Question

please write short summary of “too big to fail”(Andrew Ross), according to first 2 chapters

Answer 1

The "too big to fail" theory asserts that certain corporations, particularly financial institutions, are so large and so interconnected that their failure would be disastrous to the greater economic system, and that they therefore must be supported by government when they face potential failure.^[1] The colloquial term "too big to fail" was popularized by U.S. CongressmanStewart McKinney in a 1984 Congressional hearing, discussing the Federal Deposit Insurance Corporation's intervention with Continental Illinois.^[2] The term had previously been used occasionally in the press.^[3]

Proponents of this theory believe that some institutions are so important that they should become recipients of beneficial financial and economic policies from governments or central banks.^[4] Some economists such as Paul Krugman hold that economies of scale in banks and in other businesses are worth preserving, so long as they are well regulated in proportion to their economic clout, and therefore that "too big to fail" status can be acceptable. The global economic system must also deal with sovereign states being too big to fail.^[5][6][7][8]

Opponents believe that one of the problems that arises is moral hazard whereby a company that benefits from these protective policies will seek to profit by it, deliberately taking positions (see asset allocation) that are high-risk high-return, as they are able to leverage these risks based on the policy preference they receive.^[9]The term has emerged as prominent in public discourse since the 2007–08 global financial crisis.^[10] Critics see the policy as counterproductive and that large banks or other institutions should be left to fail if their risk management is not effective.^[11][12] Some critics, such as Alan Greenspan, believe that such large organisations should be deliberately broken up: "If they're too big to fail, they're too big".^[13] More than fifty prominent economists, financial experts, bankers, finance industry groups, and banks themselves have called for breaking up large banks into smaller institutions.^[14]

In 2014, the International Monetary Fund and others said the problem still had not been dealt with.^[15][16] While the individual components of the new regulation for systemically important banks (additional capital requirements, enhanced supervision and resolution regimes) likely reduced the prevalence of TBTF, the fact that there is a definite list of systemically important banks considered TBTF has a partly offsetting impact.

Definition[edit]

Federal Reserve Chair Ben Bernanke also defined the term in 2010: "A too-big-to-fail firm is one whose size, complexity, interconnectedness, and critical functions are such that, should the firm go unexpectedly into liquidation, the rest of the financial system and the economy would face severe adverse consequences." He continued that: "Governments provide support to too-big-to-fail firms in a crisis not out of favoritism or particular concern for the management, owners, or creditors of the firm, but because they recognize that the consequences for the broader economy of allowing a disorderly failure greatly outweigh the costs of avoiding the failure in some way. Common means of avoiding failure include facilitating a merger, providing credit, or injecting government capital, all of which protect at least some creditors who otherwise would have suffered losses. ... If the crisis has a single lesson, it is that the too-big-to-fail problem must be solved."^[18]

Bernanke cited several risks with too-big-to-fail institutions:^[18]

1. These firms generate severe moral hazard: "If creditors believe that an institution will not be allowed to fail, they will not demand as much compensation for risks as they otherwise would, thus weakening market discipline; nor will they invest as many resources in monitoring the firm's risk-taking. As a result, too-big-to-fail firms will tend to take more risk than desirable, in the expectation that they will receive assistance if their bets go bad."
2. It creates an uneven playing field between big and small firms. "This unfair competition, together with the incentive to grow that too-big-to-fail provides, increases risk and artificially raises the market share of too-big-to-fail firms, to the detriment of economic efficiency as well as financial stability."
3. The firms themselves become major risks to overall financial stability, particularly in the absence of adequate resolution tools. Bernanke wrote: "The failure of Lehman Brothers and the near-failure of several other large, complex firms significantly worsened the crisis and the recession by disrupting financial markets, impeding credit flows, inducing sharp declines in asset prices, and hurting confidence. The failures of smaller, less interconnected firms, though certainly of significant concern, have not had substantial effects on the stability of the financial system as a whole.