Too big to fail
대마불사
The idea that a financial institution is so large and so interconnected with others that its failure could bring down the whole economy, so that the government will in the end have to rescue it with taxpayers' money; also an institution in that position. In Korean it is rendered daemabulsa, a Go saying that a large group of stones does not easily die. In the 2008 financial crisis American and European governments poured enormous bailouts into banks and insurers, and they were fiercely criticised for creating a moral hazard in which society bears the losses while the profits stay private.
In depth
When an ordinary company fails, its shareholders and creditors bear the loss. But if a big bank suddenly shuts its doors, the firms and households that keep money with it and the banks that deal with it are shaken one after another, and as lending stops even sound companies may fall. So in a crisis governments end up rescuing large financial institutions, and putting public money into a firm to keep it from failing is called a bailout, a word that comes from bailing water out of a sinking boat with a bucket.
The phrase "too big to fail" spread after US congressman Stewart McKinney used it in 1984 at a hearing on the Federal Deposit Insurance Corporation's rescue of Continental Illinois. Continental Illinois had piled up bad loans in the early 1980s through tight money, Mexico's default of 1982 and the plunge in oil prices, and the government saved it when its large depositors pulled their money. In 1998, when the hedge fund Long-Term Capital Management was about to collapse, 14 financial institutions put up $3.6 billion to recapitalise it under the supervision of the Federal Reserve.
The 2008 financial crisis displayed "too big to fail" on the largest scale. The US government and the Federal Reserve backed the takeover of Bear Stearns in March, placed Fannie Mae and Freddie Mac in conservatorship in September and lent AIG $85 billion. Only Lehman Brothers was not rescued, and when its bankruptcy paralysed world financial markets the government injected capital directly into banks in October through the $700 billion Troubled Asset Relief Program (TARP). Britain nationalised the Royal Bank of Scotland and Northern Rock, while in Iceland the banks were so much larger than the national economy that they could not be saved.
Criticism of "too big to fail" runs along two lines. One is moral hazard. Bernanke himself said in 2010 that "if creditors believe that an institution will not be allowed to fail, they will not demand as much compensation for risks as they otherwise would, thus weakening market discipline". Large banks borrowed more cheaply thanks to the expectation of rescue, and one study estimated this "implicit subsidy" at nearly $100 billion for the largest banks in 2010. The other concerns the remedy. Greenspan said "If they're too big to fail, they're too big" and that they should be broken up, while Krugman held that the problem was under-regulation rather than size. After the crisis the Dodd–Frank Act, Basel III and the Financial Stability Board's list of "systemically important financial institutions" required big banks to hold more capital and created procedures for winding them down in an orderly way, but in 2014 the International Monetary Fund judged that the problem had still not been dealt with.
In Korean, gujegeumyung ("rescue finance", bailout) is also widely used for the money the International Monetary Fund lent the Korean government in the 1997 foreign-exchange crisis. That was an emergency loan to a state, a different matter from the rescue of financial institutions covered here.