Home > Personal Finance > To Prevent More Bailouts, Big Banks Must File Living Wills

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Nearly three years after Wall Street firms brought the world economy to its knees, a government regulator passed new rules this week that it hopes will end the phenomenon of “Too Big to Fail” by giving taxpayers the option of liquidating giant banks instead of bailing them out.

The rules, approved Wednesday by the Federal Depository Insurance Corporation, require large financial institutions to write their own “living wills.” These documents will attempt to make sense of the dizzyingly complex, overlapping and sometimes competing business operations owned by bank holding companies like JP Morgan Chase and Goldman Sachs.

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The plans also will lay out how those pieces can be extricated from one another and disposed of separately, either by selling them off, recombining them into new companies, or sending them squealing into bankruptcy.

“These two rules will ensure the comprehensive and coordinated resolution planning for both the insured depository and its holding company and affiliates in the event that an orderly liquidation is required,” the ever-quotable Martin J. Gruenberg, acting chairman of the FDIC, said in a press release.

There are two different rules for two different types of companies. One, for bank holding companies, sends the corporate unraveling through the bankruptcy court system. The other, which covers the nation’s 37 largest depository banks, each of which has $50 billion or more in assets, would place the FDIC in the role of receiver, giving it the power to dismantle and reorganize the different assets without going through the bankruptcy process.

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The economic system doesn’t have to be headed down the toilet for the living wills to begin helping, however. Corporations must file their wills annually, giving regulators the chance to spot places in the financial system where risk is being concentrated. (Had such documents been available before the crash, for example, someone might have noticed that letting the same company, AIG, create mortgage-backed investments while simultaneously insuring them might cause a wee little problem—or a $182-billion taxpayer bailout—should mortgage default rates creep up.)

As we covered in June, banks and their lobbyists balked at the new regulations, saying that living wills could be misused by competitors. The rules “should not create a system that manages for failure rather than for success,” according to a letter to the FDIC by the American Bankers Association and five other industry associations.

Because of this lobbying pressure, the FDIC agreed to postpone the due date for the first living wills from sometime in 2011 back to the new deadline of July 1, 2012 for the largest banks and July 1, 2013 for smaller but still-huge ones.

[Related article: Bloomberg: The Secret Bailout? Secret Fed Program Lent Big Banks $1.2 Trillion]

Image: Ken Mayer, via Flickr.com

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