Bernanke: Close The Banks That Can’t Cut It

During his interminable testimony before the Financial Crisis Inquiry Commission, Federal Reserve Chairman Ben Bernanke said that banks that posed a major risk to financial stability should be closed.

“If the crisis has a single lesson, it is that the too-big-to-fail problem must be solved. Simple declarations that the government will not assist firms in the future, or restrictions that make providing assistance more difficult, will not be credible on their own.”

Bernanke’s statement was a proper response to the domino effect among troubled banks that nearly brought the global credit system down. The solution, he proposes, is to firewall banks off from the rest of the system if another catastrophe occurs. What is nowhere is his testimony, if it is examined carefully, is any realistic solution to segregate huge failing banks from the global financial ecosystem. A plan to “wind down” a bank is impractical even if its desirable as the rescue of American International Group (NYSE: AIG) showed. The insurance company had too many relationships with too many other large financial companies to make any orderly dissolving of AIG possible. If history teaches anything it is that credit crises hit the market rapidly and in most cases with little warning. A plan to take one damaged pillar from under a the financial system structure is unrealistic.

Bernanke’s testimony is an indication that he does not believe that what the Fed, the Treasury Department, and Congress did during the 2008/2009 crisis was not as well thought out or executed as it might have been. A master plan to handle a similar situation would be invaluable in the future. But, most of the system that stanched the bleeding during the last disaster worked. TARP funds kept several large firms afloat. The weakest companies like Countrywide and Washington Mutual were folded into stronger companies. Within a few months, the most severe parts of the crisis were over. Bernanke might argue that the cost to taxpayers was unacceptable, but many taxpayers were not blameless as they took out mortgages that could not be repaid and loaded their personal balance sheets with debt. At the rate that the TARP, AIG loans, and car companies are repaying the government, the cost of saving the financial system may actually end up to be modest.

Bernanke does not have any roadmap to save the financial system, and he will not admit that the last solution worked because in part he was a major part of it.

Douglas A. McIntyre