# Too big to fail
**URL:** https://boards.straightdope.com/t/too-big-to-fail/746443
**Category:** Great Debates
**Created:** [February 18, 2016, 3:04pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443 "2016-02-18T15:04:03Z")
**Posts on this page:** 7
**Page:** 2
### Author:  [@puddleglum](https://boards.straightdope.com/u/puddleglum)
#### Post date: [February 19, 2016, 5:51pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/21 "2016-02-19T17:51:01Z")
> [@septimus](#):
>
> If you own a bond and bet against it _you’re hedging your bet_. When you bet against bonds _you don’t own_ you’re _gambling_.
>
> I’m not opposed to gambling _per se_, but these were big bets which put the financial system at risk for no public benefit. In some cases the bets led to a financial collapse and it was the taxpayers, not the bankrupt counterparty, that needed to make parties whole to keep the economy stable.
>
> TL;DR: The biggest recession since the 1930’s was caused by wild Wall St. gambling with no public benefit.
What he said was “What seemed particularly egregious to me (I don’t know if it was illegal) were banks that underwrote large loans, then bet against those loans in the derivative market”
If you are a bank with that underwrites a large loan, you are exposed if the client does not pay back the loan. By betting against repayment in the derivative market you are lessening your exposure.
The recession was actually caused by[poor monetary policy](https://www.richmondfed.org/~/media/richmondfedorg/publications/research/economic_quarterly/2009/spring/pdf/hetzel2.pdf).
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### Author:  [@septimus](https://boards.straightdope.com/u/septimus)
#### Post date: [February 19, 2016, 6:06pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/22 "2016-02-19T18:06:19Z")
> [@puddleglum](#):
>
> What he said was “What seemed particularly egregious to me (I don’t know if it was illegal) were banks that underwrote large loans, then bet against those loans in the derivative market”
> If you are a bank with that underwrites a large loan, you are exposed if the client does not pay back the loan. By betting against repayment in the derivative market you are lessening your exposure.
Apparently we have a different notion of how loan underwriting actually works on Wall Street. A big investment bank is hired by the borrower to do “due diligence,” and then _help sell the bonds_ to a large variety of investors. For such a bank to encourage its customers to buy such bonds, _while the underwriting bank is happily betting against them_, seems unethical.
There was a great deal of egregious behavior on Wall St. that led to the financial crisis. _You seem to be unaware of that,_ **puddleglum**. I’ll repeat the question I asked in an earlier thread: _What books have you read on the crisis that give you this sanguine view?_ My question is sincere: I’ve read several accounts of the crisis but never found one that supports right-wing talking points. What am I overlooking?
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### Author:  [@Voyager](https://boards.straightdope.com/u/Voyager)
#### Post date: [February 19, 2016, 6:58pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/23 "2016-02-19T18:58:09Z")
> [@LonghornDave](#):
>
> I don’t have a huge problem with what you said overall, but this is not really all that correct of an answer. It really depends on what you count. At the end of the day, the U.S. made money on many of the bailout programs, like TARP. Obviously they took a risk, so they could have lost. Also, there were several indirect bailouts, many of which would have a cost. For example, do you think the extreme zero interest rate policy made or lost money for the taxpayer; it depends on your perspective. How about the massive expansion in the Fed balance sheet. Do you count the billions in fines or not. My point is that you can read one reputable source and they’ll tell you it was a cost of trillions and another that is also reputable that says it was a profit of hundreds of billions.
>
> I tend to believe that at the end of the day, the direct cost wasn’t much, but the real cost was the terrible precedent it set.
It was also the risk. We were lucky in having a Fed Chair and a Treasury Secretary who were willing to use innovative solutions, and a Republican President who was smart enough to stay out of the way. There are plenty of politicians who are ideologically against “bailouts” - if one of them was in power things could have turned out a lot worse.
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### Author:  [@Voyager](https://boards.straightdope.com/u/Voyager)
#### Post date: [February 19, 2016, 7:03pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/24 "2016-02-19T19:03:19Z")
> [@puddleglum](#):
>
> Glass Steagall had nothing to do with the financial crisis and its reinstatement would have no effect. None of the too big to fail companies would have fallen under Glass Steagall. AIG was bailed out because it was too big to fail and it is an insurance company and not under Glass Steagall. Wachovia, Washington Mutual, and Bank of America all failed because of bad mortgage loans, which is main street banking. Bear Stearns and Lehman Brothers did not have commercial banks and would not have been affected. Fannie Mae and Freddie Mac also would have been unaffected.
That seems a bit simplistic. The bad loans were not because the banks suddenly forgot how to assess creditworthiness, they were because it was financially advantageous to write risky loans. And that was because there were sophisticated mechanisms to hide the bad loans in products with higher ratings than merited.
Real Main Street banks which did not sell the loans didn’t get affected at the beginning - they did when when the crash, lower property values and unemployment turned good loans into bad ones.
So the question is whether splitting up the banks would have reduced this problem.
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### Author:  [@Voyager](https://boards.straightdope.com/u/Voyager)
#### Post date: [February 19, 2016, 7:07pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/25 "2016-02-19T19:07:44Z")
> [@snowthx](#):
>
> If the banks are too big to fail, they should be subject to additional regulation (not less). Like government, if something goes wrong, there is a person responsible who is also accountable, and that person can lose their job, or worse. For these big banks, if they screw-up, the leaders of those banks should not get to keep their jobs and continue fleecing customers - they should be arrested, face jail time, and essentially strung-up by their proverbial balls. As it is today, few, if any, banksters received any penalties at all for screwing-up at the start of the great recession, and I suspect a lot of them are still in the business (under the guide that no laws were broken). Real people need have their feet held to the fire and face severe penalties for banking hijinx-gone-wrong; that will discourage future bankers from thinking going down that path will be A-OK.
Well, in a perfect world we’d put them in stocks in the village square. In ours the blame is so distributed that it is hard to convict anyone. The risk departments of the banks gave optimistic reports - should the execs ignore that and decrease their profitability?
Plenty of lower level people did get fired. The upper levels, even if they did get fired, had contractually severance pay, and would go boo hoo with their $10 million.
If the threat of punishment proactively prevented crime, we’d have no speeding and no theft. You have to remove the incentives for them to do the bad things, not threaten punishment if it blows up before they quit with their bundles of bucks.
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### Author:  [@puddleglum](https://boards.straightdope.com/u/puddleglum)
#### Post date: [February 19, 2016, 9:00pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/26 "2016-02-19T21:00:49Z")
> [@septimus](#):
>
> Apparently we have a different notion of how loan underwriting actually works on Wall Street. A big investment bank is hired by the borrower to do “due diligence,” and then _help sell the bonds_ to a large variety of investors. For such a bank to encourage its customers to buy such bonds, _while the underwriting bank is happily betting against them_, seems unethical.
>
> There was a great deal of egregious behavior on Wall St. that led to the financial crisis. _You seem to be unaware of that,_ **puddleglum**. I’ll repeat the question I asked in an earlier thread: _What books have you read on the crisis that give you this sanguine view?_ My question is sincere: I’ve read several accounts of the crisis but never found one that supports right-wing talking points. What am I overlooking?
I don’t see why it is unethical to sell bonds while betting against the bonds. It is like a broker helping some people buy a stock while selling the stock himself. It is up to the buyer of a bond to assess the creditworthiness of the people issuing the bonds. If they come to a different conclusion than the bank, then it is fine for both the buyer and the bank to act on their opinions. Unless the bank is lying to the buyer of the bonds about what are in the bonds.
The only book I read about the crisis was the Big Short. I found nothing in it about unethical people cheating poor defenseless bond buyers. It was about how a few contrarian managed to make alot of money because the conventional wisdom was wrong. However, the conventional wisdom is usually correct. The hero of The Big Short who made all that money betting against sub prime mortagages has lost 4 billion out of the 20 billion he managed over the past 2 years. This during a time great growth in the stock market.
The idea that it was fraud or criminal conduct that caused the financial crisis is wrong. What caused the subprime crisis was a mistaken belief by most people that housing prices would continue to go up. Given this belief the banks and lenders acted rationally. [Long](http://www.bostonfed.org/economic/ppdp/2012/ppdp1202.pdf) [Short](http://www.bostonglobe.com/ideas/2012/08/03/bubble/LBjBgBZ2JBAG4pxcbpgPEJ/story.html)
Moreover the recession caused most of the housing crisis and [not](http://idiosyncraticwhisk.blogspot.com/2015/02/housing-tax-policy-series-part-8-crisis.html)the other way around.
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### Author:  [@septimus](https://boards.straightdope.com/u/septimus)
#### Post date: [February 19, 2016, 11:17pm UTC](https://boards.straightdope.com/t/too-big-to-fail/746443/27 "2016-02-19T23:17:55Z")
> [@puddleglum](#):
>
> I don’t see why it is unethical to sell bonds while betting against the bonds. It is like a broker helping some people buy a stock while selling the stock himself. It is up to the buyer of a bond to assess the creditworthiness of the people issuing the bonds. If they come to a different conclusion than the bank, then it is fine for both the buyer and the bank to act on their opinions. Unless the bank is lying to the buyer of the bonds about what are in the bonds…
Certainly a clever poker player will want the opponent to misread his hand. But I prefer merchants who are honest with me. _I feel that I_ often get good advice and deals from merchants where I live\*, motivated as they are for repeat business.\* (OTOH, I’ve not been impressed by any advice from Schwab, though I attribute that to incompetence rather than corruption.)
_Certainly I’d feel cheated if a sell-side analyst paid millions of years in bonuses touted stocks to me while bad-mouthing them privately._ But I suppose that’s your dog-eat-dog professional shark mentality and why these people get their multi-million dollar bonuses.
But bank executives certainly agree with **puddleglum**. IIRC they’ve testified before Congress that their business is strictly on a _caveat emptor_ model, banks versus the customers.
This is what I meant by the banks’ actions having “no public purpose.” Ultimately, huge sums are taken from the public (in the form of over-paid homes in the key example) and converted to various profit sources for rent-seekers in the financial sector. Yes, some financial insiders were themselves hypnotized by the same price bubble. Yet many were not – and those had no motive to record their thoughts.
Defenders of such financial inefficiencies and malfeasances will often speak of “price discovery” and “liquidity.” In fact, the “price discovered” is for the benefit of the rent-seekers and to _fleece_ the public. In the past, the smartest folks often became scientists, artists, service entreprenurs, or engineers and served the public interest. Now the smartest gravitate to the hugely profitable financial sector, skimming rents off the economy, with assistance of government misregulation. And as for “liquidity” how did that work out for all y’all? When Wall St. foibles led to the 2007-2008 liquidity crisis, which had to be bailed out by the Feds, the same entity about which, during the good times, the same greedy capitalists can only say nasty things?
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