End too-big-to-fail.

• Author: Meltzer, Allan H.

The Obama Treasury Department is stuck in the same place as the Bush Treasury. It cannot find a way to value the many mortgages that banks and financial institutions hold. The result is delay and lengthening the financial crisis.

The solution stares at them, but they are either unwilling to see it or to do it. It requires an end to the mistaken policy of "too big to fail." Like past administrations, they forget that they are supposed to protect us, the depositors and taxpayers, not the bankers and financial executives.

The market values much of the mortgage debt at a price that would bankrupt most of the holders. Selling large holdings or getting the market to buy mortgages could only occur at a lower price or large subsidy. Secretary Geithner cannot get buyers to pay more without giving them big incentives at taxpayer cost. That was the problem that his predecessor eventually learned. It is a mystery why sophisticated market people have difficulty accepting that obvious fact.

There is an easier way. The market values large banks every day. That value includes a market estimate of the value of the distressed mortgages that the banks hold. If the bank is insolvent or likely to become insolvent, the market price reflects that assessment. In the current environment, the market may be more doubtful about future prospects than Treasury officials want to believe, but the only way they can escape the market's estimate is by sacrificing the taxpayers.

The better way is for the Treasury to announce that banks that must raise more capital will get assistance. If a bank decides to raise $20 billion, the Treasury should offer to lend half at concessional rates to any bank that raises the other half in the market. If the bank cannot raise its half, the Treasury should apply FDICIA, the Federal Deposit Insurance Corporation Improvement Act. That act, passed in 1991, gave the regulators authority for early intervention. They can take over a bank that has deficient capital while it still has positive capital value. The motivation was to keep the Federal Reserve from supporting failing banks while their losses rose, then shifting the loss to deposit insurance. Currently, the threat of activating FDICIA for use against large banks will give the bankers substantial incentive to find its share of funds in the market. And using FDICIA would end "too big to fail."

Failure does not mean that the bank...