Posted by Jonathan Adler:
Creditors Should Suffer Too:
http://volokh.com/archives/archive_2009_04_05-2009_04_11.shtml#1238982595
[1]Tyler Cowen in today's NYT:
even smart and honest regulators can monitor a financial firm only
so well. A firm�s balance sheet doesn�t always reflect its true
health, and regulators do not have an inside perspective on the
firms they are supposed to secure. We do need more effective
regulation, but calls for regulators to �get tough� are likely to
prove effective only as long as a crisis lasts.
What the banking system needs is creditors who monitor risk and cut
their exposure when that risk is too high. Unlike regulators,
creditors and counterparties know the details of a deal and have
their own money on the line.
But in both the bailouts and in the new proposals, the government
is effectively neutralizing creditors as a force for financial
safety. This suggests a scary possibility � that the next
regulatory regime could end up even worse than the last.
The more closely a financial institution is regulated, the more it
will be assumed that its creditors enjoy federal protection. We may
be creating a class of institutions whose borrowing is, in effect,
guaranteed by the government.
It doesn�t need to be this way.
References
1.
http://www.nytimes.com/export_html/common/new_article_post.html?url=http%3A%2F%2Fwww.nytimes.com%2F2009%2F04%2F05%2Fbusiness%2Feconomy%2F05view.html&title=Why%20Creditors%20Should%20Suffer%2C%20Too&summary=If%20we%20are%20going%20to%20prevent%20an%20A.I.G.-like%20debacle%20from%20happening%20again%2C%20institutions%20that%20engaged%20in%20bad%20deals%20need%20incentives%20to%20be%20more%20wary%20of%20their%20trading%20partners.§ion=Economic%20View&pubdate=April%205%2C%202009&byline=By%20TYLER%20COWEN
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