Too Big to Jail

The government is exploring expansive controls over "too big to fail" financial institutions. According to The New York Times, the House Financial Services Committee may introduce legislation this week.

The measure would make it easier for the government to seize control of troubled financial institutions, throw out management, wipe out the shareholders and change the terms of existing loans held by the institution.

I have some sympathy for increasing the government's regulatory power. If a nation has no choice but to rescue banks critical to its welfare, shouldn't its government possess the right tools?

But "wipe out shareholders and change the terms of existing loans?"

I wonder how the capital markets will react. I wonder whether it makes sense to invest in organizations like J.P. Morgan Chase or Goldman Sachs, two institutions core to our economic well being. Will these organizations, big and powerful from success, pay more for capital and lose their competitive edge given the overhang of federal intrusion? I wonder whether the government will abuse its power by changing the terms of existing loans to support the public policy goals of administrations -- Democrat or Republican.

Then, there's that other problem.

Are government officials equipped to run big banks? The Chairman of the House Committee on Ways and Means is under investigation for an alleged failure to report hundreds of thousands in rental income. The Secretary of the Treasury had his own tax problems.

Maybe they belong in the "big house."

Both parties have their share of scandals, some of which have gone unpunished. But let's put the incendiary issue of financial ethics aside for the moment. Back in 2003, the current Chairman of the House Financial Services Committee argued that Fannie Mae and Freddie Mac were in good shape. Here's what The New York Times reported.

''These two entities -- Fannie Mae and Freddie Mac -- are not facing any kind of financial crisis,'' said Representative Barney Frank of Massachusetts, the ranking Democrat on the Financial Services Committee. ''The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing.''

Hello, subprime.

Uncle Sam is wrestling with a tough issue that must be addressed -- how to govern organizations vital to our nation's economic welfare. But I'd rather see legislators focus on leverage and preventive cures than after-the-fact remedies like "amending loans."

And don't forget to include the big hedge funds who operate under fewer constraints.