Big Is Ugly
BROCKWAY, GEORGE P.
The Dismal Science BIG IS UGY BY GEORGE P. BROCKWAY The Continental Illinois and the Financial Corporation of America bailouts, although different in nature, have one glaringly obvious lesson...
...He is undoubtedly as reliable one time as the other...
...Observing the way business works, Raymond concluded that seeming economies of scale are often (if not generally) results of the favored access great size can command to finance and to markets...
...New laws are being proposed, and complaints are being made that old ones are not being enforced...
...Then this bank, which I remind you is bigger than you can possibly imagine, will have to go bankrupt, because our cost of funds is so high that we have to make these crazy loans at high rates, or we can't pay our bills...
...That is merely the flip side of the coin...
...The more fools we...
...Micawber's reasoning...
...That last sentence is twice as long as it should be...
...More than money is at issue here...
...If you think that's nutty, you're right...
...Whereupon Stern Bank Examiner will answer (sternly): "Well, all right...
...Clearly, Citibank and Chase and the rest did what they did in South and Central America because they were confident that no matter what happened, they would not be allowed to fail, and in the meantime they could make a lot of very big loans at very high interest...
...But overawed by the wealth and wisdom of Walter Wriston and his ilk, we reduced it, instead...
...You use this money to buy a $100,000 CD from Bank B that will earn $13,600...
...There is a time for flamboyance and a time for discretion, and bankers are very good at telling which is which...
...If you can't be good, be careful...
...It was not altogether effective because it could not (given the patchwork control of our financial system) cover all it should have covered...
...There has been talk about having someone—the Federal Reserve Board, the Comptroller of the Currency, the Federal Deposit Insurance Corporation, or some private insurance company—look more closely over the bankers' shoulders...
...Even though the United States has figured out how to have what we say is a recovery with eight or 10 million unemployed, the rest of the world is still depressed, and the demand for oil is going down, and there really is a limit to what anyone in his right mind will pay for a piece of the San Andreas Fault...
...An ad for Citibank, and several others, at one stage quoted an effective annual rate of 13.6 per cent on one-year CDs...
...For this reason, one may presume that a modest shuffling of the feet is also going on behind the scenes as the banks get ready to raise the prime rate again, probably not until after the election...
...But if we go, I humbly remind you, we're so big that we'll pull a whole lot—maybe everything—down with us, and we wouldn't like to do that...
...In the circumstances it would have been rational to extend the coverage...
...Everyone knows and says that...
...On the basis of these observations, Raymond proposed that a business organization could be as large and as spread out as it wanted to be, provided that it had only one place of shipment to its customers, whether other manufacturers, retailers or the public...
...The consequences of such unavoidably permissive regulation will extend far beyond the cost of bailing out a superbank every now and then...
...In this space a couple of months ago ("Unthinkable Thoughts on Competition," NL, April 2), I presented some empirical evidence that competition doesn't always work for the benefit of the consumer...
...That is, we can face up to the problem of bigness...
...The first is that the bankers are practicing alchemy—up to a point...
...I'm not saying that we would be better off without Robinson-Patman and the rest...
...Should the demand for loans collapse, or should the loans turn "nonperforming," the party would be over...
...He drafted a "Business Limitation Act" that runs to not quite 2,000 words, including definitions of terms...
...It is embodied in a 166-page book published in 1947...
...As a matter of practical politics, we are undoubtedly stymied now and will be for a long time...
...The speed limit is such a law...
...Period...
...If competition doesn't work, what does...
...Raymond was a successful executive in a family business that was sold, against his advice, to Wall Street speculators...
...Well, it isn't quite like a chain letter, but it can be kept up as long as there are people and businesses clamoring to borrow money...
...Since your tax will be reduced by $7,500 because of interest paid, you will have a profit of $6,100...
...Everyone has enough mathematics to know as well that if Financial Corporation of America, the nation's 12th-largest organization of its kind (counting both commercial banks and thrifts) is too big to be allowed to go under, there must be at the very least 11 others in the same category...
...yet whatever the amount, it is not overwhelming in relation to our national debt or even to our annual Reagan-omic deficit...
...Have you heard anything about the Polish loans lately...
...It's easy: You borrow $100,000 from Bank A, paying perhaps 15 per cent interest...
...And if you run part of this through your IRA, your gain will be greater...
...One of Knight's favorite pupils was Milton Friedman, showing that, happily for mankind, personal relations are thicker than ideology...
...I doubt that you have heard of a more elegant, simple, effective, and far-reaching proposal...
...Are bankers alchemists after all...
...Raymond suggested 1,000 as the maximum...
...A prime rate of 13 per cent on $5,000 earns them $650...
...Micawber would have said: "Annual income thirteen per cent, annual expenditure thirteen and sixtenths, result misery...
...The war was apparently started by Manufacturers Hanover as a macho gesture, to show that current rumors of its weakness were false...
...I'm merely saying that the expensive, time-consuming antitrust effort has failed to come close to its promise, and that its failure follows from the apotheosis of competition...
...and always the effort has been to discover and enforce a judicial definition of competition...
...Most immediately, the rest of the banking system will be strangulated...
...The private dodge I have outlined for you can be pursued as long as Congress allows a deduction for interest paid...
...And why not...
...If you do, you will be well repaid for the two or three hours it takes you to read it...
...For almost a century, since the passage of the Sherman Antitrust Act in 1890, we have said and repeated and contrived to believe that the issue is competition, not size...
...The effort has not succeeded...
...The sad fact is that we had a limitist law in banking in the shape of Regulation Q, which limited the interest certain banks could pay...
...Not cooperation...
...But there does exist a workable solution...
...It is, for example, established antitrust law that a company can engage in what the law defines as unfair business practices when the company has to do so to meet competition...
...The merger movement, already possessed of enough momentum to satisfy a sports announcer (including one formerly known as Dutch), will proceed apace...
...Then he pondered what had happened to him and wrote his book, which I am very proud to have published...
...After taxes you will be left with $3,050 net—all for simply signing your name a few times, andhavinga lot of money to begin with...
...Can the banks continue doing that forever...
...To that, Deregulated Big Banker will reply (contritely): "Well, shucks, sir...
...Incidentally, should similar battles flare up among the banks where you live, you might want to keep in mind that you can be an alchemist, too—assuming you are in the 50 per cent bracket and have some security to offer...
...If the biggest banks are essentially free of regulation, the remaining banks (some of them bigger than /can imagine) will be at a competitive disadvantage unless they can sell out to a superbank or combine with others similarly situated and become superbanks themselves...
...That sounded dandy (and was) for those with the cash to take advantage of it...
...Early last month, the New York banks had a little war to see who could pay the highest interest on certificates of deposit...
...If you go over 5 5 miles an hour you are in violation, no matter what arguments you can make about safety or efficiency or the behavior of others...
...Put another way, the lesson we should learn is that great size, in and of itself, is an economic evil...
...The lesson is that this bank and this thrift institution were too big to be allowed to fail, just as Chrysler and Lockheed were before them...
...The Dismal Science BIG IS UGY BY GEORGE P. BROCKWAY The Continental Illinois and the Financial Corporation of America bailouts, although different in nature, have one glaringly obvious lesson that everyone sees and even talks about endlessly yet refuses to think about...
...As long as the big banks are substantially free of regulation on the interest they can pay, they will be free of significant regulation elsewhere...
...Or we can keep muddling through the courts...
...Walter Wris-ton, the recently retired chairman of Citibank, who may be said to have initiated the current state of affairs with the dictum that countries don't go bankrupt, now says that bankers are too proud to conduct their business in the expectation that the government will rescue them from their mistakes...
...The book never sold many copies and has long been out of print, but I suppose you can find one in some library...
...Since there are unquestionably economies of scale, it would seem that we are stymied in that direction, too...
...Everybody will become too big to be allowed to fail...
...the courts have been clogged with cases, some of which dragged on for decades without a decision...
...Indeed , we may be sure that the whole operation will be handled in such a discreetly indirect way that we will not notice it...
...At least three things are going on behind the scenes...
...If a business had more than one point of delivery, it would be limited to a certain number of employees...
...You have probably been struck by the fact that an awful lot of money is involved, and that no one seems to be certain exactly how much...
...When they increase their reserves by selling you a CD for $ 1,000, they are able, very conservatively, to increase their lending by $5,000...
...When Uncle Sam picks up the tab, we won't be bankrupted...
...The title is The Limitist, and the author is Fred I. Raymond...
...The power of the "trusts" of 1890 was insignificant in comparison with that of the Fortune 500 or the Forbes 500 of today...
...It is not made more efficient by the existence of similar Chevrolet plants elsewhere...
...Finally, a playlet is being prepared behind the scenes that will go like this: Enter Stern Bank Examiner, who says (sternly): "Hey, you've got to stop making those crazy loans to Third World countries and oil wildcatters and speculators in California real estate...
...The Chevrolet plant in Tarrytown, New York, for instance, achieves (or could achieve) all the engineering economies of scale available in automobile manufacturing...
...It attracted attention from John Chamberlain of the Wall Street Journal on the Right and Senator Paul Douglas of Illinois on the Left, but of course was (and unfortunately still is) long before its time...
...You may wonder how, with a prime rate that was then 13 per cent, Citibank could pay 13.6 per cent for its money...
...I propose that we look a bit more closely at the question of size...
...It is, as Chamberlain said, "a practical way of dealing with the economic 'sin' of bigness that doesn't require cumbersome bureaucratic supervision, insidious taxation of human energy, or incessant effort to prevent government corruption...
...It's pretty hard to fault Mr...
...Observing the courts' inability to define competition, Raymond put forward what he called a limitist law...
...Milovan Djilas and a great many others are ready to tell you in convincing detail that cooperative societies, with the best will in the world, tend to degenerate into stultifying dictatorships...
...Absurdities have multiplied...
...It's as plain as day that their little CD wars will result in a higher cost of funds for all of them...
...Or we can make a start at diagnosing and treating our actual ailment...
...Knight demonstrates in careful detail what we know in our hearts, namely that the competitive race is seldom fair, and that the effort it stimulates is as likely to result in chicanery as in beneficial innovation...
...If we are truly to learn the lesson of Continental Illinois and Financial Corporation of America and Lockheed and Chrysler, the sentence should read, "Everybody will be too big...
...We can, of course, simply give up and turn the country over to the Business Roundtable...
...The bankers are not much concerned, though, because they know that not much can come of it...
...so they can easily afford to pay you $ 136 for your money and are happy to spend a lot on television and newspaper ads to lure you into their shops...
...Then he was an inventor of successful heart-regulating devices that he had to sell to Minneapolis-Honeywell because he couldn't get at the market for them...
...Still, only a few people—like William Wol-man, editor of Business Week—dare to say that in the end many, if not most, of these loans will be repudiated, and that Uncle Sam will, in one way or another, pick up the tab...
...If you say we have to go bankrupt, why of course, we'll do as you say...
...For evidence that it doesn't always work for the benefit of the producer or of society, I refer you to a 1921 essay entitled "The Ethics of Competition" by the late Professor Frank H. Knight of the University of Chicago...
...The Sherman Act has been amended and strengthened, most notably by the Clayton Antitrust Act of 1914 and the Robinson-Patman Act of 1936...
...This may not be so bad in the event as it looms in contemplation...
Vol. 67 • September 1984 • No. 16
