Resolution Authority: What's Wrong With the Dodd Bill
The Dodd bill gets things right on first principles: there needs to be some type of resolution authority, and it needs to provide the ability to impose haircuts on creditors. The bill accomplishes that much. But it goes way off the rails on a critical issue that has received virtually no discussion: how the resolution authorization process is supposed to work.
There's been a good deal of ink spilled recently over how to regulate systemic risk, but little consideration of the institutional design of resolution authority. Who gets to decide to pull the plug on a troubled firm? And who gets to decide to provide support for other firms or sectors of the economy?
I would suggest that however we do this, the paramount value should be maximizing political accountability. Resolution is a distributional matter, which makes it inherently political. Indeed, systemic risk is really a political issue, not an economic issue--there's no accepted economic metric for systemic risk. Instead, it is about social anxieties over loss distribution. Determining the most politically accountable part of government is something that administrative law scholars endlessly debate, but there are some parts that are less accountable politically than others: the courts and independent agencies (as opposed to cabinet agencies). Thus, if we are concerned about political accountability, the Fed is the wrong place to vest decision-making authority. Same for the courts.
But this is exactly what the Dodd bill does. First it, like the Frank bill in the House, create a systemic risk oversight council. Sounds nice, sort of like the Justice League of financial regulation, but in practice it is likely to merely dilute accountability among regulators. Second, a troubled firm can only be placed into resolution if (1) the Treasury Secretary, generally acting on the recommendation of a supermajority of the Fed Board and the FDIC, successfully petitions (2) a special panel of bankruptcy judges for the resolution. Again, this mechanism invokes the participation of a number of regulators (including two of the least politically accountable), and then a rather odd subgroup of judges (3 Delaware bankruptcy judges), another politically unaccountable constituency.
The goal of the Dodd bill seems to be to make resolution a scientific matter. But it isn't, and we might do better by going for one that abandons the semblances of legalism and goes with accountability. (Again, for those who want the fuller version of the argument, you can read it here.)