By Hal S. Scott
The Dodd–Frank Act of 2010 was once meant to reform monetary guidelines to be able to hinder one other gigantic difficulty equivalent to the monetary meltdown of 2008. Dodd–Frank is essentially premised at the analysis that connectedness used to be the foremost challenge in that crisis—that is, that monetary associations have been overexposed to each other, leading to a potential chain response of mess ups. during this booklet, Hal Scott argues that it isn't connectedness yet contagion that's the most vital component to systemic threat dealing with the economic system. Contagion is an indiscriminate run by way of non permanent collectors of economic associations that may render differently solvent associations bancrupt. It poses a significant possibility simply because, as Scott explains, our economy nonetheless is determined by nearly $7.4 to $8.2 trillion of runnable and uninsured non permanent liabilities, 60 percentage of that are held through nonbanks.
Scott argues that efforts via the Federal Reserve, the FDIC, and the Treasury to forestall the contagion that exploded after the financial disaster of Lehman Brothers lessened the industrial harm. And but Congress, spurred by way of the public's aversion to bailouts, has dramatically weakened the facility of the govt. to answer contagion, together with barriers at the Fed's powers as a lender of final hotel. delivering uniquely specific forensic analyses of the Lehman Brothers and AIG mess ups, and suggesting substitute regulatory ways, Scott makes the case that we have to restoration and develop our guns for combating contagion.
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Extra resources for Connectedness and Contagion: Protecting the Financial System from Panics
Obviously, if the correlated losses in housing had never occurred, contagion would most likely not have occurred either. But the prevention of correlated risks and herding behavior, while important, may be extremely difficult—this is the task for so-called macroprudential regulation. At the very least it involves policies like the detection and prevention of bubbles, which are beyond the scope of this book. For a more detailed discussion of the academic literature on correlation, see the appendix.
2 Claims filed against LBHI and affiliated Chapter 11 debtors (USD in billions) Initial plan (Apr. /Dec. 2011)a Outstanding Allowed Outstanding $183 56 367 143 224 $605 135 $740 $102 43 115 94 21 $260 135 $395 $110 52 156 97 59 $320 50 $370 Allowed $110 52 108 95 13 $273 89 $362 Note: Numbers may not add up due to rounding or, in the case of the Third Amended Plan, the exclusion of (a negligible amount of) priority and secured claims. : The State of the Estate 23 (Sep. 22, 2010) (for the first three columns); Disclosure Statement for Third Amended Plan, supra note 190, Annex A-2, A-3 (for the final two columns).
23 Lehman was ultimately unable to carry out this plan quickly enough to avoid bankruptcy. 24 In its final months, Lehman also borrowed from the Fed in order to access needed liquidity. 25 Lehman also explored the possibility of entering into a strategic partnership or, as its situation grew more dire, selling itself to a competitor. 28 Lehman’s most promising potential buyers were Bank of America Corporation (“Bank of America”) and Barclays PLC (“Barclays”). 30 Bank of America ultimately refused, as CEO Ken Lewis believed that the deal would yield little strategic benefit.
Connectedness and Contagion: Protecting the Financial System from Panics by Hal S. Scott