Senator McConnell Is Wrong, Senator Kaufman Is Right. Any Questions?

By Simon Johnson, co-author of 13 Bankers: The Wall Street Takeover and The Next Financial Meltdown
Senator Mitch McConnell continues to insist that the Dodd bill creates permanent bailouts – and that it would be definitely better to do nothing.  Apparently, he has indicated a willingness to make a Senate floor statement to that effect every day. 
Senator McConnell is completely wrong on this issue – and, if he gets any traction, we will feel the need to point this out every day.  His remarks today and yesterday go far beyond any reasonable level of partisanship.  This is about playing games with the financial stability of this country and the world; it should stop.
Don’t take my word for it – Senator Ted Kaufman is a strident critic of our current financial system and a tough voice for greatly strengthening the Dodd bill.  But today he was as clear and as forceful as you can be on the floor of the Senate:  Senator McConnell’s proposed approach is “dangerous and irresponsible.”
Senator Kaufman continues, bluntly:
“If we do nothing, and wait for another crisis, future presidents – whether Republican or Democrat – will face the same choices as President Bush:  whether to let spiraling, interconnected too-big-to-fail institutions, like AIG, Citigroup and others, collapse in a contagion, sending the economy into a depression, or step in ahead of bankruptcy and save them with taxpayer money.  If that happens, the choice of allowing bankruptcy will mean tremendous economic pain for Main Street America.”
If you think bankruptcy for megabanks is the solution, you need to get over this.
“If bankruptcy was a cure in Lehman Brothers, it was one that almost killed the patient – the U.S. economy. When former Treasury Secretary Hank Paulson decided to let Lehman Brothers go into bankruptcy, our global credit markets froze and creditors and counterparties panicked and headed for the hills.”
 
“Instead of imposing market discipline, it only prompted more bailouts and almost brought down our entire financial system.” 
 
“It ultimately took 18 months to close out the case on Lehman Brothers, an eternity for financial institutions that mark to market and fund their balance sheets on an interday basis.  Bankruptcy is an even more unattractive option when one considers that Lehman was an investment bank, while today’s megabanks operate under the bank holding company umbrella.” 
We’re all in favor of effective regulation, more capital, and greater controls on derivatives trading.  And passing a resolution authority, as proposed in the Dodd bill, would be a step in the right direction for purely domestic financial entities.
But Senator Kaufman is exactly right to press for more.  The resolution authority will not end “too big to fail” for large complex cross-border financial institutions.  It simply will not – if you think differently, just go talk to our G20 counterparts, as I have done.  There is no cross-border resolution mechanism, there is no international process to negotiate one, and there is no chance you will see such a process in the next 20 years.
Breaking up big banks is not sufficient for financial stability – no one would suggest that.  But it is necessary.  Again, Senator Kaufman nails this:
“Given the consequences of failing to do enough to prevent another financial crisis, the safest thing to do today is for Congress to put an end to too big to fail.  If you believe these mega-banks are too big, if you reject the choice of bankruptcy that will lead to a recession or depression, then breaking them up is the logical answer.  That’s the only way that greatly diminishes the future probability of financial disaster.  The Great Depression of the 1930s must be avoided at all costs.  “