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Too big to fail historically

By Mike Konczal

The following two graphs are from F.M. Scherer's "A Perplexed Economist Confronts 'Too Big to Fail' " paper.

The first is a graph of the assets of the top firms historically:



As you can see, starting in the early 1990s, the concentration of the biggest players starts to skyrocket. Though that graph ends in 2004, this concentration has continued to grow during this crisis, especially among the top six players.

Now why is this? Let's see a chart of merger activity over this time period:



That's a giant graph, but take a second to understand what is happening there. All those banks you vaguely remember have all been absorbed by the biggest players. It's like Bank of America went around going "I drink your milkshake!" at every mid-sized regional bank. My favorite argument against a hard size cap for the biggest banks was from a Republican in D.C., who, when I suggested breaking up the biggest banks (and having resolution authority over the pieces!), looked at me with horror and said: "Why would you want to punish successful firms?"

There's an Oxes album where the cover shows people mock protesting an Oxes concert, and someone is holding up a sign that says "Sarcasm Doesn't Equal Irony!," and I couldn't immediately tell whether this GOP guy was being ironic or sarcastic. Talking with him for a while more, I think he was being completely sincere. He believed these firms are so big because they have done the banking equivalent of building a better mousetrap, that they are smarter and outperforming their competition.

I learned quickly that the argument "If we had anything even remotely resembling coherent anti-trust law, especially in finance, since the early 1980s we would have a smaller mess to clean up" is not an argument that works well on Republicans. (Forgive me, I'm new to politics.) Starting in the early 1990s there's been a massive wave of bank mergers among our biggest six players in the financial space. This has been an experiment, and it's easy to say that this experiment has failed. So why not undo it, and regulate the remaining pieces?

-- Mike Konczal is a fellow with the Roosevelt Institute and the author of the Rortybomb blog.

By Washington Post editor  |  April 5, 2010; 9:07 AM ET
Categories:  Financial Crisis  
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Comments

If you look at market cap, it's not at all unusual for 50% or more of any given industry to be concentrated in the top half dozen or so players. Software is much more concentrated, with Microsoft and Oracle alone accounting for well over half the total. Major oil and gas, auto manufacturing, and auto parts are similarly concentrated. Maybe the mere existance of a few very big players isn't the problem.

Posted by: tl_houston | April 5, 2010 9:27 AM | Report abuse

Great info in this post, thanks!

I think we have all felt the impact of the consolidation in the financial industry, but the merger chart is fantastic. Same with % of assets under control.

Health insurance followed the same route, eliminate competitors and increase margins. How pro-monopoly we've gotten.

Posted by: rat-raceparent | April 5, 2010 9:32 AM | Report abuse

The difference is if Microsoft were to suddenly close its doors tomorrow, while it would be disruptive, it wouldn't take down the entire economy with it. Plenty of companies would step up to fill the gaps left behind. Ditto for just about any other industry.

The problem is that the finance industry is intricately tied into every single industry and problems in it affect the entire country.

Posted by: lol-lol | April 5, 2010 9:58 AM | Report abuse

tl_houston: "Maybe the mere existance of a few very big players isn't the problem."

It's not. The idea that these banks are "too big to fail"--and thus are apparently extended an implicit guarantee that the tax-payer will cover both their irrationally exuberant risks and outright (or almost outright fraud) is a big part of the problem. They if they are "bailed out", the bail out doesn't involve deconstructing the management structure and business plan that led them to failing, only perpetuates the failed policies and leadership as if there was nothing particularly wrong with what they did.

There would have also been a smaller mess--or no mess at all--to clean up if they banks had simply been required to maintain 15 to 1 leverage to asset ratios. You don't have to break them all up (which is crazy expensive) and over-regulate them to avoid this outcome. You could be more resistant to mergers in the future . . . I think that would be smart.

If Microsoft folds, the government won't step into to bail them out. I don't think. I'd hope not. Same with Oracle. Still, I think more, smaller competitors makes for a better marketplace, and mergers and acquisitions should could get increasing more difficult as you grow in size. They clearly don't offer all the economies of scales we're promised when they happen.

@Konczal: "He believed these firms are so big because they have done the banking equivalent of building a better mousetrap, that they are smarter and outperforming their competition."

This is a difficult argument to make, because if they had built a better mousetrap, they would not require any kind of bail out. Indeed, you really can't argue that you are punishing success, if the success is simply the amount of acquisitions a company has made.


Posted by: Kevin_Willis | April 5, 2010 9:58 AM | Report abuse

The flaw in this analysis is that the banking industry was famously susceptible to massive disruptions even when it was less concentrated. The savings and loan crisis was gigantically expensive. The Depression was, of course, the Depression. Financial panics were common through the 19th century.

Posted by: tomtildrum | April 5, 2010 11:09 AM | Report abuse

@tomtildrum: "The flaw in this analysis is that the banking industry was famously susceptible to massive disruptions even when it was less concentrate"

Indeed. If a bunch of smaller banks had engaged in the same sorts of practices the big, overly-concentrated banks did, then the results would be the same. It's not concentration, so much as it is 30-to-1 leverage ratios, being heavily invested in junk (and selling junk) securities that were somehow mysteriously rated as AAA, etc.

@lol-lol: "The difference is if Microsoft were to suddenly close its doors tomorrow, while it would be disruptive, it wouldn't take down the entire economy with it"

Well, first, there's no proof that several of the major banks failing--particularly if their account holders were largely made whole by the government, even if the banks and it's executives were not--would take down the entire economy. Many educated people swore up and down that would happen, but it's not exactly a guarantee.

Second, is market concentration the problem, or allowed practices? It's not the size of the banks that could potentially hurt the entire economy, it's what they were doing--and all indication are that, had they been dozens of separate banks, they would have still been doing the same reckless things. Their collective behavior would have been no better than a few banks unitary behavior. Break them up or not, just don't exact the breaking up of big banks to have any bearing on the sorts of problems that led us to this particular financial crisis in the first place.

Posted by: Kevin_Willis | April 5, 2010 11:19 AM | Report abuse

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