The Financial Crisis and the Concentration of Financial Power


One of the most troubling realizations during the financial meltdown of 2008 was that some companies were “too big to fail”. Chrysler and General Motors were “too big to fail” because of their strategic importance to American industry and because of the thousands of jobs that would be lost if they collapsed. So they received billions in taxpayer money. Remarkably, Ford Motor Company, just as big, in the same industry, the same environment and also threatening thousands of jobs, did not need government assistance.

Big financial companies, including Bank of America, Goldman Sachs, Morgan Stanley, Merrill Lynch, Bear Sterns, Wachovia, American International Group, and others were also considered too big to fail. The fear was that if they failed, so much confidence would be lost in the financial system that markets would implode. As a result the Bush and later Obama administrations did some legal ledgermain to merge companies and sank hundreds of billions of dollars into these entities. Individual taxpayers, home owners and account holders got a shakedown. While the blame for the crisis belongs throughout our society, from greedy lenders to irresponsible borrowers, the pain hit us all, including many who never deserved it.

The free market is built on the Darwinian principle of “survival of the fittest”; if a company can’t compete, it goes bankrupt. It may emerge from bankruptcy as a leaner, stronger version of its former self, or it may not emerge at all. Either way, in the free market no company should be too big to fail.

If a company, or any institution, cannot fail, it loses its most powerful motivator to perform. Why work hard if you can be lazy? Why save when you can spend? Why plan when someone else (like the government) will save you from any bad decisions that you, as a company, make? The Soviet Union was loaded with companies, really state enterprises, that were not allowed to fail. Instead, the nation failed. Communist China had the same state-run companies but did not go the way of the Soviets. Instead, it opened up the market, at least partially. Many companies failed but others adapted to the new reality and succeeded. Today China has the second biggest economy in the world. “Creative destruction” has always been a fundamental principle of the free market.

Congress passed the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010 to try to prevent the 2008 Financial Crisis from ever happening again. Whatever one’s opinion of the law, however, financial services and investment dollars are still highly concentrated and the financial system is still vulnerable. No one believes that regulation alone can protect America from another financial crisis.

While many financial institutions stumbled into the morass, some flew above the pit. USAA, a member-run insurance and banking company, retained its AAA credit rating throughout the crisis (at least until Standard and Poor downgraded the United States Treasuries to AA+ in 2011, and all US companies were downgraded by default). Credits unions also did better than commercial banks, with three times as many banks than credit unions failing in 2008. In 2010, almost five times as many commercial banks failed (http://www.dailyfinance.com/2011/11/22/in-pictures-banks-vs-credit-unions-in-the-financia/). Employee run pension funds and other cooperative arrangements were similar. Such companies typically have a more conservative investment strategy, provide better customer service, and are more responsive to their stakeholders.

It is difficult to identify exactly why these institutions and others like them succeeded when others failed, but we can gain some insight by considering the major difference between them and the commercial banks. Commercial banks and other publicly traded companies are often controlled by people who do not have large amounts of their personal wealth in the company. Credit unions, mutual banks, and other financial organizations such as USAA are owned and operated by their members. Their leadership teams have financial skin in the game, while leaders of commercial banks may not. Likewise, rather than making or losing money exclusively on investments, they make money on each transaction. High transaction volume and fees, not necessarily smart investments, are their “streets of gold”. In such an environment, is it surprising that bankers spent other people’s money on investments that they didn’t understand?

This is not to imply that commercial banks, or any other company, are inherently bad. No institution is better than the people working in it. People working in the investment industry are no more stupid or wicked, than anyone else. However, they are also not smarter or more virtuous. Humans are weak and vulnerable to the temptations of fame, money, and power. When too much of these are entrusted to anyone, especially if oversight is lax, disasters happen. Like Gollum in Lord of the Rings, they can become ensnared in their “precious”, the thing that they value most, and harm themselves and others.

We often expect the government to fix our problems for us, but government can never be more powerful than its citizens. Government regulation at the federal, state and local level is important to control private sector excesses, but the best remedies are private. All companies exist to make money, including those that are “too big to fail”. Customers have the power to make any company survive, or die. If Americans want big investment companies to stop making poor investments, provide better customer service, and be more socially responsible, we need merely to invest in their competitors. The same is true for car manufacturers. As we have seen, credit unions, cooperatives, and other member-owned institutions are sound alternatives to the big banks and the big companies.

However, companies that caused problems in the past are not necessarily the ones that cause problems today. The issue is the concentration of resources, in this case, financial. Keeping wealth diffused between many organizations is good business and good policy, but only individual Americans can make it happen. Each man and woman in this country has far more influence than we realize; we simply need to be informed and deliberate in how we use it.

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