Philip Swagel vs. the Break-Up-the-Banks Brigade

by Reihan Salam

As a strong sympathizer with the break-up-the-banks brigade, I thought I’d share Philip Swagel’s case for the defense.

(1) Megabanks have the scale and the resources to do things that smaller banks simply can’t do, e.g., meet the needs of large global business enterprises and governments;

(2) though Dodd-Frank isn’t perfect, it represents significant progress in addressing too-big-to-fail, or too-interconnected-to-fail;

(3) and besides, the failure of a U.S. megabank wouldn’t cause as much disruption as is commonly understood as the assets of the five largest U.S. banks represent 56 percent of U.S. GDP, whereas the parallel numbers for Britain and Germany are 309 percent and 116 percent respectively;

(4) if anything, there might be less capital in the banking sector than we actually need to sustain robust growth;

(5) breaking up the megabanks will likely shift financial activities to foreign financial institutions subject to less stringent asset limits;

(6) shadow banks, less transparent and lightly regulated relative to the megabanks, will also pick up the slack, and this poses significant risks;

(7) indeed, it is the shadow banking sector that is in greater need of reform than the megabanks, as the most pressing issues relating to the latter have been more or less adequately addressed.

Though I’m not persuaded by Swagel’s argument, in part because there are a number of ways to achieve the broad goals of the break-up-the-banks brigade that also address at least some of his concerns, he makes a number of important points, particularly with regards to the shadow banking sector.