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In Banking, There’s No Such Thing as Too Far Away to Fail: View

July 06, 2011

July 6 (Bloomberg) -- According to a new Bloomberg Government report, as many as 100 financial firms with non-U.S. owners will be subject to new rules intended for systemically important institutions, or those whose failure could rock the whole financial system.

That means 79 percent of all the firms that are likely to have to limit proprietary trading and have larger capital cushions, to name two rules, will not be American owned. This is an entirely good thing.

Before the non-U.S. banks get too agitated about being more closely supervised by the U.S. government, they would be well advised to remember which institutions needed help from the Federal Reserve during the intense liquidity squeeze of 2008. Of the $110.7 billion borrowed from the Fed in late October 2008, at least 70 percent was by non-U.S. banks. Credit Suisse Group AG, based in Zurich, borrowed as much as $45 billion, according to Fed documents. Royal Bank of Scotland Group Plc, based in Edinburgh, got at least $30 billion.

The Fed says those loans have been repaid with interest. At the time, though, no one else in the financial system had the nerve or the resources to make such extensive support available. The Fed was shouldering considerable risk by stepping in as the lender of last resort. It’s understandable -- and, in fact, essential -- that regulators would want to reduce the chances of having to engage in such large-scale interventions again.

Fine-Tuning Governance

Several non-U.S. institutions, such as Deutsche Bank, are fine-tuning the management and governance of their U.S. arms so that they can operate more comfortably under regulations prescribed by the 2010 Dodd-Frank financial reform law. Other non-U.S. institutions may decide to sell their American offshoots. Neither of those responses should be troubling. Banking assets and jobs would presumably remain in the U.S., with greater local control. A not-incidental principle would be underscored: Access to the U.S. market is a privilege, one that comes with the responsibility of obeying U.S. laws.

One of Dodd-Frank’s most pressing missions is to eliminate free-rider problems, in which market participants could pursue aggressive profit-seeking strategies in boom times, knowing that if everything went badly, the losses would be society’s problem. Requiring all large banks, no matter who owns them, to abide by rules meant to prevent systemic failure is a case where the Dodd-Frank remedy is sized just right for an interconnected world.

Read more Bloomberg View editorials.

--Editors: George Anders, Paula Dwyer

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To contact the Bloomberg View editorial board: view@bloomberg.net.


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