The Dodd-Frank Act, which aims to end the bailout of financial institutions that are deemed too big to fail, perpetuates a dangerous trend of increasing banking industry concentration, says Richard Fisher, president of the Federal Reserve Bank of Dallas.

"It is imperative that we end too big to fail," Fisher writes in the bank's 2011 annual report essay released Wednesday. "In my view, downsizing the behemoths over time into institutions that can be prudently managed and regulated across borders is the appropriate policy response."

Dodd–Frank expands the powers of several government bodies in its effort to end TBTF, including th the Federal Reserve Bank and Federal Deposit Insurance Corp. The act charges the 10-member Financial Stability Oversight Council, aided by a new Office 
of Financial Research, with identifying and resolving problems at big banks before they threaten the financial system. In an effort to increase transparency, much of the new information will become public.

But the Dallas Fed claims Dodd–Frank fails to give regulators the "foresight and the backbone" to liquidate TBTF financial institutions.

"The credibility of Dodd–Frank’s disavowal of TBTF will remain in question until a big financial institution actually fails and the wreckage is quickly removed so the economy doesn’t slow to a halt," says Harvey Rosenblum, Dallas Fed executive vice president, in the report. "Nothing would do more to change the risky behavior of the industry and its creditors."

More than half of the banking industry's assets are on the books of just five institutions. The 10 largest U.S. banks hold 61% of banking industry assets far more than the 26% held 20 years ago. Their combined assets equate to half of the nation’s gross domestic product.

The Dallas Fed advocates breaking up the nation’s biggest banks into smaller units. Rosenblum acknowledges that it won’t be easy, citing the difficulty in developing a method, determining a safe level of concentration and political and economic pushback from the institutions.

"Part of the answer lies in excesses that haven’t been wrung out of the economy — falling housing prices have been a lingering drag," Rosenblum says. "Jump-starting the housing market would surely spur growth, but TBTF banks remain at the epicenter of the foreclosure mess and the backlog of toxic assets standing in the way of a housing revival."

President Barack Obama recently made a move that appears aligned with the Dallas Fed's comments. He nominated Thomas Hoenig, former chief of Federal Reserve Bank of Kansas City and long-time critic of the largest banks, as vice chairman of the FDIC.

At the time, Jaret Seiberg, an analyst at Washington think tank MF Global, said "it is hard to find a government official who spoke out more forcefully for breaking up the biggest banks than Hoenig during his tenure as Kansas City Federal Reserve president. He believes TBTF is a serious problem that only can be fixed by making the biggest banks smaller. As FDIC vice chairman, he will have an even bigger platform for this message."

The FDIC, which takes over troubled banks, reported in February that government-insured banks were more profitable in the fourth quarter than an a year earlier, suggesting the banking system is in a better lending position. Still, regulators say troubled asset levels remain high.

In 2011, 92 insured institutions failed, down from 157 in 2010.

"A financial system composed of more banks, numerous enough to ensure competition in funding businesses and households but not big enough to put the overall economy in jeopardy, will give the United States a better chance of navigating through future financial potholes and precipices," Rosenblum says. "As this more level playing field emerges, it will begin to restore our nation’s faith in the system of market capitalism."