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Nationalize the banks!

January 21st, 2009 · 3 Comments

No, we’re not socialists. But it seems the only way. And in the future, they can be returned to the private sector, perhaps even for a handy profit.

Although there are good reasons for assuming that privatly run companies are more efficient than public ones, this is not always necessarily true. Take the banks:

We liberalized the financial markets, gave them ample room to do as they saw fit. They f**cked up. Not just the one, most of them. How? pretty simple, really. They gave easy credit, then, in stead of monitoring that credit, and making provisions for them, they securitized these, that is, loans were mixed in a blender and little tradable pieces of paper came out, which where supposed to reallocate risk to those with more tolerance for it.

These exotic assets were traded on new, often entirely unregulated markets, pricing these assets turned out to be a very poor substitute for monitoring credit. Liberating their balance sheets from loans also freed the banks from having to make reservations for these loans, so they could expand their balance sheet with more sexy, and considerably more risky ventures.

And why not. Basically what these erstwhile masters of the universe did was gambling with other people’s money. Heads, you lose, tails I win. Most of these high-flyers amassed absolutely staggering amounts of money (in amazingly short amount of time), while the results of their gambles are on full display for all of us, and, much more importantly, the bill is delivered on the doorstep of you and us.

This is what happens when you give people stock options and golden parachutes, and bonuses, all in insane quantities. Research after research has shown that there is little, if any, relation to the performance of the company and the size of the remuneration packages.

In one sense, we can’t even blame them. What would you do if you could gamble with other people’s money, and these gambles were basically one-way bets? It’s an open invitation to high risk taking and sweeping things under the carpet, and worse.

And what’s worse, nothing of this is very surprising, it’s simply the result of badly designed institutions and regulations. The constant is human behaviour.

So, what should be done?

Banks used to lend money to the people, now it’s the other way around. Most urgent is to get the financial institutions back on their feet again. For a while, the consensus (which we actually adhered to) was of the opinion that the bail-out plans, although morally questionable and not addressing some of the more fundamental problems (which we just described above), had done enough in that respect.

That consensus is rapidly evaporating. The nosediving economy is worsening bank balances as fast as they get bail-out money, or faster. We read that Citibank needs $15B, a couple of billion dollars a month more than the Irak war costs.

So what do we do, do we keep writing open checks on an ad-hoc basis, and get nothing in return?

We no longer think that that is a good idea. The sums are just getting bigger and bigger. If you think that trillion dollar deficit in the US is scary, look to the UK, where they expect a budget deficit of 9.5% of GDP. And how about Ireland’s, at 13% next year. We really should get something in return for these open ended cheques.

And if bank shares keep falling at the rate they have been doing lately, this doesn’t have to be very expensive. Not that it solves the bad balance sheets, but it restores confidence, and the taxpayer is getting something in return (at least in the longer run, when things get normalized).

There is one other solution. In principle, central banks can buy unlimited amounts of bad assets (many are already doing just that under the guise of ‘quantitative easing’). This has the advantage to keep public deficits from orbiting, but they spoil the balance sheets of central banks. These bad assets don’t disappear just like that. The money supply will swell out of proportion, but it can be argued that that is just what we need right now.

And longer term, when the economy recovers, the excess liquidity can be ‘mopped up’ by central banks selling assets.

Bank nationalization has one other advantage though. Regulations and corporate governance structures can be put in place to prevent these one-sided bets from reappearing, and it’s easier to cajole banks into lending money to business again, you know, the old-fashioned way.

Tags: Credit Crisis

3 responses so far ↓

  • 1 Darcy Patten // Jan 22, 2009 at 8:31 pm

    Hmmm, maybe the US should look North to us Canucks and mimic our banking regulations!

    Canadian Banks……..#1 in the world!!

  • 2 Nationalize the banks II — shareholdersunite.com // Jan 24, 2009 at 4:56 am

    […] Darcy Patten: Hmmm, maybe the US should look […]

  • 3 Nationalize the banks VI — shareholdersunite.com // Feb 13, 2009 at 5:35 am

    […] to deal with the financial crisis would be to nationalize at least some banks (you can read that here, here, and here). We’re hardly alone.. Even the guy that predicted all this mess years ago […]