Focus Financial Reform on the "Too Big" Part: That's What Will Prevent Economic Collapse

05/31/2010 05:12 am ET | Updated May 25, 2011

Most of the e-ink spilled on financial reform is focused on regulations to prevent failures. The criterion upon which Congress is basing its reform is reducing risks to taxpayers.

These are the wrong emphases, distracting both from understanding the problem and fashioning an appropriate solution.

The major problem is not that an institution fails. Failure is inherent in all human activity, market economics being no exception.

It is the devastating "collateral" (i.e., other than to its shareholders and creditors) damage to the rest of the economy -- you and me -- that a big bank failure causes that should be absolutely prevented. That is much bigger than the cost to us as taxpayers.

The energy, effort and political capital should be spent on reducing the permitted size of banks to the level that its failure causes no collateral damage.

Financial people like to make their world seem complex, so that others believe there is something special or magic about it, and thus keep their hands off of it.

It is really quite simple.

No regulations will prevent failure due to mistakes, corruption or malice aforethought. Trying to determine every possible means of failure, and erecting regulations to prevent them, is a fool's errand

Moreover, punishing a big bank failure -- jail sentences, fines -- is important as a deterrent and for justice, but does nothing to repair the carnage of a big bank failing. Taxpayers getting their rescue funds back is a tiny fraction of the harm a big bank failure causes.

The question is whether 100s of millions of innocent Americans should risk their pensions, their home values, their investments, their jobs, in order to gain whatever advantages there may be for the economy from having big banks.

My answer is "no." Most Americans would agree. One need not argue that there is no advantage at all from having huge banks to conclude that the risk of big bank failure to the economy far outweighs it.

The risk to us as taxpayers, while not insignificant, is trivial by comparison to the risks of the economy collapsing, and should not be the criterion by which the adequacy of reform is judged.

Certainly, additional regulations on exotic derivatives are necessary, but confidence that the economy will not collapse because of the actions of a small number of actors can only be achieved by downsizing the banks.

But we are getting distracted and bogged down by the regulation arguments, which agency should house what authority, and so forth.

None of that will matter if the big banks are permitted to remain large enough to cause collateral damage when they fail.

Because, fail one will.

I challenge Wall Street bankers to make their case that the economy should take any risk at all so that their institutions can remain so large that their failure injures the rest of us.

Go to:, and join.