After the 2020 Election: Break Up TBTF Banks

Congress dodged the issue of breaking up the biggest banks after the financial bubble’s final 2008 collapse. Protecting the essential roles of traditionally commercial banks — lending, deposit-taking, and operating the payments system — was prevented by politics. Proprietary trading and a few investment banking activities were circumscribed, and new TBTF derivatives clearing houses were created. But derivatives remain firmly in the biggest FDIC-guaranteed bank subsidiaries. Therefore the taxpayer still bears much of the biggest banks’ trading risk. This structure continues to promote income inequality by subsidizing profits earned by the wealthiest and most sophisticated organizations. Addressing their structure should be tackled immediately by the next administration because the transition to a new structure will take time both to legislate and to execute over several years.

I published my argument for removing derivatives from the nation’s FDIC-guaranteed bank subsidiaries in 2017. (The FDIC is the Federal Deposit Insurance Corporation.) The 2017 posts are a simplified, free, and publicly-available summary of the essence of my Fairy Tale Capitalism: Fact and Fiction Behind Too Big To Fail book. The book was published in 2010 at the time that Congress concluded its hearings on the crisis and passed Dodd-Frank. The legislation was passed within days of the derivatives hearings. In other words, the work was done without considering what might have been learned about derivatives in the hearings. My opinions have not changed over these more than twelve years.

The argument commences with a summary of the ten reasons and drills down into each of those reasons. It also includes a short history of how the bubble and structure were built and illustrations of how politics influenced what happened to us. Both parties. And here we are.


Three updated tables illustrate how little has changed with regards to derivatives in our taxpayer-guaranteed banks.

First, the following table illustrates the fact that derivatives are primarily transacted in the biggest banks. These financial organizations may be huge by asset size presented on their balance sheets, but their derivatives activities are also massive and presented off their balance sheets, less visible and poorly understood. The data is from their regulatory filings at year-end. The table also shows their credit derivatives portfolios. Perhaps the most telling statistic is the one the regulators calculate and enter in their Bank Holding Company Peer Reports. That is their derivatives portfolios measured as a percentage of their assets. One can easily see that it has hardly changed over the years I’ve tracked this measure.


The second table shows the percentage of each bank’s derivatives booked in their FDIC-guaranteed “commercial” banking subsidiary compared to their total consolidated holding company derivatives portfolio. Two formerly investment banks, Goldman Sachs and Morgan Stanley, became “bank holding companies” (a regulatory structure and term) after the bubble burst. Derivatives have sought the taxpayer protection provided by the FDIC guarantee during periods of rising and/or high financial risk.

OCC derivs percentages bank vs consolidated through 4Qtr2019

The third table shows the six largest US-headquartered bank holding companies’ credit derivatives since 2007. The total is the number presented by the regulators. Note that the total seemed to explode after the bubble burst, from 2008 to 2009. Not so. Look at the size of credit derivatives held by the two investment banks, Goldman Sachs and Morgan Stanley. Making them Bank Holding Companies to bring them under Federal Reserve regulation added their portfolios to the total. Bank of America had by 2009 rescued investment bank Merrill Lynch from failure and therefore held Merrill Lynch’s credit derivatives portfolio. Also note that supposedly “commercial” bank JPMorgan Chase had booked more credit derivatives than either of the three investment banks in 2009.


I refer readers to the 2017 series for further discussion of credit derivatives. This derivative type, more insurance than derivative, has shrunk over time. JPMorgan Chase seems to not want to be the leader it had been historically.


Restructuring the U.S. banking system is a very rational goal, for the reasons listed in 2017 and even stronger now. It is legally possible. The impact of the Covid virus on the economy led to dramatic Congressional and regulatory responses. Congress provided substantial funds to all sorts of corporations. Regulators made sure the banks remained afloat and functioning. The concept of private markets operating without government intervention has been abandoned, for good reason. My sole point is that restructuring the banking system is the legal and economically wise thing to do. The U.S. banks dominate world banking. Competition is only a convenient excuse to avoid this difficult legislative task. Restructuring is very complex and will take substantial time to execute. Therefore it is essential to start the task once the Covid virus is under control.