Portfolio efficiency and the "limit on size" debate for a too-big-to-fail (TBTF) bank

Abstract

Does limiting the size of a large bank reduce its insolvency risk? This paper shows that the answer to this question depends upon how exactly paring down of the bank size is done. The risk may go down or it may rise conditional on the composition of assets and liabilities of the pared down bank. Secondly, the paper investigates mean-standard deviation (μ/σ) efficiency of various possible paring down scenarios and suggests μ/σ efficient assets and liabilities compositions that do not depend on limiting the size of the bank. Accordingly, the findings of this paper create serious doubt about the validity of the “limit on size” solution to the “Too Big To Fail”, TBTF, problem.