A Bankruptcy Lawyer’s Blog

First Looks: How Big Banks Fail and What to Do about It

The Lowest Price we could find is $29.95 $19.93

Dealer banks–that is, large banks that deal in securities and derivatives, such as J. P. Morgan and Goldman Sachs–are of a size and complexity that sharply distinguish them from typical commercial banks. When they fail, as we saw in the global financial crisis, they pose significant risks to our financial system and the world economy. How Big Banks Fail and What to Do about It examines how these banks collapse and how we can prevent the need to bail them out.

In sharp, clinical detail, Darrell Duffie walks readers step-by-step through the mechanics of large-bank failures. He identifies where the cracks first appear when a dealer bank is weakened by severe trading losses, and demonstrates how the bank’s relationships with its customers and business partners abruptly change when its solvency is threatened. As others seek to reduce their exposure to the dealer bank, the bank is forced to signal its strength by using up its slim stock of remaining liquid capital. Duffie shows how the key mechanisms in a dealer bank’s collapse–such as Lehman Brothers’ failure in 2008–derive from special institutional frameworks and regulations that influence the flight of short-term secured creditors, hedge-fund clients, derivatives counterparties, and most devastatingly, the loss of clearing and settlement services.

How Big Banks Fail and What to Do about It reveals why today’s regulatory and institutional frameworks for mitigating large-bank failures don’t address the special risks to our financial system that are posed by dealer banks, and outlines the improvements in regulations and market institutions that are needed to address these systemic risks.

Review:

This book does give a detailed account of what happened to create the Great Recession and why the Great Recession of 2007-2009 is still going on ,irrespective of the nonsense claims peddled by economists that the recession ended at the end of June ,2009. The three major factors making the Great Recession inevitable were (a) the repeal of the Glass-Steagall Act(GS) of 1933 in 1999 , (b) the passage of the Commodities Futures Modernization Act (CFMA) of 2000,and (c) the planned and organized restructing of the American banking system ,started by Jimmy Carter in 1978,to create mega sized banks through periodic waves of mergers,acquisitions and takeovers.It should be emphasized that the major supporters of these actions in the late 1980′s to 2000 were Bill and Hilary Clinton,F D Raines,Rubin ,Summers, Senator Dodd,Barney Frank,Senator Schumer and the usual array of Libertarian Republican supporters of Wall Street casino capitalisn ,such as Phil and Wendy Gramm.Repealing Glass Steagall allowed the private comercial banks to again set up investmant bank units to engage in financial speculation.This was the primary problem that occurred in the mid to late 1920′s.Highly speculative,leveraged ,margin account loans financed the stock market bubble while balloon payment loan financing of mortgages created the bubble in housing.This double bubble led directly to the Great Depression of the 1930′s. The same type of double bubble led to the Great Recession of the 2000′s.

The CFMA removed derivatives and credit default swaps(CDS’s) from any regulation at the state and federal level.Derivatives,CDS’s and CDO’s(Collateralized Debt Obligations)played the role in the 2000′s that margin account financing of stock options had played in the 1920′s.The subprime mortgage loans game ,along with the constant efforts of Countrywide Financial and Ameriquest to convert the fixed rate mortgages of low income citizens to adjustable rate mortgages by constant refinancing,played the role of the balloon payments game of the 1920′s .

One need only quote Warren Buffett’s warning of 2002 :

” The rapidly growing trade in derivatives poses a “mega _catastrophic risk…derivatives are financial weapons of mass destruction that could harm not only the buyers and sellers,but the whole economic system”.(2002 Annual Report,Berkshire Hathaway).

This is precisely what happened.The whole economic system has been severely damaged by the Wall Street supply side casino capitalism approach .

I have deducted one -half star from my rating because this author,as well as innumerable others,appears to be unaware that Adam Smith had given practically the same analyses and conclusions as supplied in this book and many others that have been published since 2008 on the topic of Wall Street manipulation and speculation in the financial markets leading up to the Great Recession.

Smith’s analyses appears on pp.262-340 of the Modern Library (Cannan) edition of The Wealth of Nations with the forward by Max Lerner.Smith correctly foresaw that the banking system must be composed of a large number of small banks .The private bankers must be prevented from making loans to projectors,prodigals and imprudent risk takers by a private, fractional reserve, central banking system that will skew credit allocation towards the job creating ,sober, small businesses that create 80 % of the jobs in America.