FDIC Chair Rejects 'Too Big to Fail' Notion

April 27, 2009— -- Federal Deposit Insurance Corp. Chairwoman Sheila Bair said today that government and the American people need to reject the notion that a bank is simply "too big to fail" -- a 25-year-old idea that she said "ought to be tossed into the dustbin."

Instead -- noting that bankruptcy isn't a viable option either -- Bair called for Congress to give her agency more power to close "systemically important" financial firms, expanding on the FDIC's current ability to close commercial banks.

"The past 25 years have seen vast changes in how credit is provided and in the types of firms which provide financial intermediation," Bair said this afternoon at a luncheon at the Economic Club of New York. "Unfortunately, our laws for dealing with financial crises have not kept pace with these changes."

So far this year, the FDIC has closed down 29 commercial banks. That's more than the 25 closed for all of 2008 and there are still eight months to go this year.

Typically a bank is closed Friday night and is transferred over so that Monday morning it reopens with a new name and under control of the acquiring institution. Bair called the process "unintrusive and seamless."

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But the large banks that play a key part in our economy are very different.

They are involved in complex transactions with numerous other lenders, most not insured by the FDIC. That leaves the government to either bail out the failing institutions or let them file for bankruptcy. When Lehman Brothers filed for bankruptcy in mid-September, it sent the financial world into a freefall.

"The bankruptcy process simply does not work for large, systemically important financial institutions in a way that can preserve stability and avoid disruptions in the financial system," Bair noted. "Bankruptcy is designed to protect the interests of creditors, not to prevent a meltdown of the financial system."

The too-big-to-fail approach doesn't work either, she said, because it "has eroded market discipline for those who invest," created "cynicism about the system" and increased "anger directed at the government and financial market participants."