If you go back to what happened in 2008, you had a situation in which the impending collapse of some key financial institutions threatened to bring down the whole world economy.... This episode created a concern: now that everyone knew that big financial institutions would be bailed out if they went bad, wouldn't this (a) give such too-big-to-fail institutions a continuing advantage, because their government guaranteed safety would make them able to borrow cheaply, and (b) encourage irresponsible behavior? And there was a fair bit of evidence for (a): large financial institutions did indeed seem to have a funding advantage. To deal with this, Dodd-Frank created Ordinary Liquidation Authority, otherwise known as resolution authority -- giving the government the legal authority to seize institutions the way it arguably should have in 2008-2009. [...]GAO has the goods. There was indeed a large-bank funding advantage during and for some time after the crisis, but it has now been diminished or gone away -- maybe even slightly reversed. That is, financial markets are now acting as if they believe that future bailouts won't be as favorable to fat cats as the bailouts of 2008.
A new report released Thursday by the Government Accountability Office confirms that America's most underrated law, the Dodd-Frank Wall Street Reform and Consumer Protection Act, is working and making a real difference. In this case, "working" means reducing market perceptions that the largest banks will receive special subsidies from the government in the event of trouble, and therefore reducing the advantages those banks enjoy during normal times.