'Too Big to Save' – Towards a Functional Approach to Resolving Crises in Global Financial Institutions

Abstract

This article considers the challenges for policy makers posed by the distress that can afflict large and complex financial institutions (LCFI) with a global reach. It explores the impediments to solutions that require close cooperation among national regulators and argues in favor of a pragmatic approach to permit the orderly wind down of LCFIs while at the same time preserving the functions that are critical for the operation of the financial system. This approach consists of two components: First, the identification of functions of an LCFI that are systemically relevant for individual jurisdictions. Second, the implementation of measures to ensure that systemically relevant functions can be insulated from the problem imperiling the viability of an LCFI. If such an approach is taken, it has far-reaching implications. First, it implies that no institution is too large to fail. As long as there are effective means to dismember and preserve the systemically important functions, the corpus of the LCFI can be left to flounder. As a result moral hazard is reduced. Secondly, it establishes an agenda for the design of regulation of LCFIs. Regulation in all relevant jurisdictions needs to ensure that systemically important functions of an LCFI can be preserved even when the institution is no longer viable. Thirdly, it exposes a fundamental challenge for international cooperation: finding a common and compatible metric for systemic functions and implementing measures in an incentive compatible manner to preserve them.