In the responses to my post on why we need market-makers with big balance sheets, one thing I've noticed is that a lot of people are completely unable to distinguish between the argument that we need big banks, and the argument that we need the big banks that exist today. I made the former argument, not the latter. I thought this distinction was obvious, but it was apparently lost on quite a few people, who immediately pointed out that Citigroup is a very big bank, and it's been a disaster — as if the fact that Citi was a failure somehow proves that market-makers don't need big balance sheets. In my post, I noted that one of the benefits of having large market-makers is that it allows the use of mark-to-market accounting, which is an important check on management. Both Felix Salmon and Ken Houghton rushed to point out that Citi doesn't mark all its assets to market. Uh, yes, and that proves what, exactly? Citi doesn't mark all its assets to market because it's not required to. But that's an issue of accounting rules, and has absolutely nothing to do with the bank size issue. One of the things I've been trying to do recently is spur people to get beyond this kind of superficial sound-bite analysis. Being able to distinguish between an argument for big banks and an argument for the Wall Street banks that happen to exist today is a prerequisite for getting beyond superficial sound-bite analysis. So when I read a post like Felix's, I honestly despair. The number of clearly fallacious arguments he treats as establish fact is just staggering, and slightly depressing. It is, ironically, a good example of what Steven Pinker just coined the Igon Value Problem: "when a writer’s education on a topic consists in interviewing an expert, he is apt to offer generalizations that are banal, obtuse or flat wrong." On the other hand, when I read a post like this from Steve Randy Waldman, I'm greatly enouraged.


Anonymous said...

I'm going to keep asking until somebody answers. How does having smaller banks make a hill of beans worth of difference if a we find ourselves faced with another systemic crisis?

My suspicion is a country would be worse off if the top 50% was made up of 100 banks versus 10 banks.

I also think the very best way to deal with a systemic crisis is to do pretty much what Bernanke and Geithner and other fellow travelers have done, and that people are so hacked off astonishes me. If Elizabeth Warren had had her way, we would be in the midst of a disaster.

Anonymous said...

Is there any evidence that banks act as market markers? Look at ARS when it suited them they stood aside from the market.

Anyway why do debt markets have to be liquid? When you are buying a 10yr bond surely you are happy with owning it till maturity otherwise why buy it?

Tax payers are better off with banks that don't need implicit gaurantees to exist.

Anonymous said...

more self-serving tripe.

in accusing others of simple-mindedness, the blogger makes the giant assumption that accounting rules are formulated independent of any influence from large entities like Citi. fact is, large institutions, like Citi and JPM, definitely influenced the pronouncements coming out of Stamford. the bigger the institutions, the more leverage over things like accounting rules.

big size may come with (pre-supposed) economies of scale. but they also come with a huge amount of political power, doesn't it? power that can corrupt and amend accounting rules, for example.

"How does having smaller banks make a hill of beans worth of difference if a we find ourselves faced with another systemic crisis?
==> again, fact of the matter is, having big firms didn't exactly do anything to soothe systemic crisis now, did it? at least 100 smaller firms would not have the same kind of (perceived) influence over things like govt and accounting rules ...

the benefits of the economies of scale are by-and-large realized by a small group (in the form of rents). while institutions get big, they are able to assemble a massive inventory of instruments that can ignite and exacerbate systemic crises. and when such crises do occur, who bears the cost inherent (but not priced) in the said inventory?

yequalsx said...

I don't think the distinction is as clear as you believe it to be.

It is not clear that it is possible to have big banks that are significantly different than what we have today. There is evidence of regulatory capture in the area of financial regulation. Suppose we have your version of big banks. In the long term, it is quite likely that a return to the status quo becomes an inevitability.

Furthermore, is it even healthy to have a non-governmental entity to be too big to fail? Shouldn't such institutions by definition be national ones? Otherwise there is too much power concentrated in too few people. That is bad for the republic.

Economics of Contempt said...

Anonymous @ 3:15 AM: I can't answer your question, because I tend to agree with you.

On the issue of 100 banks vs. 10 banks in the top 50%, I'd have to see a further breakdown of the 100 banks. I think it's possible to have a more robust system with 100 rather than 10 banks in the top 50%, but it's also possible to have a less robust system with 100 banks in the top 50%. To me, I suppose it would come down to how well the set-up protects the critical market nodes (e.g., clearing and settlement, CP, etc.).

Economics of Contempt said...

Anonymous @ 10:51 AM: The fact that the FASB -- an independent board -- agreed with Citi and JPM on an accounting issue isn't evidence of corruption. Lots of people have lots of opinions on accounting issues, so no matter which way the FASB comes down, someone is always going to be getting what they want.

Asserting that the FASB has been corrupted by Citi and JPM doesn't make it true.

Anonymous said...

that is funny.

asserting all of FASB's actions during a given timeframe were independent does not make it true either. there may have a legal "answer" to this conundrum -- probably the burden of proof is on the one who says all of the FASB's actions were not independent.

but the reality remains -- are you claiming that big institutions do not come with oversize political clout [whatever the (dubious, pre-supposed) economics of the situation]?

further, that such clout cannot/will not potentially distort policy to the extent that risk/reward payoffs are funneled into different vessels?

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