Economist Willem Buiter was an early proponent of the good bank/bad bank solution to take all those toxic assets out of the finance system without crippling the taxpayer and the ordinary depositor.  Unfortunately, despite the support of many economists, that proposal was largely ignored by most governments, who instead lumbered the taxpayer with huge borrowing, printing money and other future-hocking solutions.  Undeterred, Buiter has now turned his attention to a related major policy issue - banks that are “too big to fail” because they would bring down national and global economies.  On his Financial Times blog, Buiter covers a broad range of options and concludes that “there is quite a list of effective instruments for cutting leveraged finance down to size“.

• Legally and institutionally, unbundle narrow [high street] banking and investment banking (Glass Steagall-on-steroids).
• Legally and institutionally prevent all banks (narrow banks and investment banks) from engaging in activities that present manifest potential conflicts of interest. This means no more universal banks and similar financial supermarkets.
• Limit the size of all banks by making regulatory capital ratios an increasing function of bank size.
• Enforce competition policy aggressively in the banking sector, by breaking up banks if necessary.
• Require any remaining systemically important banks to produce a detailed annual bankruptcy contingency plan.
• Only permit limited liability for narrow banks/public utility banks.
• Create a highly efficient special resolution regime [SSR] for all systemically important financial institutions. This SRR will permit an omnipotent Conservator/Administrator to financially restructure the failing institutions (by writing down the claims of the unsecured creditors or mandatorily converting them into equity), without interfering materially with new lending, investment and funding operations.

However, Professor Buiter reckons that governments aren’t facing up to this problem, either. Instead, it looks like the surviving big banks will get even bigger.