I have cross-posted this from Moneybox since I anticipate that the responses here (assuming there are any) might be better thought out than will be the case there.
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What would the fabled King Solomon do if he became aware that there were businesses that were too big to fail? I think we all know the answer: he would cut them in half - or in as many pieces as was appropriate, anyway. What do I mean by that? Well, in the past (in more settled and reassuring times) there were commercial banks, there were insurance companies, there were stock brokers, there were investment funds, and there were venture capitalists. I admit that that is probably an incomplete list, but it is at least a recital of the major financial components of our economic system. Most people, at that time (and hopefully now) recognized that these were, in a sense, overhead functions applied to the real economy in order to expedite those financial functions which supplemented barter as a way of exchanging goods and services. They allowed time to be included as a significant dimension of the economy: you could buy something now for later delivery, you could save money in your youth to spend in old age, you could sell goods and receive payment later - that sort of thing which we took so much for granted that we didn't recognize that the infrastructure lay outside the real economy. In each area, there were a number of separate operatives, sometimes competing in the same region, sometimes carving the whole into non-competing regions, merging, splitting, and occasionally fading away. Each of these islands of commerce was separate and non-overlapping. Each was simple enough that it could be monitored and understood, and each was small enough that it could either be allowed to fail or could be rescued, all without seriously disrupting the economy. None was large enough, or powerful enough, that it could take control of either the economy or the government, and none could successfully resist regulation. Mergers occurred within each field and usually improved efficiency, yielding advantages for owners, employees, and customers. But, most importantly, these industries, and their member companies existed outside of the real economy and for the purpose of expediting the workings of the real economy. Then came the cross industry penetrations.
Through various paths, companies merged or expanded so that they existed across the dividing lines which had formerly partitioned them into benign members of the overall economy. Banks, which had formerly borrowed deposits from some of their customers and lent them to other of their customers merged with investment houses that were making speculative sales and purchases in the equity markets. Soon, the money of the bank depositors was being used to make these speculative purchases. Insurance companies, which had once been extremely prudent investors became one with houses which were frankly gamblers, and money which was to be kept safe to pay customer claims was placed in very risky investments. Soon, the normal ways of investing, and even gambling in the real economy, were saturated, and these new hybrid firms turned to a new venture: investing in each others products; clearly an incestuous act. Because these entities had limited defined assets to sell to each other, as they swelled to unbelievable size, they started to manufacture synthetic assets which they continued to trade. This allowed them to continue to grow, but they were fed mainly on the nutrient-free hollow products of their own invention. They became less interested in supporting the real economy and turned their attention completely to attempting to outsmart each other - to fashion some new product that was irresistably tempting - and worthless! Because they had grown to be bigger and more powerful than the regulators, than the government, than countries, they made the rules - and the rules then said leave us alone, we're having a great time. While they were playing up there, in their own self-made heaven, the real economy went on down below, in the real world. Because the real economy was no longer of particular interest to these players, it receive little attention or care from the people involved in the game, who once were involved in applying their professional skills to aiding those in the real economy in steering safe financial paths. And so, when something broke in the real economy - an oversupply of housing - it didn't get the attention of the professionals until it was too late. When they did respond, it was because they had based much of their fanciful paper, which they had been joyously trading, on what had seemed a solid foundation when they last made contact with the real world - housing. And so, it all fell apart, and companies which had been allowed to grow too big to fail, failed! And when they did fail, the rained down in toxic pieces on the real economy, far below, which had been operating reasonably and responsibly and was now to be victim of those who hadn't.
King Solomon would have seen all this and, in his wisdom, he would have set thing back in order by severing these entities which were too big to fail into the original segements which had worked successfully for so long. Yes, this is obviously what Solomon would have done; and it is obviously what we should do.
