THE FIRE DEPARTMENT

Paul Krugman in his April 16, New York Times column wrote “On Tuesday, Mitch McConnell, the Senate minority leader, called for the abolition of municipal fire departments.

Firefighters, he declared, “won’t solve the problems that led to recent fires. They will make them worse.” The existence of fire departments, he went on, “not only allows for taxpayer-funded bailouts of burning buildings; it institutionalizes them.” He concluded, “The way to solve this problem is to let the people who make the mistakes that lead to fires pay for them. We won’t solve this problem until the biggest buildings are allowed to burn.”

O.K., I fibbed a bit. Mr. McConnell said almost everything I attributed to him, but he was talking about financial reform, not fire reform. In particular, he was objecting not to the existence of fire departments, but to legislation that would give the government the power to seize and restructure failing financial institutions. But it amounts to the same thing.

Now, Mr. McConnell surely isn’t sincere; while pretending to oppose bank bailouts, he’s actually doing the bankers’ bidding. But before I get to that, let’s talk about why he’s wrong on substance.

In his speech, Mr. McConnell seemed to be saying that in the future, the U.S. government should just let banks fail. We “must put an end to taxpayer funded bailouts for Wall Street banks.” What’s wrong with that?

The answer is that letting banks fail — as opposed to seizing and restructuring them — is a bad idea for the same reason that it’s a bad idea to stand aside while an urban office building burns. In both cases, the damage has a tendency to spread. In 1930, U.S. officials stood aside as banks failed; the result was the Great Depression. In 2008, they stood aside as Lehman Brothers imploded; within days, credit markets had frozen and we were staring into the economic abyss. So it’s crucial to avoid disorderly bank collapses, just as it’s crucial to avoid out-of-control urban fires.

Since the 1930s, we’ve had a standard procedure for dealing with failing banks: the Federal Deposit Insurance Corporation has the right to seize a bank that’s on the brink, protecting its depositors while cleaning out the stockholders. In the crisis of 2008, however, it became clear that this procedure wasn’t up to dealing with complex modern financial institutions like Lehman or Citigroup.

So proposed reform legislation gives regulators “resolution authority,” which basically means giving them the ability to deal with the likes of Lehman in much the same way that the F.D.I.C. deals with conventional banks.”

In 1993 William Seidman (former Chairman of the FDIC) in his book “Full Faith and Credit” discussed his FDIC experience and the condition he found the FDIC in when he was appointed to the position as Chairman. He noticed that the division devoted to closing banks was woefully understaffed with permanent employees. As a result he determined that the FDIC needed a thousand employees, permanent staff, devoted to being ready to address bank failures in tough economic times. What Mr. Seidman said in his book was that he thought the FDIC needed these employees, even if they didn’t have anything to do, because as Mr. Seidman put it; “you don’t disband the fire department just because the town arsonist is in jail.”

Unfortunately, the incoming appointees by the George W. Bush Administration to the financial regulatory agencies came to office with an agenda. The agenda was a dismantling of the regulatory agencies. The agencies were downsized and the bank examiners were instructed to cut back on their examination time. The division at the FDIC devoted to closing banks was reduced to the size Mr. Seidman had sought to rectify and which he wrote about in his book. The purpose was simply to get the cat out of the house so the mice…or more aptly described “rats:…could have unfettered reign within the financial world. And…the result was the catastrophe we experienced in 2007 and 2008.

These examples by Paul Krugman and Bill Seidman are interesting metaphoric examples of the work of banking regulators. THE FIRE DEPARTMENT. These are good illustrations of the need for financial regulatory reform, why there needs to be regulators of financial institutions and, in my opinion, why there needs to be a Consumer Protection Agency. These rules, these employees, and these agencies are needed for times of economic turmoil. Bankers left to their own devices will NOT act in the best interest of you or the economy as a whole. They will be driven by greed, and have no recollection of the last financial debacle. They will go for the easy profit, the big salary, and have no compunction to bending the rules to meet their own greedy desires.

The bankers at the top of the major institutions are not willing to do the hard work of the finance business. That business is making one small loan at a time. They are after the big kill. Their attitude is why make a lot of small loans when we can make one big one…the easy route.

They do not understand that long term economic expansion is built on loaning lots of people small amounts of money. They do not understand economic expansion is loaning small amounts of money to purchase washing machines, televisions, computers, cars and houses. It takes underwriting the loans to insure that the borrower is not overextending themselves.

So…we need a good, well equipped, well trained fire department. This department will be structured around a focused Federal Reserve, competent auditors at the Office of the Comptroller of the Currency, State Banking Commissions, Office of Thrift Supervision, Federal Deposit Insurance Corporation, and National Credit Union Administration. Finally, we’ll need a capable staff at the FDIC and a newly created Consumer Protection Agency to shut down banks or other large companies who comprise systemic risk to the country.

The FIRE DEPARTMENT is the perfect metaphor for our predicament.