privatize it when possible at the highest possible price for the taxpayer

From The Baseline Scenario:

"James Surowiecki and Me

with 38 comments

Back when I had time to read The New Yorker, I was a big fan of James Surowiecki. I would always look for his column; if it was there, it was usually the first thing I would read. Unfortunately, he’s no fan of mine.

Surowiecki makes three points about our recent long post on nationalization:

1. If the government were to take over a large bank like Citigroup, it would not be able to sell it into the private sector quickly, but would most likely own it for several years, which constitutes nationalization.
2. Recent U.S. history, by which he means the S&L crisis, shows that the right strategy is “exercising regulatory forebearance, cutting interest rates sharply (which raises bank profit margins), and helping the banks deal with their bad assets” – not bank takeovers.
3. We were misleading in citing the IMF’s $4.1 trillion number instead of the lower $1.1 trillion number for U.S. financial institutions. “I assume they used the $4.1 trillion number because it’s much scarier, and offers a much gloomier picture of the state of the U.S. financial system. Unfortunately, it also offers a much more misleading picture of the system.”

Sigh. I guess it’s impossible to make everyone like me.

I’ll take the points in reverse order.

3. I plead partially guilty to this one (I wrote that section of the post). $4.1 trillion is the IMF’s aggregate estimate of all writedowns by all financial institutions globally. To be honest, I used it because that was the number I remembered, and I was writing fast and late at night. (I do this in my spare time, remember?) The point I really meant to make was that the IMF’s estimate was going up, because the problem had spread into all sorts of lending. You’ll note that I didn’t actually compare the $4.1 trillion to any other number – now that would have been misleading.

When I dealt more specifically with U.S. bank capital levels in another post, I did use the relevant IMF number: $275-500 billion in capital needs. $275 billion is a much bigger number than $75 billion, the bottom-line total of the famous Table 3 of the stress test results. Surowiecki attempts to deal with this in his post called “The Fed and the I.M.F. Agree,” where he reconciles these two numbers. His reconciliation is correct as far as it goes. However, the stress tests were supposed to be for a “more adverse” scenario, meaning more conservative than the expected scenario; the IMF numbers, by contrast, are their expected scenario (see mainly PDF pp. 27-28 and 32-34). Who’s right? Well, Calculated Risk has a chart showing clearly that unemployment is already running slightly worse than projected in the “more adverse” scenario (see the second chart in that post), indicating that the “more adverse” stress test scenario/IMF expected scenario (which are similar, as Surowiecki notes) should be thought of as an expectation, not a conservative forecast. So if you believe that the stress tests were supposed to buffer against the possibility of a worse-than-expected outcome, they aren’t doing it.

There is another major difference between the stress tests and the IMF that deals not with the forecasting question, but with the capital adequacy question. The stress tests calculate capital requirements as a percentage of risk-weighted assets, while the IMF uses total assets (confusingly defined as “total assets less intangible assets” (PDF p. 34, note 39)), which ordinarily will be significantly higher (risk weights are generally less than or equal to one). So 4% of one does not equal 4% of the other. (The IMF’s $275-500 billion range reflects 4% and 6% thresholds.) Citigroup, for example, had total assets, excluding intangibles, of $1,897 billion as of December 31 (the snapshot used by both the stress tests and the IMF), while according to the stress tests it had risk-weighted assets of $996 billion. Who is right I will leave to others to debate, but the stress tests are allowing banks to get by with much less capital than the IMF report implies they should.

2. I am confused by Surowiecki’s interpretation of recent U.S. history. The “regulatory forbearance” he mentions happened early in the 1980s when, among other things, thrifts were allowed to invest in a broader set of assets and were allowed to offer higher interest rates to depositors, deposit insurance ceilings were raised, and capital adequacy requirements were relaxed for thrifts facing insolvency. This may have helped banks survive but, according to a later FDIC report, it also postponed and amplified the later crisis: “With respect to commercial mortgage markets, this legislation set the stage for a rapid expansion of lending, an increase in competition between thrifts and banks, overbuilding, and the subsequent commercial real estate market collapse in many regions.” The early 1990s saw precisely the opposite; the FDIC Improvement Act of 1991, for example, limited regulatory discretion in dealing with struggling institutions.

Forbearance can work, but it is not a cure-all. The FDIC report later contrasts beneficial and harmful forbearance programs, but it criticizes large-scale forbearance programs in no uncertain terms:

Longer-term, wholesale forbearance as practiced by the FSLIC was a high-risk regulatory policy whose main chances of success were that the economic environment for thrifts would improve before their condition deteriorated beyond repair or that the new, riskier investment powers they had been granted would pay off. The latter type of forbearance, which the FSLIC adopted against the background of a depleted insurance fund, is widely judged to have increased the cost of thrift failures.

In addition, the policies of the 1980s played out in a very different economic environment. The assets in question were primarily loans, rather than the complex securities we are dealing with today. And the global economic climate was considerably better than today, which helped banks earn their way out of their problems.

In any case, the bottom line of the S&L crisis was over 1,600 FDIC interventions between 1980 and 1994. (We’ve had 33 so far this year.) The Resolution Trust Corporation was charged with managing the assets of banks and thrifts that had become insolvent, not “helping the banks deal with bad assets.” One can argue about the lessons of the 1980s – particularly about what they mean for large banks – but it’s by no means clear that the policies Surowiecki highlights forestalled the need to take over banks.

1. I think this is one of the more serious criticisms of government takeover of a large bank – namely, that it would take a long time before it could be returned to the private sector. But that doesn’t mean prolonged political control over lending decisions. The important thing about a takeover is that you can clean up the balance sheet, for example by transferring the toxic assets to a separate entity, without having to negotiate with anyone. Once you’ve done that and the bank is recapitalized (no one is saying this will be free), the government’s stock can be put into a trust with an independent board of trustees with long terms. This would insulate the bank reasonably well from political pressure, since the trustees’ legal obligation will be to run the bank for its own long-term benefit, and to privatize it when possible at the highest possible price for the taxpayer.

There is actually an example of this right now: AIG is majority-owned by the government, but the government’s stock is controlled by three trustees who are independent of Treasury and the Fed. This is why the Treasury is forced to negotiate with AIG like any other private party that is looking out for its own interests. On the other hand, Treasury had zero voting shares in Bank of America back in December – yet it felt able to threaten Ken Lewis with replacement if he didn’t close the acquisition of Merrill. My point is that you get government influence either way, regardless of the legal structure. With Bank of America, the source of the influence was the likelihood that B of A would need assistance from the government in the future. With AIG, the source of the influence was yelling and screaming through the media, plus the fact that AIG also needed additional assistance.

I’m not saying that the AIG situation is perfect, just that it is possible to insulate a government-owned entity from political meddling – as the government found out, to its frustration. The mistake with AIG, I believe, was giving it that independence without having fixed its fundamental problems – the ones that cause it to keep coming back for more money. Were the government to take over a large bank, it should clean up the balance sheet and recapitalize first – without negotiating – and then turn it over to an independent set of trustees.

This “big banks are different” issue is a serious one and worthy of consideration. But it doesn’t necessarily justify the application of a completely different set of principles than the ones that are routinely applied to smaller banks.

By James Kwak

Written by James Kwak

May 10, 2009 at 8:00 am"

Me:

The differences boil down to the following ( I don’t believe that we can seize them yet ):

1) How much common stock should the US govt own.
2) How much control should the US govt exert.
3) What to do with the toxic assets.

Geither’s approach is less, less, and sell them now. Since most people seem to be for more, more, and ?, I’m just going to talk about the main problems of the more, etc. Both approaches are messy govt/private hybrids, and share many of the same problems.

If we own more stock, we can run the company. We can appoint trustees, a board of directors, etc. The problems are:

1) We’re no longer creditors, and so could end up losing more money.
2) Foreign govts and investors will presume that the bank is now completely govt guaranteed, and will deem any other action as a default.
3) We will run up against problems of our govt owning foreign companies, which some countries limit or disallow.

Of course, all of these problems can occur under Geithner’s plan as well. I hate to say this, but the more I look at these choices, I realize that they’re more or less the same thing. It’s a matter of emphasis.

donthelibertariandemocrat

May 10, 2009 at 3:55 pm

Reply

emerge from a sober and considered piece of legislation

From The Bellows:

Strawman Constructed; Point Missed

• Posted by ryan on May 7th, 2009 filed in Finance
• 
  

Simon Johnson and James Kwak are smart guys, but this is just ridiculous:

Back in February, America was mired in a public debate over the word “nationalization” and what it meant for our banking system, with contributions by Nobel Laureates Paul Krugman and Joseph Stiglitz, former and current Fed officials Alan Greenspan, Alan Blinder, and Thomas Hoenig, and administration figures Timothy Geithner, Larry Summers, and even Barack (”Sweden had like five banks“) Obama, among others. On a substantive level, the debate was over whether large and arguably insolvent banks should be allowed to fail and go into government conservatorship, as happens routinely with small insolvent banks. Opponents of this view who wanted to keep the banks afloat in their current form, including the current administration, beat off this challenge by calling it nationalization (more precisely, by demonizing government control of banks). Perversely, however, what we got instead was increasing co-dependency between the government and the large banks, as well as increasing influence of the government over the banks, and vice-versa. And according to the market, the banks should be quite happy with this outcome.

Emphasis mine. Thomas Hoenig has been making a similar point, and it’s just absurd. For the most part, those arguing against nationalization weren’t doing so on the basis that it was nationalization, full stop. They were doing so because they felt, quite reasonably, that nationalization was likely to be extremely complicated, risky, costly, logistically or legally impossible, or some other collection of reasons. I don’t see what good it does these guys to fail to engage the legitimate arguments being made by those on the other side.

What’s also interesting is that in the piece excerpted above is a point they make that has also been argued by Thomas Hoenig and others (Steve Waldman, for instance) — that the big problem with not nationalizing is that it brings the banking sector through the crisis without any significant reforms taking place. Now, I understand this outlook. Our largest banks dominate the system, and breaking up Bank of America and Citigroup would strike a huge blow for the cause of too-big-to-fail is too-big-to-exist and against moral hazard. But that actually leaves most of the difficult work undone. Other, solvent banks would swoop in and take the exposed market share, and the fear of god would eventually be forgot.

What we actually want to see are some fundamental changes to the regulatory system that will constrain behavior and leverage at all firms, along with new oversight capabilities and responsibilities. Certainly, I think that explicit nationalization authority for large and complex institutions should be a part of such regulatory reform, but I think that that authority should, along with the rest of the changes, emerge from a sober and considered piece of legislation. I don’t want my reform to come in the heat of battle.

There is obviously a risk that when conditions improve the impetus for reform will be lost. But I think there’s a pretty substantial window in which reform can take place. It’s more important to do regulatory reform right than to do it quickly. I don’t see a vague concern that in the next year anger at and worries about the banking system will evaporate as a good reason to undertake a tricky and risky nationalization now.

Me:

1. Don the libertarian Democrat Says:
   May 7th, 2009 at 2:57 pm

   Is there some reason that the following plan is a priori crap or pr?

   http://www.treas.gov/press/releases/reports/032509%20legislation.pdf

   This Act may be cited as the “Resolution Authority for Systemically Significant Financial Companies Act of 2009.”

   As near as I can tell, this is what people are calling for.

an accounting trick that boosts tangible common equity without providing the banks any new cash

From The Baseline Scenario:

"Stress Tests and The Nationalization We Got

with 32 comments

The post was co-authored by Simon Johnson and James Kwak.

When the stress tests were first announced on February 10, bank stocks went into a slide (the S&P 500 Financial Sector Index fell from 133.13 on February 9 to 96.18 two weeks later), in part on fears that the stress tests would be a prelude to “nationalization” of the banks. This week, it has emerged that several large banks will require tens of billions of dollars of new capital, most notably Bank of America. They could obtain that capital by exchanging common shares for the preferred shares that Treasury now holds, an accounting trick that boosts tangible common equity without providing the banks any new cash. Such a conversion would greatly increase the government’s stake in certain banks, perhaps even above the 50% level, yet the markets seem relatively unconcerned this week, with the S&P 500 Financial Sector Index at 168.14 and rising.

What happened?

Back in February, America was mired in a public debate over the word “nationalization” and what it meant for our banking system, with contributions by Nobel Laureates Paul Krugman and Joseph Stiglitz, former and current Fed officials Alan Greenspan, Alan Blinder, and Thomas Hoenig, and administration figures Timothy Geithner, Larry Summers, and even Barack (”Sweden had like five banks“) Obama, among others. On a substantive level, the debate was over whether large and arguably insolvent banks should be allowed to fail and go into government conservatorship, as happens routinely with small insolvent banks. Opponents of this view who wanted to keep the banks afloat in their current form, including the current administration, beat off this challenge by calling it nationalization (more precisely, by demonizing government control of banks). Perversely, however, what we got instead was increasing co-dependency between the government and the large banks, as well as increasing influence of the government over the banks, and vice-versa. And according to the market, the banks should be quite happy with this outcome.

As a starting point for thinking about this issue, there are good reasons to be skeptical about nationalization, meaning indefinite state ownership of the banking system.

Government ownership of banks or any other company can go badly wrong. Anyone growing up in the United Kingdom during the 1960s and 1970s experienced first-hand the problems that occur when the government runs major industrial and infrastructure companies – particularly when they have powerful unions. Margaret Thatcher came to power in 1979 in part because the state-run parts of the U.K. economy were not doing well, and the wave of deregulation that she started (and the financial boom it triggered) was a reaction to that context.

Similarly, people working in Eastern Europe and the former Soviet Union in the 1990s got a close-up view of wasteful and unproductive state ownership at work. Privatization was not handled well in some situations, particularly when it led to the emergence of powerful oligarchs. But the state had been a dreadful owner in almost every respect – quality of service in stores, productivity in manufacturing companies, resource management in oil and gas companies, and massive pollution by energy and transportation systems.

All of these nationalized industries had something in common. When companies did badly, the losses were borne by the state. As a result, there was little incentive for company managers to improve their performance. Some years they would get lucky and even make a profit – but at those moments, most of the benefits would go to the insiders, in higher wages, bigger perks and the like.

Direct state ownership of industry has proved disappointing almost everywhere. It turns out to be an arrangement in which a small group of people – whoever has power at or around the state enterprise – get the upside, while society as a whole gets all the downside. There is a prominent role for government in the modern economy: setting rules, enforcing contracts, supporting longer-term research and development, and trying hard to continually upgrade education. But managing banks is not part of that package, primarily because politicians should be kept away from credit. Once the allocation of loans becomes politicized, you get all kinds of pathologies and, most likely, more inflation as the central bank loses the ability to cut back on credit.

However, this does not mean that the state has no role to play in the banking system.

In every developed country, the financial industry is closely monitored and regulated - on paper at least - because of its crucial role in the economy. That regulation has two major objectives that almost no one disagrees with. The first is protecting depositors. There is no simpler scam than accepting deposits, paying them out to bank insiders (or “investing” them in insiders’ money-losing projects), and then going bankrupt. Even in the absence of fraud, mismanagement can lead to the same result. If people do not trust banks to hold their money, they will hold onto cash instead - increasing the cost of everyday life, and starving the economy of credit.

The second, related objective is preventing bank failures, when they do occur, from causing major damage to other institutions. At any moment, a reasonably complex bank will own a diverse portfolio of assets, owe money in different forms to many different investors, and have open trading positions with many counterparties. Unwinding these relationships through a traditional bankruptcy process could cut off liquidity to other financial institutions and cause a ripple effect of successive failures.

In the U.S., the solution to this problem was defined in the Great Depression and has never been seriously questioned. Deposits are guaranteed by the Federal Deposit Insurance Corporation (FDIC), which receives insurance premiums from banks. In return, federal and state regulators have the right to monitor banks in order to minimize the losses that the FDIC could suffer. This is analogous to a workers’ compensation insurer auditing its customers’ workplaces to make sure they meet prescribed safety guidelines.

Under this system, if a bank is at risk of failure, the regulator can demand that it increase its capital. If it cannot find additional capital, or if it is insolvent, the FDIC will take over the bank. Most often the bank’s assets (loans, securities, buildings, customer base, deposit accounts, etc.) are transferred to another bank, insured deposits are protected, losses to uninsured deposits are minimized, and operations continue nearly seamlessly. By most accounts, this process runs very smoothly. And it happens regularly - 25 times in 2008, and 29 times through April this year.

Even when the FDIC has to operate a bank for some time before it can find an acquirer or wind it down, we never talk about the FDIC “nationalizing” a bank. An FDIC intervention is typically called a conservatorship or a receivership, depending on whether the bank will be liquidated or not. Although insured depositors are protected, uninsured creditors such as bondholders are not; how much they get depends on what the FDIC can sell the assets for. And shareholders are almost entirely wiped out.

Although this process includes a period of government control, there’s a good reason why no one calls it nationalization: the process preserves the incentives of free market capitalism. Shareholders, who took the most risk for the highest expected returns, lose their money. Bondholders, who took some risk for modest expected returns, lose some of their money. Managers lose their jobs. Healthier, better-run banks claim the assets, grow, and make more money.

The recent nationalization debate has this precisely backwards.

The problems of the banking sector are clear, although reasonable people may disagree about their magnitude. America’s biggest banks suffered massive financial losses due to bad loans and worse risk management, while reducing their capital to the legal minimum and then lobbying Washington to reduce that minimum. The crisis began with unexpected losses on complex securities, but has since spread to every type of financial asset, as the deepening recession undermines the ability of all types of borrowers to repay their loans. The IMF has boosted its estimate of aggregate losses by financial institutions to $4.1 trillion, only a fraction of which has been written down on balance sheets.

As a result, some of our largest banks are either insolvent - their assets are worth less than their liabilities - or are short on capital, and confidence in them has been preserved solely by the government’s willingness to provide capital injections, loans, and debt guarantees as necessary to keep them in operation.

In most countries, the course of action would be clear. The government would take over banks, remove “bad assets” from their balance sheets, inject fresh capital, and put them bank into the private sector. This is essentially what the FDIC does when it takes over a bank. There is some debate about whether the government currently has the power to do this for bank holding companies - Tim Geithner says no, Thomas Hoenig says yes - but if not, this is certainly something the Obama administration could press for.

In fact, this is usually the approach suggested by the U.S., both directly and through its influence at the IMF. For example, the U.S. repeatedly and publicly pressed Japan to do exactly this during the 1990s.

If the government were to implement this type of policy, the recent stress tests would be a reasonable first step. The stress tests would determine which banks were failing, and then they would be put into conservatorship. This is what investors were afraid of in February, because when a bank goes into conservatorship, its common shareholders are effectively wiped out - which, again, is what is supposed to happen in a free market system when companies mismanage themselves into the ground.

Since February, however, the government has clearly communicated that it has no such intentions, for example in Geithner’s insistence that “the vast majority of banks have more capital than they need to be considered well capitalized by their regulators.” Even as the capital shortfall numbers have leaked out over the past few days, the government has emphasized that no banks will actually be allowed to fail, or even be allowed to be put into a conservatorship; instead, they will first attempt to raise capital from the private sector, and failing that they can convert their TARP preferred stock into common stock. Even if this results in significant government ownership, there is no evidence that shareholders or creditors will be forced to take losses. As rfreud said in a comment here, “The stress tests results are confidence-building in that they signal the low likelihood of nationalization or seizure. Reform at the moment seems a distant prospect.”

The strategy, in short, is to continue to prop up our existing large banks in place (no such consideration has been granted to small banks) through a lengthening list of bailout measures. Why?

One reason is that taking over banks has somehow been redefined as “nationalization,” with the images it conjures up of forced confiscation of property. Yet there are no guns involved here. Ordinarily, when an investor puts a large amount of new capital into a bank, it gets some measure of control in return. Yet Treasury has bent over backward to minimize its voting shares, beginning with the initial round of recapitalizations and continuing through the latest Citigroup bailout in February.

Perhaps after fighting off charges of “socialism” from the McCain campaign, the Obama administration is wary of any steps that could be described as nationalization. And so instead of insisting on its well-understood duty to shut down failing banks for the public good, it has tied its hands by taking this option off the table.

But what are we getting instead? Increasing government support for the financial system, and increasing government influence over the flow of credit - or nationalization by another name.

Instead of the government taking over and sorting out banks transparently, the big banks are receiving massive government support:

• $700 billion in Troubled Asset Relief Program (TARP) money is flowing to no fewer than eleven separate programs, as documented by the TARP Special Inspector General, including preferred share purchases, asset guarantees, purchases of asset-backed securities, and subsidized purchases of toxic assets.
• The Federal Reserve has committed trillions of dollars to lend against and purchase securities of all kinds from the banking sector.
• The FDIC is guaranteeing hundreds of billions of dollars of newly issued bank debt, and is set to guarantee loans to private investors to buy loans from banks under the Public-Private Investment Program (PPIP).

In exchange, the government is deciding how credit is allocated in the economy, albeit on the wholesale rather than the retail level. In addition to direct loans to automakers, programs such as the Term Asset-Backed Securities Loan Facility are effectively distributing money to support specific types of lending (credit cards, auto loans, etc.), and the Fed is purchasing over $1 trillion of mortgage-backed securities in order to push mortgage rates down to historically low levels.

In addition, there is anecdotal evidence that the government, while renouncing official control of any banks, has intervened in management decisions for some of the weaker players. According to Bank of America CEO Ken Lewis, he was threatened with removal if he failed to complete the acquisition of Merrill Lynch. And unnamed sources recently reported that federal regulators are considering removing Vikram Pandit from Citigroup.

In short, relationships between the government and the large banks have never been closer, with large amounts of money flowing in one direction, and complete co-dependency going in both directions. Those relationships are not entirely friendly, which is not surprising. In any crisis when public resources are called on to bail out the private sector, not all of the oligarchs will survive; Bear Stearns and Lehman have already vanished. But the winners - which should include Jamie Dimon of JPMorgan Chase and Lloyd Blankfein of Goldman - will emerge even more powerful and influential than before.

In rejecting “nationalization” (regulatory takeover and conservatorship), the government has not ensured a private, properly functioning banking system. Instead, it has muddled into a broken-down, undercapitalized system that is nominally in private hands, but is able to tap the state for apparently limitless support. And to date, that support has flowed on one-sided terms, with the taxpayer accepting downside risk but limited upside potential. No wonder bank shareholders are comfortable with this outcome.

As a result, the banks have largely preserved their existing management teams and bonus plans: on Wall Street, first-quarter accruals for bonuses returned to the levels of the glory years of 2006 and 2007. Creditors and counterparties have been kept whole, most notably through the AIG bailout. And shareholders have seen their share prices supported by the promise of sustained government support. The incentives we have ended up with are more similar to those of a nationalized system than those of a free market. Instead of state-owned coal mines run for the benefit of miners (the U.K. in the 1970s) or state-owned oil and gas companies run for the benefit of bureaucrats (the Soviet Union in the 1980s), we have state-backed banks in the U.S. run for the benefit of bankers and their creditors.

The smart economists in the Obama administration must know what is going on. But having insisted that large bank takeovers are tantamount to nationalization and therefore off the table, the administration is betting that the financial system will repair itself - or “earn their way out,” as StatsGuy put it.

This is possible. With the competition in both investment banking (Bear Stearns, Lehman) and mortgage lending (most of the specialist mortgage lenders) gone, the survivors all enjoy larger market shares and higher prices, contributing to their somewhat healthy profits in the first quarter. Even the large banks that receive the lowest grades in the stress tests will be given relatively cheap capital by the government; Treasury will use its resulting stakes to apply behind-the-scenes pressure to the banks (more government influence), but without taking decisive steps to clean up bank balance sheets. Instead, it will hope that the PPIP will do the trick, using cheap government financing.

But success is by no means certain. And we cannot know for how long the government will have to continue propping up weaker banks, at growing taxpayer cost, while they absorb funds that could otherwise help the economic recovery.

In the end, when a financial system is dominated by banks that are too big to fail - and they do fail - the only options are an FDIC-style takeover or the kind of public-private co-dependency that we see today. As far as the current crisis is concerned, the die is cast and the big banks won.

For the future, however, the question is how to avoid a situation where banks cannot be made to fail gracefully without creating systemic risk. As a starting point, we believe that banks that are too big to fail are too big to exist. Only then will we be able to maintain the incentives necessary to manage risk, punish failure, and reward success.

Written by James Kwak

May 7, 2009 at 6:00 am"

Me:

Sheila Bair gave a speech yesterday in which she made some excellent points because, well, quite frankly, I agree with them. Here’s one:

“In the case of a bank holding company, whether systemically significant or not, the FDIC has the authority to take control of only the failing bank subsidiary, thereby protecting the insured depositors. However, in some cases, many of the essential services for the bank’s operations lie in other portions of the holding company and are left outside of the FDIC’s control, making it difficult to operate and resolve the bank. When the bank fails, the holding company and its subsidiaries typically find themselves too operationally and financially unbalanced to continue to fund ongoing commitments. In such a situation, where the holding company structure includes many bank and non-bank subsidiaries, taking control of just the bank is not a practical solution.”

This turned out to be true. I credit it because, for one thing, they’re admitting a huge gap in seizing banks: Namely, they had no means of seizing large banks. Since that’s the FDIC’s job, they’re essentially admitting incompetence. As well, there are many good arguments as to how complicated and messy this would be.

However, the Govt has in fact submitted a plan to do this:

http://www.treas.gov/press/releases/reports/032509%20legislation.pdf

I’m not sure what more you’re asking for. As for the current mess:

“Perversely, however, what we got instead was increasing co-dependency between the government and the large banks, as well as increasing influence of the government over the banks, and vice-versa. And according to the market, the banks should be quite happy with this outcome.”

We’ve been left with Hybrid Plans, all of which lead to what you have described. We began discussing this outcome in September, which is why a Swedish Plan made sense.

The real question seems to be about what kind of reform of the banking sector that we want. I want Narrow/Limited Banks, which is going nowhere.

Here:

“In short, relationships between the government and the large banks have never been closer, with large amounts of money flowing in one direction, and complete co-dependency going in both directions. Those relationships are not entirely friendly, which is not surprising. In any crisis when public resources are called on to bail out the private sector, not all of the oligarchs will survive; Bear Stearns and Lehman have already vanished. But the winners - which should include Jamie Dimon of JPMorgan Chase and Lloyd Blankfein of Goldman - will emerge even more powerful and influential than before.”

I don’t agree. The fear of nationalization and the terms of TARP have caused banks to try and avoid govt largess now. That’s what I wanted. Didn’t you?

Here:

“The stress tests results are confidence-building in that they signal the low likelihood of nationalization or seizure. Reform at the moment seems a distant prospect.”

It’s the opposite. CAP, read it, was intended to guarantee the solvency of the banks by the govt. That’s what I’ve wanted since Sept. That’s the Swedish Plan. As well, that’s how you stop debt-deflation.

“But having insisted that large bank takeovers are tantamount to nationalization and therefore off the table, the administration is betting that the financial system will repair itself - or “earn their way out,” as StatsGuy put it.”

It’s not off the table, read the legislation, and it wouldn’t be better if they earned their way out. wouldn’t it? It doesn’t mean we can’t push for reform.

“Such a conversion would greatly increase the government’s stake in certain banks, perhaps even above the 50% level, yet the markets seem relatively unconcerned this week, with the S&P 500 Financial Sector Index at 168.14 and rising.”

Last disagreement. Stocks are up for many reasons, but one important one is QE, and the diverging tracks of shorter term and longer term bonds. There’s a good post this morning about this on Alphaville. I admit my view is a minority view explanation of this rise in stock prices.

We can still change the banking system. Sadly, few are willing to change it as much as I’d like.

Once Again, Let's Call It The Plan That Worked

From Steve Lohr in the NY Times:

"Elsewhere, government bank-investment programs are routinely called nationalization programs. But that is not likely in America, where nationalization is a word to avoid, given the aversion to anything that hints of socialism.

“Putting this plan on the table makes a lot of sense, but you can’t call it nationalization here,” said Simon Johnson, an economist at the Sloan School of Management at the Massachusetts Institute of Technology. “In France, it is fine, but not in the United States.”

Of course not, just like we can't call guarantees, well, guarantees.

“The goal is to get the engine of capitalism going as productively as possible,” said Nancy Koehn, a historian at the Harvard Business School. “Ideology is a luxury good in times of crisis.”

This should make me and Bob McTeer feel better.

"So when Sweden, for example, faced a financial meltdown in the early 1990s, the nationalization of much of the banking industry was welcomed. The Swedish government quickly bought stakes in banks, and sold most of them off later — a model of swift, forceful intervention in a credit crisis, financial experts say."

Why listen to experts, or idiots like me? The TARP plan is still too complicated.