Wall Street is buzzing about the annual report just put out by the Dallas Federal Reserve. In the paper, Harvey Rosenblum, the head of the Dallas Fed's research department, bluntly calls for the breakup of Too-Big-To-Fail banks like Bank of America, Chase, and Citigroup.
The government's bottomless sponsorship of these TBTF institutions, Rosenblum writes, has created a "residue of distrust for government, the banking system, the Fed and capitalism itself."
The report (PDF), entitled, "Choosing the Road to Prosperity: Why We Must End Too-Big-To-Fail Now," is written in a surprisingly readable style and is illustrated with reader-friendly cartoons and pictographs. It uses rhetoric that, for the Fed, is extremely candid and colorful, going beyond an arcane analysis of monetary policy to focus on the cultural damage of Too-Big-To-Fail.
"These psychological side-effects of Too-Big-To-Fail can't be measured, but they're too important to ignore," Rosenbaum writes. "People disillusioned with capitalism aren't as eager to engage in productive activities. They're likely to approach economic decisions with suspicion and cynicism, shying away from the risk-taking that drives entrepreneurial capitalism."
Much of Rosenbaum's report sounds like it could have been written by Dylan Ratigan, Nomi Prins, Tyler Durden, Barry Rithotz, or any of the other countless critics of Wall Street that have grown out of the crisis era.
He sounds many of the same themes pressed by all of these critics: He calls for higher capital requirements, hammers home the notion that capitalism can't work without failures, and talks at length about the moral hazards of the Fed's limitless zero-interest-rate lending, which he notes can be seen as "taxing savers to pay for the recapitalization of banks whose dire problems led to the calamity."
Moreover, he talks about an inherent perversion of the system that has led to a two-tiered regulatory environment: a top tier where the misdeeds of TBTF banks are routinely ignored and unpunished ("virtually nobody has been held accountable for their roles in the financial crisis," he writes), and a lower tier where small regional banks are increasingly forced to swim upstream against "the law's sheer length, breadth and complexity," leading to a "massive increase in compliance burdens."
To me, the dichotomy outlined by Rosenbaum helps explain the appearance of two seemingly contradictory major protest movements: a Tea Party movement fulminating against a repressive, overweening regulatory regime, and the Occupy movement railing against an extreme laissez-faire system bordering on lawlessness.
The situation described by Rosenbaum explains how both movements could be right. Just as Tea Party leaders argue, there really has been an enormous flowering of new regulatory burdens in recent decades. It's just that one group of actors has been given de facto license to ignore those burdens, while everyone else has not. Thus two movements protesting lawlessness on the one hand and an excess of laws on the other – that doesn't necessarily strain the imagination.
Rosenblum lists many reasons why he thinks the TBTF banks must be broken up, but the one that might be the most damning is his criticism of the Dodd-Frank financial reform bill, which ostensibly created a mechanism for winding down troubled TBTF institutions with reduced cost to the taxpayer. Under Dodd-Frank, banks are supposed to create "living wills" that contain plans for orderly wind-downs in the case of a Lehmanesque disaster.
But in his criticism of Dodd-Frank, Rosenbaum points to what Josh Rosner in our recent Bank of America piece called "the worst-kept secret on Wall Street": the high probability that when "the big one" finally hits, no one in government will have the guts to let a TBTF company go down the drain. Why? Because these firms are so deeply intertwined and interconnected that when one of them starts taking water, they essentially all do -- and so any president who chooses to refuse to reach into the cookie jar for a big bailout would likely be signing off on the political suicide of a broad systemic collapse.
"In all likelihood," Rosenbaum writes, "TBTF could again become TMTF – too many to fail, as happened in 2008." He adds that, "For all its bluster, Dodd-Frank leaves TBTF entrenched."
The significance of the Dallas Fed report isn't that yet another person has come out to make public note of the impossible-to-miss, gigantic, oozing wart on the face of American capitalism that is the TBTF system. What's significant is that we're moving closer to a time when the extremely critical view of TBTF, and the demand for an end to the system, becomes bipartisan consensus.
On what we call the far ends of the political spectrum, in Occupy and the Tea Party, there are people who obviously have sharply contrasting views on all sorts of things. Your average Occupy protester and your average Rand Paul devotee probably couldn't make it through a game of Boggle without getting in a loud scrap about something, whether it's Obamacare or gay parenting or whatever.
But whether you think modern American capitalism needs to be fundamentally reformed or whether you think it just needs a few tweaks here and there, you probably can at least agree, for starters, that our system definitely can't work if corrupt, failing companies escape consequence by leaning on an endless supply of bailouts and low-interest financial patronage by the Federal Reserve.
The conservative argument on TBTF is beginning to blend in with, and become indistinguishable from, the progressive argument. You can say the current system is private enterprise corrupting government, or you can call it repressive government corrupting private enterprise, but it increasingly amounts to the same thing.
By now, virtually everybody who has an informed opinion on the matter thinks the TBTF system makes no sense and must end -- the only people who really disagree are the leaders of those firms, the politicians who depend on their money. There may not be many more papers like this Dallas Fed report coming down the pipe from influential political sources, but there will be even fewer arguing the converse, i.e that TBTF is a good idea that's been great for America. There isn't anyone outside Jamie Dimon's inner circle who'd even think about writing that paper.
Reports like this one by the Dallas Fed are important because they add legitimacy to the argument for breaking up TBTF. Intellectually, pretty much everybody likely agrees with Rosenbaum. But they need someone with the right credentials to tell them that saying so isn't revolutionary socialism. Once people on both sides of the aisle start realizing they agree about breaking up these banks, who knows? It might even happen.