FDIC's Bair: 'Too Big to Fail' Strategy Must End

CNBC.com FDIC Chairman Sheila Bair

The head of the Federal Deposit Insurance Corporation said Thursday that the government's strategy in the financial crisis of bailing out huge institutions deemed "too big to fail" must be replaced by a new model.

FDIC Chairman Sheila Bair told Congress a new system of supervision that prevents institutions from taking on excessive risk and becoming so large their failure would threaten the financial system is needed.

A mechanism is needed to resolve troubled financial institutions similar to what the FDIC does with federally insured banks and thrifts, she added.

Video: FDIC Chair Sheila Bair testifies in front of the Senate Banking Committee.

Testifying at a packed Senate Banking Committee hearing, Bair said simply creating a co-called systemic risk regulator —a central idea in the discussion of overhauling the U.S. financial rules—"is not a panacea." Bair appeared with other top regulators to discuss the high-stakes issue of modernizing oversight of the nation's financial institutions amid the crisis gripping the U.S. and the global economies.

The government's rescue of insurance giant AIG its pumping of tens of billions of dollars into Citigroup and Bank of America in more than one instance, and other actions in the crisis have put a "too big to fail" stamp on U.S. policy.

The committee's chairman, Sen. Christopher Dodd, D-Conn., said that possibly the most important lesson to take from the crisis is that "no institution should ever be 'too big to fail."' "Replacing Citibank-sized financial institutions with Citibank-sized regulators would be a grave mistake," he said.

Dodd suggested it could make more sense to give the FDIC, which has the expertise in that area, the authority to resolve big failing institutions.

But Rep. Barney Frank, D-Mass., chairman of the House Financial Services Committee, and other lawmakers have proposed the Federal Reserve assume the role of systemic regulator to monitor against the kinds of risks that plunged markets worldwide into distress last year.

Both Congress and the Obama administration are starting to craft their strategies for revamping a patchwork regulatory system that dates to the Civil War as they strive to prevent a repeat of the global crisis.

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