It used to be the practice at the old Washington Daily News to write things like, “Police identified the murder suspect as Howard Ignoto, of the 1700 block of Maple Street.” If a more precise address turned out to be even a single digit off, a bedridden 90-year-old bishop’s widow would inevitably be living at that number. Our lofty journalistic principle was therefore, “It is better to be vague than wrong.”
The Epicurean Dealmaker suggests following the same principle when it comes to resolution authority to discipline Wall Street houses judged too big to fail, and his reasons are equally practical:
I like the fact that the proposed resolution authority is currently vague and undefined. I think it should be written into law in as vague and undefined a manner as possible. That would make it much more effective in combating the next (inevitable) financial crisis…
For another thing, vagueness will offer regulators discretion.
This will have two salutary effects. It is well known that financial institutions — like sophisticated businesses everywhere — are expert at structuring their business practices to satisfy the letter of the law, while evading its spirit and intent with maximal effect. The more specific laws and regulations become, the easier it is for these institutions and their in-house and outside counsel to find their way around them.
Should legislation authorizing resolution authority be too specific — in the tools, techniques, and processes regulators are allowed to use in identifying and winding down financial institutions in distress — then you can bet your bottom dollar those firms will exploit this fact to skew the game in their favor. In contrast, purposely vague and undefined resolution authority will not offer its potential objects as many preemptive opportunities to evade its intended jurisdiction or consequences.
In addition, regulatory discretion would foster what I would view as a healthy increase in uncertainty among financial institutions and their stakeholders. Should, for example, a regulator have the authority to unilaterally abrogate, modify, or suspend any and all prior contracts or securities arrangements entered into by a financial institution undergoing resolution — as some might suggest — you can just imagine how much more cautious investors, lenders, and counterparties would become in their dealings with any financial institution potentially subject to such a regime in the future.
The cost of funding financial institutions would undoubtedly rise, as investors become sensitized to increased contractual risk. Firms in obvious distress would see their cost of financing skyrocket and their counterparty business dry up, as no-one with a contractual claim could rest assured it would receive exactly what it was otherwise entitled to in a resolution wind up. But then again, firms in obvious distress see that happen anyway. The point is that regulators charged with cleaning up the mess would not have their hands completely tied by contractual arrangements entered into by others when the failing company was healthy…