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“Too Big To Fail!”

Apparently, AIG istoo big to fail“.  This made me wonder: What is “too big to fail”?

It makes sense to me that if we are going to declare that a company is too big to fail, then if we are going to introduce new regulations, the first regulation we introduce would be that companies cannot become “too big to fail”.

I think it is safe to assume that when they say “too big”, they don’t mean market capitalization.  If they did, then Google went from not existing to too big to fail in record time.  I doubt they mean profit as these financial firms results can swing wildly year to year (AIG had $18.5 billion in losses the last three quarters, so their profits were clearly not being protected).  If they meant customers then McDonalds or Starbucks would be too big to fail and I think we can all agree that no one bails out Starbucks.  So we must mean revenue, right?

Let’s look at the companies we need to break up if AIG is “too big to fail”.  (Although obviously most of these companies promptly relocate to Switzerland, so that would have to be figured out.)  AIG had $110 billion in revenue, making it a top 20 company on a revenue basis, so the list is actually fairly short – and the fact that this is true maybe implies that if it is possible to be too big to fail than maybe AIG is!  Maybe the legislation would draw a clean line at $100 billion in revenue?

  • Wal-mart – hard to figure out what breaking up Wal-mart looks like.
  • Exxon Mobil
  • Chevron
  • General Motors
  • Conoco Phillips
  • General Electic – easy to break up
  • Ford Motor
  • Citigroup
  • Bank of America – hmmm
  • AT&T – breaking up AT&T would be funny, right?
  • Berkshire Hathaway – easy to break up
  • JP Morgan

After that, HP and IBM both appear on the list with ~$100b in revenue.  Once again, break-ups that would trouble no one.

Frankly, Wal-mart is the only company on this list that I think it would be strange or bother me some if they were broken up.

2 Responses to ““Too Big To Fail!””

  1. Sean Carmody Says:

    It’s give a simple rule as to what makes a company too big to fail, but it’s certainly not simple market capitalisation. The key consideration is whether the failure would create systemic risk for the country as a whole. As you say, if there is a risk that a company could become too big to fail, there should be regulation to stop it. It has long been recognized that banks can pose this risk as the payment system is the oil for the machine of commerce. THis is why banks are heavily regulated (although perhaps not heavily enough!) and a scheme such as the FDIC is part of this framework. It’s only recently that people have started to realise that the interconnectedness of global derivatives markets mean that investment banks can also pose systemic risk, hence the bailout of Bear Stearns. It seems that Warren Buffett had a point some years ago when he described derivatives as “weapons of mass destruction” (although people scoffed at the time). You can rest assured that once a new president is elected, the process of enacting new legislation to further regulate investment banks (not that there are many left!) and other financial institutions will not be far off.

  2. @Shandrazep Says:

    Thanks a bunch. This really is a decent read.