Causes, Consequences and Implications for Reform
Edited by Lawrence E. Mitchell and Arthur E. Wilmarth, Jr
Chapter 4: Too Big to Fail? Recasting the Financial Safety Net
4. Too big to fail?: recasting the financial safety net1 Steven L. Schwarcz2 Government safety nets in the United States and abroad focus anachronistically on problems of banks and other financial institutions, largely ignoring financial markets which have become major credit sources for consumers and companies. Besides failing to protect these markets, this narrow focus encourages morally hazardous behavior by large institutions, like AIG and Citigroup, that are ‘too big to fail’. This chapter examines how a safety net should be recast to protect financial markets and also explains why that safety net would mitigate moral hazard and help resolve the too-big-to-fail dilemma. The real economy relies critically on the supply of liquidity in the form of credit.3 The subprime financial crisis, which has now devolved into a larger global financial crisis (collectively the ‘subprime crisis’), ‘began in the credit markets, and eventually . . . will end there’.4 Diminished credit harms the real economy because firms need credit to operate and grow and individuals need credit to buy homes and cars and to finance other expensive purchases. Many think that the story of the credit crunch fundamentally is a banking story.5 Although there is now a severe lack of confidence in banks, the credit crunch predated and contributed to this lack of confidence; although the lack of confidence, in turn, is now making the credit crunch worse. SECURITIZATION AND CREDIT The credit crunch started with the breakdown of securitization and other financial markets for debt. Securitization is a process whereby consumer financial...
You are not authenticated to view the full text of this chapter or article.
Elgaronline requires a subscription or purchase to access the full text of books or journals. Please login through your library system or with your personal username and password on the homepage.
Non-subscribers can freely search the site, view abstracts/ extracts and download selected front matter and introductory chapters for personal use.
Your library may not have purchased all subject areas. If you are authenticated and think you should have access to this title, please contact your librarian.