Moral hazards rise when banks get too big to fail

When Citigroup Inc. announced its acquisition of rival Wachovia Corp. on Monday, Citi Chief Executive Vikram Pandit said the deal would "accelerate our efforts to establish Citi as the world's leading global financial institution."

Is it just me, or does that sound like a threat?

The Citi-Wachovia marriage follows JPMorgan Chase & Co.'s buyout of Washington Mutual Inc. and Bank of America Corp.'s takeover of Merrill Lynch & Co. and purchase of Countrywide Financial Corp.

Remember how we were told by government officials that we needed to spend hundreds of billions of dollars bailing out insurer American International Group and mortgage giants Fannie Mae and Freddie Mac because they were "too big to fail"? Well, now we've got three more private companies on that list.

Among them, BofA, Chase and Citi now will account for about a third of all bank deposits in the United States. They'll also cast long shadows over the markets for credit cards, mortgages and retail brokerage services.

"These three entities will now be so large that it's virtually unthinkable to let them fail," said David Ruder, a professor emeritus of law at Northwestern University and former chairman of the Securities and Exchange Commission.

This means taxpayers essentially will become guarantors for each company's global operations. The economic damage from one of these megabanks going under would be seen by the powers that be as costlier than any rescue package.

One reason federal regulators pushed Wachovia and WaMu into the arms of all-too-willing suitors was that the Federal Deposit Insurance Corp. simply didn't have enough cash on hand to cover depositors' funds should one of the banks go belly up.

Ruder said BofA, Chase and Citi were well aware of their increasingly bulletproof status and thus may take financial risks with depositors' and shareholders' money that smaller institutions wouldn't dream of trying. Economists call this moral hazard.

"There's no question that the moral-hazard question exists with banks this large," Ruder said.

For consumers, the emergence of these banking behemoths -- and the added clout that comes with the perception of greater stability over smaller institutions -- raise the possibility of bigger fees and higher interest rates for loans and lower interest for deposits.

Free checking? Maybe not for much longer. Overdraft charges? Don't bounce any checks.