The Federal Deposit Insurance Corporation has begun a series of meetings in which it is working to simulate the failure of a "systemically important financial institution" or SIFI, according to people familiar with the matter.
The FDIC is studying what would be the most effective way to intervene and isolate a company's troubles before they spread, these people added.Regular readers know that under the FDR Framework, the most effective way to intervene and isolate a financial institution's troubles before they spread is to require the financial institution to provide ultra transparency.
Market participants can use the financial institution's ongoing disclosure of its current asset, liability and off-balance sheet exposure details to independently assess the risk of the financial institution and to adjust their exposure to the financial institution based on this assessment.
Under the FDR Framework, market participants have an incentive to make this adjustment as they are responsible for all gains and losses on their exposures. This responsibility comes from having access to the data they need to independently assess the financial institution.
Knowing that they are responsible for all losses, market participants, particularly other financial institutions and institutional investors, will adjust their exposure so that it is not more than they can afford to lose.
Bottom-line: by requiring ultra transparency, market participants will proactively reduce their exposure to high risk financial institutions before they fail.