One of the most important elements of the Dodd-Frank financial regulation bill is the “resolution authority” provisions. In theory, this will prevent regulators from facing the “bailout or financial panic” calculus that got us into so much trouble in the summer and autumn of 2008. There is, however, some skepticism as to whether this authority is really usable or workable. Discussion of this point is necessarily going to be speculative, but it counts for something that former Treasury Secretary Henry Paulson thinks it would have worked:
“We would have loved to have something like this for Lehman Brothers. There’s no doubt about it,” Mr. Paulson declared about midway into our conversation.
He was referring to a provision of the bill known as resolution authority, which would enable the government to unwind a failing investment bank or insurance company in an orderly way without forcing it into bankruptcy, thus avoiding the unintended consequences that a bankruptcy might create. Mr. Paulson had spoken publicly about the need for resolution authority in June 2008, three months before Lehman’s failure, but did not believe it was politically viable to ask Congress for such powers.
When people ask if this bill will prevent another crisis, I think it’s important to distinguish between different things that could mean. These measures won’t prevent a recurrence of the cycle of asset price boom and busts leading to financial institution failures. But elements of Dodd-Frank do hold out the possibility of coping with the aftermath of such failures in a politically and economically viable way, that avoids the moral injustice associated with “bailouts.”
Now of course maybe Paulson’s wrong. But the three people whose practical experience has positioned them to know what kind of authority the Treasury Department needs to deal with a financial crash are Paulson, Tim Geithner, and Larry Summers and they all think this will work. That’s something.