It seems to me that we don't want to try to make sure that nobody loses money or no bubble ever develops again. That's too much to expect.
We should try to do something that reduces the chances of "complete meltdown of the financial system".
From what I can see, "financial meltdowns" happen when we get a chain reaction of bank failures. Banks are inter-connected, so when one fails, it can take others down.
We figured this out in the '30s and put in a regulatory system that seems to have worked. The problem is that "nonbanks" started doing banking, and they didn't have to comply with the normal regulations. So I don't think it's a matter of inventing a new system, just being sure that the existing system gets applied to everyone that should be included.
To clarify, I'm thnking that "banking" means "borrowing money from one party in order to lend it to another". If B borrows from A and lends to C, then B is a "bank". B adds economic value by protecting A from the credit and liquidity risks that A would assume if he were lending directly to C. B puts his capital on the line to protect A from the occaisional bad news.
Bank regulation focuses on B's capital - is it adequate to cover the risks that B is taking? Audrey had an excellent source that shows how we decided that we could trust the really big players to decide for themselves how much capital they needed. I think this is the one thing we need to change.
The New York Times > Log In
(The link looks funny, but it worked for me. The headline is "Agency’s ’04 Rule Let Banks Pile Up New Debt".)
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