Too big to fail? Paul Wright Senior Director, IIF May 21, 2010

Background Failing firms and structures can create systemic damage The expectation that they will be bailed out:  Creates moral hazard  Distorts markets  Makes governments defensive

Characteristics of systemic risk Varied in form Dynamic and mutating in nature Highly time- and condition-dependent Large firms can be a source of systemic risk but it is a mistake: To assume that systemic risk originates only in firms To equate greater size with more systemic risk

Balance is needed Well run global firms bring huge benefits Support the functioning of the global economy  Match global savings and investments  Support transactions and make markets  Facilitate growth of regional and global companies Provide benefits through economies of scale and scope  Some business requires absolute scale  Costs to consumers  Leading edge practices Contribute to overall resilience  Resolving failing firms  Source of resilience in emerging markets  Filling funding gaps

Balance is needed Systemic risk is a serious problem that must be addressed But it doesn’t stem only (or even mainly) from individual large firms In seeking solutions, don’t undermine the global economy

‘Conventional’ measures 1 Reduce the probability of failures Improved industry practices Stronger capital and liquidity requirements Recovery plans Better supervision (including cross border)

‘Conventional’ measures 2 Reduce the impact of failures More resilient markets CDS, OTC, securitization Recovery and resolution plans (‘living wills’) Cross border resolution groups

‘Conventional measures’ 3 Improve resolution arrangements Strengthen national resolution arrangements Introduce special resolution regimes, including steps to preserve value Coordinate/harmonize national regimes

Take stock at this point Has systemic risk been reduced to acceptable levels? Can global firms be resolved? Can we credibly say that taxpayers’ money will never be used?  No bailouts  No recapitalizations

Taking stock Will systemic risk have been acceptably reduced? Can global firms be resolved? Can we credibly say that taxpayers’ money will never be used? Yes Declare victory Sleep soundly at night No/not yet Unconventional measures Limitations on firms:  Size  Scope  Structure or More ambition in cross border resolution

More ambition is needed A global approach to resolution This is very difficult – but the stakes are high Critical issue is allocation of assets and liabilities Call for a G20 Taskforce

For more on this (on May 24) A Global Approach to Resolving Failing Financial Firms: An Industry Perspective and Systemic Risk and Systemically Important Firms: An Integrated Approach

Too big to fail? Paul Wright Senior Director, IIF May 21, 2010