In response, they are proposing new rules that hopefully will allow banks to fail without requiring another taxpayer funded bailout.
The preference here is that instead of focusing on how to unwind a bank after it fails, much greater attention be spent addressing the issue of preventing the failure in the first place.
As has been discussed repeatedly on this blog, preventing failure can be achieved by fully implementing the FDR Framework and making sure that all useful, relevant information is made available in an appropriate, timely manner to all market participants. This information can be used by the credit and equity market analysts, as well as competitors, to analyze the risk of a financial institution and price any investment in the financial institution.
When the market has the necessary information to correctly price the risk of a financial institution, it also has the ability to exert market discipline. For example, the cost of funds to the bank will increase as the risk of the bank increases. This in turn will serve to restrain the risk a bank takes. [emphasis added]
Bank of England Deputy Governor Paul Tucker said regulators felt a “sense of shame” that taxpayers had to bail out banks after the collapse of Lehman Brothers Holdings Inc., as they devise rules to prevent a repeat of the financial crisis.
“This is the worst moment in the working lives of anybody who was in office in central banking or in regulation,” Tucker said at an event at Clare College, Cambridge University, England late yesterday. Regulators are working on new rules that will allow banks to fail “partly because of the sense of shame that we all have that we brought this cost to the taxpayer.”
Bank regulators and policy makers including finance ministers attending this week’s G-20 meeting in Paris are trying to devise new rules that will allow banks to fail without requiring taxpayer bailouts or damaging economic growth.