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Is the Bank Too Big to Fail? Is it Too Big to Exist?

This article discusses the problems of insolvency in financial institutions, the diminishing trust in banks, and the potential risks of allowing banks to become too big to fail. It explores the need for greater regulatory scrutiny, higher capital requirements, and legal segmentation of the financial market to prevent future financial crises.

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Is the Bank Too Big to Fail? Is it Too Big to Exist?

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  1. IF BANK IS TOO BIG TO FAIL IS IT TOO BIG TO EXIST ? Prof. dr hab. Jan Szambelańczyk

  2. Background • Insolvency problems are moving over from financial institutions to national states. • Globalization and modern financial architecture reduce national markets immunity. • Public trust and financial institutions credibility are diminishing. • Social perception of bankers professionalism has collapsed. • The idea of EU and common market benefits is politically jeopordized. • Next financial crisis will be even worse– says Nouriel Roubini Prof. dr hab. Jan Szambelańczyk

  3. Before Lehman Brothers After Lehman Brothers If it would be 10 ? Prof. dr hab. Jan Szambelańczyk

  4. Evaluation • Regulators, who are supposed to understand and prevent actionsthat spur systemic risk, failed. Too many became „captured” by thosethey were supposed to be regulating. • After 2008, as a result of global financial crisis,concept of safety network and concept of deposit guartantee schemehave changed significantly. • Excluding home and host country issues, DGS concept is nationaly orientedwhile internationalization (foreing investment & transborder operarations)creates transnational and new problems. Prof. dr hab. Jan Szambelańczyk

  5. After the year 2008 • in search of safety • regulations tends to: • secure stability by: • >capital standard • rigid regulation • > investor protectionExpectation:S T A B I L I T Y • Before the year 2008 • in search of optimumbetween stability & efficiency • regulations aimed at: • market transparency • ≥ competitiveness • investor protectionIntention:Sustainable growthSide-effect: • C R I S I S Prof. dr hab. Jan Szambelańczyk

  6. Characteristic for Poland • Up to now, toutef proportion gardees, Poland has not been significantly affected by global financial crisis. • Polish DGS (BFG - Bank Guarantee Fund) has not experienced TBTF doctrine in practice. • Very high share of FDI in Polish banking sector (4 out of 5 in Top-5; 8 out of 10 in Top-10) makes it potentially sensitive to ‘external’ shocks and endengered ‘internal’ stability. Prof. dr hab. Jan Szambelańczyk

  7. ‘Too Big to Fail’ concept • Refer to institutions whose sole failure due to their size or interconnections to other institutions would create an unacceptable risk to the rest of the system. • Means any entity that has grown so large that its failure would have a catastrophic effect on the stability of either the financial system or economy without substantial government assistance. • Even if individual banks are SMALL, if they engage in correlated behaviour – using the same models – their behaviour can fuel systemic risk. Prof. dr hab. Jan Szambelańczyk

  8. Simplified analogy Big power plant failure leds to a massive cascade of power outagess that spread across large areas of the country,leaving tents of millions withoutelectricity. Lessons from the study of cascades dynamics, in complexsystem:- the most demaging incidents areimpossible to anticipate with anyconfidence. Financial markets experienced a different kindof cascade („global financial blackout”).How banks, acting independently, collectivelymanaged to put trillions of $ at risk withoutbeing detected? The risk was invisible because it was „systemic”!Financial systems are far mor complex but main problem of systemic risk is the same:- risk managers are supposed to assess their owninstitutions’ exposure (ceteris paribus),- in a crisis conditions change unpredictable,despite of applied stress tests. The solution may be to make the system less complex. [Adapted from Duncan Watts] Prof. dr hab. Jan Szambelańczyk

  9. ‘To big to exist’ idea • If the global financial crisis has demonstrated that: • - markets do not automatically controll systemic risk, • - economic policy, monetary policy, regulatory policy didn’t protect against financial crisis but even - to some extend - stimulate risk • one should ask what kind of intervention is needed ? • Complexity of the answer, but in the first place includes principle:„if a financial institution is TBTF it shouldn’t be allowed to grow so large” • However F.S. Mishkin says:„You can’t put that genie in the bottle again”. Prof. dr hab. Jan Szambelańczyk

  10. A few propoposals • Gradually implementing ‘Too big to exist”. • Greater regulatory scrutiny and higher capital requirements for financial institutions that create ‘systemic’ threats. • Legal segmentation of financial market stimulating institutional diversification. • Impose fees on giant banks to encourage them to operate more carefully. • Design incentive system including a principle of delated income (f.e. basedon received not on expected revenue). • Making all executives and directors personally liable for abuse in financialreporting, deception or excessive risk-taking with insured deposit. • Rearrange external audit of financial institution (payment made by financial institution to supervision in advance, supervision body nominates/selects auditor,auditor fees payment within 1-2 year delay according to report quality). Prof. dr hab. Jan Szambelańczyk

  11. Thank you !

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