Tuesday, November 24, 2009

Too Big To Fail or Too Scared To Confront?

Back to the blog after a long break. I do need to find a way to become more regular at updating the blog and keeping at expressing my thoughts and ideas.

What spurred this latest post was a decent article I read on the Too-Big-To-Fail (TBTF) doctrine. Of course, one is talking about banks. The article goes into details about the cost of propping up the banks and some of the estimates are truly mind-blogging.

According to the Bank of England, governments and central banks in the US, Britain, and Europe have spent or committed more than $14 trillion—the equivalent to roughly 25 per cent of the world’s economic output—to prop up financial institutions. Combined with a global recession, this bailout has undermined the public finances of the developed world.

Another related set of articles is here from the Free Exchange blog of the Economist. Raghuram Rajan from the University of Chicago School of Business has contributed some good ideas and a robust discussion of the pros and cons of various options have been presented. As always, there is little effort on the part of the various contributors to synthesize a viewpoint. Rather the tendency is to point out why a specific solution presented may not work.

To a large extent, I think these ideas miss an important point. The ideas consistently treat financial institutions as rational entities, which seem to operate largely on principles of rational economics, capital theory and other such textbook ideas. The fact of the matter is that management matters. And management is a function of the human beings that take important decisions within these organizations, their incentive structures and also, more broadly, the set of values and identity that seems to motivate these human players.

And unless we all as stakeholders begin to take notice that the destiny of corporations are driven by the individuals managing those organizations, that the laws of economics are (unlike the laws of nature) created by its human players, we will continue to argue around the margins on window dressing the regulatory system and make no significant progress towards creating a more stable financial system. A stable system by definition is going to provide fewer opportunities to pursue supernormal profits. A stable system needs the suppression of that oldest of human sins, greed. Do have the courage to confront ourselves and seriously consider a slew of workable solutions to fix a broken system? Only time will tell but I am not holding my breath.