If forcing breakups isn’t realistic, what is? One solution is to simply give banks an incentive to downsize. Philip Purcell proposed a practical way to do so earlier this week in the Financial Times.
Purcell, if you’re curious, is the former chairman and CEO of Morgan Stanley (NYSE: MS), and an unsung hero in my book. In 2005, he was ousted primarily because he wasn’t willing to engage in reckless risk-taking. He understood how dangerous it was.
But swinging for the fences was fun back then, so Purcell was replaced with current CEO John Mack, who swung wildly. Risk-taking ratcheted up. Three years later, the firm was nearly bankrupt. A coincidence, I’m sure. �
Anyway, Purcell’s op-ed in the Financial Times recommends a doable approach to overcoming “too big to fail.” In his own words:
Smaller banks are now required to have 8 per cent tangible equity per dollar of assets (the leverage ratio). This stronger capital structure will reduce bank failures.
Too-big-to-fail institutions, however, should have a higher ratio of 10 to 12 per cent … The public bears the cost of too big to fail. Since capital is the public’s main protection, it should be high.