affiliate that was sizable, though hardly an industry leader, but its downfall seems pretty clearly connected to its exposure to subprime mortgages that it had written directly or acquired through mergers with other institutions. see, for example, the following two papers and the references therein : franklin allen, ana babus, and elena carletti ( 2012 ), “ asset commonality, debt maturity and systemic risk, ” journal of financial economics, vol. 104 ( june ), pp. 519 – 34 ; and andrei shleifer and robert vishny ( 2011 ), “ fire sales in finance and macroeconomics, ” journal of economic perspectives, vol. 25 ( winter ), pp. 29 – 48. bis central bankers ’ speeches proponents of breaking up firms by business line may reply that the next financial crisis will not likely have the same genesis as the last, and that separating commercial from investment banking could at least mitigate the risks of extending the safety net provided depository institutions to underwriting, trading, and other activities of very large firms. but an io perspective suggests that the proposal could entail substantial costs. the reinstatement of glass - steagall would mean that bank clients could no longer retain one financial firm that would have the capacity to offer the whole range of financing options – from lines of credit to public equity offerings – depending on a client ’ s needs and market conditions. moreover, many banks that are far too small ever to be considered tbtf do provide some capital market services to their clients – often smaller businesses – a convenience and possible cost savings that would be lost under glass - steagall prohibitions. 8 with the present state of research, it is virtually impossible to quantify the social benefits of these economies. however, what seems the likelihood of nontrivial benefits from current affiliations is a good reason to be cautious about adopting this proposal. capping nondeposit liabilities proposals to place a cap on a bank ’ s nondeposit liabilities as a fraction of u. s. gross domestic product ( gdp ) have been promoted as more directly responsive to the sources of systemic risk than are proposals to reinstate glass - steagall or to cap the total assets of a bank. many studies of the financial crisis demonstrate that the reliance of large financial firms on nondeposit funding made them, and the financial system as a whole, susceptible to the dramatic runs that peaked in the fall of 2008. for the largest u.

s. financial firms, nondeposit liabilities today are highly correlated with the systemic risk measures used at the federal reserve board to measure interconnectedness and complexity for purposes of evaluating the financial stability effects of mergers. another attraction of this form of proposal is that, even as it places constraints on the potential size and composition of a firm ’ s balance sheet, it allows relative flexibility to the firm in meeting that constraint, particularly when compared with proposals for prohibitions on commercial bank affiliations with other financial firms. a firm could shrink its balance sheet by shedding less profitable assets of its choosing. it could also shift its funding model more toward deposits ( assuming, of course, it does not exceed applicable deposit caps ). there are also ways to refine the proposal further, such as by weighting the nondeposit liabilities in the numerator of the ratio based on their duration. in short, as i have previously noted, there is considerable conceptual appeal in these proposals. 9 nonetheless, there are several important questions raised by the nondeposit cap idea. foremost among these is the decision about the appropriate percentage of gdp that would constitute the cap. the determination of this limit would presumably be based on a number of considerations, including an evaluation of the capacity of the u. s. economy and financial system to absorb the losses resulting from the failure of a large firm. several salient considerations are also suggested by a combined io - finance perspective. first, of course, is the key issue of how the functioning of funding markets is affected by the participation of very a variation on the glass - steagall reinstatement proposal is to prohibit only securities trading by affiliates of insured depository institutions. this proposal may also negate certain economies of scope, which seem quite likely to exist in firms that make markets in securities that they have underwritten, and thus also economies of scale, which may be realized by making markets in other securities once a firm is in that business. note in this regard that the so - called volcker rule, included in the dodd - frank act, prohibits only proprietary trading, not all trading. whatever the practical difficulties of distinguishing proprietary from nonproprietary trading, the distinction in the legislation rests on the apparent assumption that there are efficiencies to be gained in having underwriting firms trade. see daniel k. tarullo ( 2012 ), “ financial stability regulation, ” speech delivered at the distinguished jurist lecture, university of pennsylvania