The Government Accountability Office (GAO) has released a new report that examines whether “too big to fail” banks enjoy a cost advantage over smaller banks due to implied government protection.
The GAO report hedges its findings carefully. It says that large banks may still have a cost advantage over smaller banks due to the perception that they will be bailed out (i.e., that they are “too big to fail”), but this advantage “may have declined or reversed” since the 2008 financial crisis.
In today’s written congressional testimony on the study, Lawrance L. Evans, the GAO’s director of financial markets and community investment, makes two careful points that highlight the difficulty in estimating any possible cost advantage these firms may enjoy:
- “Our analysis suggests that large bank holding companies had lower funding costs than smaller ones during the financial crisis but provides mixed evidence of such advantages in recent years.”
- “Given the nature of this analysis and associated limitations, our results should be interpreted with caution.”
Given that firms in any industry can generally lower their average costs as they increase the size of their operations, separating out specific subsidy effects for large banks—from implied government protection—is a difficult, if not impossible, task. Regardless, several Members of Congress have already decided they need to remedy the situation.
Senators Sherrod Brown (D–OH) and David Vitter (R–LA), who requested the report, have already introduced a bill that would raise capital requirements for large banks without providing much regulatory relief. In a joint statement released today, the Senators noted:
Wall Street lobbyists may try to spin that the advantage has lessened. But if the Army Corps of Engineers came out with study that said a levee system works pretty well when it’s sunny—but couldn’t be trusted in a hurricane—we would take that as evidence we need to act.
The fact that Congress wants to punish firms for being given bailout money from Congress would be funny if it weren’t so dangerous to the economy. These firms have already been forced to accept an enormous increase in regulatory costs, and now certain Senators want to impose punitive capital requirements and/or force the companies to divest (i.e., break up).
A much simpler solution would be for Congress to stop bailing out financially troubled firms. One good way to ensure that such an option is credible is to amend the bankruptcy code so that large financial firms have a viable bankruptcy alternative.
Senators Pat Toomey (R–PA) and John Cornyn (R–TX) have already introduced a bill that would help do just that. In fact, the House Judiciary Committee has just released a discussion draft of its own bankruptcy bill, and it appears the House Financial Services Committee is about to introduce similar legislation.
If Congress can’t stop bailing out banks under current law, they should fix the law to make their task easier.