Credit Suisse, the gigantic Swiss bank, is clearly a criminal organization. In its guilty plea yesterday, Credit Suisse admitted that it has been actively helping Americans (and no doubt people from all around the world) evade taxes for years:
For decades prior to and through in or about 2009, . . . Credit Suisse did unlawfully, voluntary, intentionally, and knowingly conspire, combine, confederate, and agree together with others . . . to willfully aid, assist in, procure, counsel, and advise the preparation and presentation of false income tax returns and other documents to the Internal Revenue Service.
The Justice Department is crowing about its newfound willingness to convict major financial institutions, with Eric Holder claiming, “This case shows that no financial institution, no matter its size or global reach, is above the law.” The guilty plea certainly seems like a step forward from the neither-admit-nor-deny settlements that banks have counted on for the past decade. But there is a risk that the Credit Suisse deal—the guilty plea coupled with ample assurances that the admitted criminal will be allowed to remain in business—could become the new version of the deferred prosecution agreement: an outcome that makes everyone happy, yet punishes no one, and ultimately becomes just another cost of doing business.
There are two main ways to really punish criminals and deter wrongdoing in the future. One is criminal prosecutions of the individuals involved, ideally getting lower-level employees to cooperate and gathering evidence as far up the management hierarchy as possible. (There are ongoing prosecutions against several Credit Suisse employees.) The other is putting a bank out of business by revoking its license. Even if he escapes jail, no CEO wants that on his résumé. And it seems entirely appropriate for a bank that engages in a decades-long criminal conspiracy that costs U.S. taxpayers billions of dollars.
The conventional wisdom, however, is that you can’t revoke a large bank’s license because of potential systemic consequences. (That’s why prosecutors only pressed for the guilty plea after receiving assurances that regulators would not revoke Credit Suisse’s licenses.) If this is true, of course, that’s an overwhelming argument that such “too big to jail” banks shouldn’t exist in the first place. We don’t want a financial system dominated by banks that can willfully flout the law.
But is it even true in the first place? The reason some financial institutions are too big to fail (or jail) is that their collapse could trigger losses at other major institutions and provoke a systemwide panic. That was the lesson of AIG: If it had failed to make good on its credit default swaps, various pillars of the financial system could have collapsed, and no one knew how far the damage would spread.
The underlying problem in 2008, however, was that Lehman, AIG, Citigroup, Bank of America, and other financial institutions were both illiquid and essentially insolvent: They couldn’t come up with the cash to pay their bills, and in the market at that time their assets weren’t worth enough to cover their debts. In that situation, a default can produce a global conflagration, as occurred on September 15, 2008.
But that’s not the case today—at least if you believe the bankers and the regulators. Our banks today are sound, the chorus sings. In that case, then, Credit Suisse does have enough assets to pay off its debts, all of its creditors and counterparties will be made whole, and there’s no reason to panic. It’s true that no large, complex bank could settle all of its positions at this instant, so it might take time to unwind it gracefully. (And isn’t that the point of those living wills that Dodd-Frank had so much faith in?) There are at least three ways this could be done. First, Credit Suisse could simply be allowed to operate for, say, three years—enough time to sell off its assets and close its positions without having to take “fire sale” prices. Second, the bank could create a new, licensed subsidiary. That subsidiary could take over all of Credit Suisse’s current positions that can’t be closed easily, and then authorized to operate solely in runoff mode. Third, the government could create a new entity (roughly like the Resolution Trust Corporation) that would buy Credit Suisse’s more complicated assets and positions and then unwind them over as long a period as necessary, eliminating the pressure to sell quickly at a loss.
The fundamental point is that if Credit Suisse really is solvent, then there are no losses that have to be absorbed by someone else (other financial institutions or taxpayers). If its assets really are worth more than its liabilities, then it must be possible to close down the bank without harming anyone else (except shareholders), given enough time. The whole point of capital regulation is to make sure that this can always be done. People would lose their jobs, but the whole premise of the financial sector is that it is providing useful services, which means that those jobs would be recreated elsewhere in the industry (except for the jobs based on tax fraud, which should go away for good).
Major banks like to say that they are no longer too big to fail. But when accused of crimes, they insist that they are too big to jail. That doesn’t mean that it’s true.