Critics of Dodd Frank argue that designating some banks as systemically important and requiring them to carry higher capital ends up creating a false perception of safety. They also believe that there is no fool-proof way to prevent failure.
In the wake of the JPMorgan multi-billon dollar trading loss earlier this year, the call to break-up big banks has grown louder, with everyone from former FDIC Chair Sheila Bair to former Citi Chair Sandy Weill weighing in.
Others have called for the reinstatement of Glass- Steagall which separated investment banking and commercial lending activity. Many believe the repeal of Glass Steagall created the banking behemoths we have today.
Dudley isn't convinced that this is the answer. "With respect to Glass-Steagall, it is not obvious to me that the pairing of securities and banking businesses was an important causal element behind the crisis. In fact, independent investment banks were much more vulnerable during 2008 than the universal banking firms which conducted both banking and securities activities," he said. "More important is to address the well-known sources of instability in wholesale funding markets and give careful consideration to whether there should be a more robust lender of last resort regime for securities activities."
An analysis of breaking up big banks should answer several questions, according to Dudley, including how to force divestiture, whether to split firms by activity or reduce it by size, what is the appropriate size, the cost to replicating support services and so on.
He however did not rule out big bank break-ups completely. "A blunter approach may yet prove necessary," if the current steps to address TBTF fail, he said.
-- Written by Shanthi Bharatwaj in New York.