by Bill Kavanagh: Just a couple of quick thoughts to add to the debate between those connected with the Obama Administration who are cautioning against bank nationalization and the growing number of economists and observers who see nationalization as inevitable for some of the worst zombie banks…
Alan Blinder writes in yesterday’s NY Times that there are more perils in nationalization than in the bad bank solution currently being floated by Treasury Secretary Geithner. Blinder sees danger in nationalization of a few big banks— in the possibility that all other banks in some measure of trouble will see a panic rundown of their stock prices as investors flee them, forcing more and more nationalizations or gross unfairness in letting some institutions then fail.
On the bad bank valuation issues— of what to pay when buying troubled assets from the big banks, Blinder contends that the price of troubled assets remains an issue for a nationalized bank as well.
I guess the first peril seems more real than the second. Perhaps a nationalization of one megabank would drive down the stock price of others. On the other hand, if a nationalization were done in the context of, say, announcing the results of a ‘stress test,’ like the one underway now, the message might well be, “The following large banks failed the stress test and are being taken under temporary Treasury management to ensure their health and lending power. All other major institutions passed this rigorous stress scenario, which tested much worse recessionary conditions than currently exist and these institutions should be considered very healthy.”
Would not an announcement of this nature actually increase investor confidence in the institutions remaining private, much in the way the bank runs stopped once Roosevelt’s new Administration reopened banks following the 1933 bank holiday?
The second question, about the valuation negotiations that must be part of a bad bank scenario, leaves me totally skeptical about Blinder’s logic. How can it be that the problem of what to pay for troubled assets isn’t more tortured in a negotiation between the government (the taxpayers, that is) and the banks (who will threaten to fail if they are not overpaid for these assets) than it would be if the taxpayers could simply put those assets aside for some period of time?
Blinder seems to be using fuzzy logic to simply say, “Every asset will be problematic no matter who owns it, so why not overpay, protect the current asset holders (the bank shareholders) at taxpayer expense, and worry later about how much we all recoup.”
To me, the problem is made much worse in deciding how much troubled assets are worth now than it will be in slowly unwinding them after the crisis is over. That’s when the valuation problem begins to recede. Deciding to pay an inflated price now for bad assets— to keep their owners (the banks) in business— means the taxpayers take the hit and we later try to minimize our losses as opposed to sharing in the loss and the gain equally—and opening up the credit markets now in the bargain—under a nationalization plan.
Maybe I missed something here, but it sure sounds like we get the downside and the banks get the upside in the bad bank scenario. Haven’t taxpayers been hurt enough?
(This post is also available at Bill's Big Diamond Blog.)
Excellent job unpicking the "logic" of this argument...!
Posted by: DAMOZEL | March 08, 2009 at 02:12 PM