to go into bankruptcy, and officials quickly declared that it was all a mistake that would never be repeated—proving it almost immediately by propping up AIG with an $85 billion injection. We were on the brink of the Great Depression, according to then-Treasury Secretary Henry Paulson in the dark days of September 2008. He believed, and still believes, according to anniversary interviews, that nothing could be worse.
So far, there has been no repeat of Lehman’s debacle. “Too big to fail” is the reigning dogma of financial regulators and lawmakers, who pretend to tighten up the rules to reduce leverage and risk but shrink from forcing financial firms to take the consequences of their risky behavior.
For five years, the Treasury, the Fed, the Congress, and the White House have agreed on little, but they do agree that no more sparrows like Lehman shall fall—not by accident and certainly not on purpose. The eagles of Wall Street, of course, will soar. And even the gnats have an implicit government guarantee, as Fed Chairman Ben Bernanke demonstrated last week.
