Too Big to Save?

Last Thursday, February 11th, Robert Pozen, professor at Harvard Business School and former president of Fidelity Management and Research presented his analysis of the causes of the financial crisis and policy solutions to reform the financial industry.  His book, provacatively titled "Too Big to Save," provides an analytical framework that allows economics students to use basic economic theory to evaluate the government response to the financial crisis.

In the first part of the book, Pozen reviews the financial crisis illuminating the central causes and trajectory of events.  Moreover, he ties together facts into a very insightful explanation.  For example, he shows how very low interest rates created a demand for mortgage-backed securitites with high yield, which was met due to weak regulation of mortgage lendings and criteria of credit rating agencies for AAA ratings.

Next, Pozen evaluates the government's response to financial crisis.  He criticizes the Treasury not for being too strict on the financial industry, but rather being too lenient.  Specifically, the Treasury's reliance on preffered stock instead of common stock provides an example of "one-way captialism," where taxpayers bear almost all the downside of bank failurs and only a small part of the upside if the banks recover.  Seeing great inconsistencies in our approach to bailouts, he tries to provide a new framework for bailouts that is in line with economic theory.

Lastly, Pozen suggests a new financial regulatory structure.  First, he proposes three new regulatory agencies, a Federal Mortgage Agency, a National Bank Supervisor and a National Insurance Regulator.  Second, he gives the responsibility of systemic risk monitoring to the Fed.  Thirs he gives resolution powers for banks and systemic risk institutions to the FDIC.

"Too Big to Save" is a must read of any person interested in developing a more secure financial system.  While most poeple will not agree with all of Pozen's recommendations, no one can discount that the book provides a great entrypoint into discussing financial regulatory reform.