Some selections from an op-ed by Lawrence Summers in the Financial Times on saving the eurozone:
“ First, the maintenance of systemic confidence is essential in a financial crisis. Teaching investors a lesson is a wish not a policy.”
“Third, there must be a clear commitment that, whatever else happens, no big financial institution in any country will be allowed to fail. ”
These two sentences are admittedly excerpted from a much longer op-ed but I don’t think I’m cherry-picking. I don’t find a scintilla in the op-ed about what caused the problems, the responsibilities of lenders, or how to prevent a future recurrence.
Given those two sentences what strategy should a large, institutional investor follow? Isn’t it to grow large enough to be too big to be allowed to fail and then take on the most profitable investments without regard to risks or potential consequences? What is the governing mechanism for such an institution? Destruction of the world economy?
IMO too big to fail means too big to exist; failing that we must be willing to discipline large institutions. Relying on their skill, prudence, or good will has no reasonable basis in experience. It is against human nature. It is a formula for an even greater disaster.
Dr. Summers appears to be reassuring primarily German bankers who should have known that Greece was unable to meet its debt obligations that the party will be allowed to go on indefinitely. That isn’t a plan for saving the eurozone. It’s a plan for bringing down the world economy.
Update
Felix Salmon picks up on the bizarre prescriptions of the op-ed, too:
The implication here — although Summers doesn’t quite spell it out — is that the debt of a country’s banks can and should be safer than the debt of the sovereign. That’s something which has never worked in the past, and it’s very hard to see how it could possibly work in the future. After all, if you look at the assets of any given country’s banks, sovereign debt in one form or another constitutes a huge proportion of that number.
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