Moon of Alabama Brecht quote
January 30, 2009

Conditions For Nationalizing Banks

There are lots of calls to nationalize the banks and a while ago I supported to do such along the  'Swedish Model'. But I am getting less fond of this by each day. With nationalization the taxpayer takes over the risk of losses of these entities and may get a possible, but unlikely, upside.

The Swedes could do so because their authorities knew that the losses were restricted to the amounts of normal loans made to consumers and companies during a bubble. Sum all loans up and you have the maximum risk. The upside was in the continuity of normal economic activities and the downside was calculable as fraction of the annual GDP.

But since the early 1990s the banking system 'innovated' quite a bit and the possible losses are now not restricted to normal consumer and commercial loans on overvalued assets, but result from very different financial beasts.

From the Comptroller of the Currency - Administrator of National Banks this third quarter 2008 report (pdf):

• Net current credit exposure [of U.S. commercial banks] increased 7% from the second quarter to $435 billion, a level 73% more than the $252 billion exposure of a year ago.
• The notional value of derivatives held by U.S. commercial banks decreased $6.3 trillion in the third quarter, or 3%, to $175.8 trillion.
• Derivative contracts remain concentrated in interest rate products, which comprise 78% of total derivative notional values. The notional value of credit derivative contracts increased by 4% during the quarter to $16.1 trillion. Credit default swaps comprise 99% of credit derivatives.

Okay - derivatives in "interest rate products" are the mass behind the big number and may still be seen as somewhat reasonably. But how sure are we about future interest rates and the value of "interest rate products"  when the U.S. will need to borrow $2.5 trillion this year and the rest of the world will need about the same amount? Will interest rates be negative or high in the positives for those borrowing and those who pony up the money for the governments to spend on rescuing banks?

(I for one am unlikely to buy bonds for the purpose of losing money.)

So the $176 trillions are indeed a frightening number. But the report also says:

The notional amount of a derivative contract is a reference amount from which contractual payments will be derived, but it is generally not an amount at risk.

Gosh - thanks, that's good. But then, how big is the risk?

[B]ecause the credit exposure is a function of movements in market rates, banks do not know, and can only estimate, how much the value of the derivative contract might be at various points of time in the future.

Now there you see my problem. The Swedes could estimate reasonably the maximum of  the possible losses for the taxpayers when their government sized the banks.

Within today's international banking system it is impossible to even evaluate how big maximum losses for this or that bank could be. (For a wonkish example on how such derivative trades can blow up to even huger losses unexpectedly click here.) The only number we have is the hopefully top number, the notional value, and prudence demands to use that number if nothing else reliable is available.

Is $175.8 trillion is the maximum number here? Certainly a lot could be canceled out if you find and own the buyer and seller of 'insurance' and 'neutralize' their bets. Maybe $80 trillion less then. Some of these derivative contracts would turn out to be profitable contracts in the end? Subtract another $40 trillion of risk. Some contracts might be fraudulent and can be canceled in court? Subtract those too.

You will still end up with a huge amount of taxpayer money at risk that is a multiple of the annual U.S. GDP of some $14 trillion. Should the taxpayers want to take the risk responsibility for an amount of that size? For what?

Willem Buiter presents an alternative.

Found new "good banks," capitalize them with taxpayer money and let them take over the normal task of lending to consumers and commerce by granting favorable conditions. Regulate them strictly and, in a few years, privatize them. Meanwhile stop all state support for the existing banks. If they go bankrupt let deposit insurance click in for small savers, but let the rest of the mess fall in a normal court supervised bankruptcy.

I like that idea, but I fear the social/economic consequences of the short, disorderly and brutal phase that would occur when the big banks fail and believe it will be politically impossible to implement this.

My solution is a different one. I have called for all credit default swaps to be declared null and void four month ago. It may be too late for that by now to save the financial system that keeps the real economy going.

If one wants to save the real economy now, the banks will have to be nationalized in a kind of 'Swedish model'. But the risk to do so is much too high as long as those hundreds of trillions, mostly derivative swaps, stay in the books of these entities.

So my conditions for nationalizing banks is to clear them from any of these insane derivatives that are impossible, according to the Comptroller of the Currency, to be valued. Declare those obligations null and void and then nationalize.

Only then nationalize.

Posted by b on January 30, 2009 at 03:22 PM | Permalink

Comments

Hussman thinks that while banks' equity is insufficient to cushion customers and counterparties, equity plus debt is adequate in almost every case. So his proposed solution is to recapitalize banks not with equity but with senior debt. Wipe out the stockholders, then scalp the bondholders, government last of all, with no adverse effects on systemic stabity - customers and counterparties' liabilities are seamlessly bought and sold. Banks still fail, but not many. Government gets most of its money back. It works if you believe that derivative liabilities net out to a manageable amount.

Posted by: ...---... | Jan 30, 2009 4:30:11 PM | 1

Turn them into credit unions.

Posted by: mikefromtexas | Jan 30, 2009 5:32:11 PM | 2

Obama Lets The Foxes In The Hen House


Geithner Enlists Goldman Sachs Lobbyist as Top Aide January 30th, 2009

In other news, William Dudley, a former Goldman Sachs Chief Economist will replace Geithner at the New York Fed.

Via: Politico:

Newly installed Treasury Secretary Timothy Geithner issued new rules Tuesday restricting contacts with lobbyists – and then hired one to be his top aide.

Mark Patterson, a former advocate for Goldman Sachs, will serve as chief of staff to Geithner as the Treasury Department revamps the Wall Street bailout program that sent an infusion of cash to his former employer.

Patterson’s appointment marks the second time in President Barack Obama’s first week in office that the administration has had to explain how it’s complying with its own ethics rules as it hires a bevy of Washington insiders for administration jobs.

Last week, the White House announced the president had waived the ethics rules to clear the way for the nomination of William Lynn, a former Raytheon lobbyist, to be deputy defense secretary.

“This is exactly the kind of thing that makes the American public suspicious of politicians. You say one thing and do another,” said Melanie Sloan, founder of Citizens for Responsibility and Ethics in Washington.


Posted by: Uncle $cam | Jan 30, 2009 6:45:22 PM | 3

Doesn't limited liability apply to governments too? Is there a reason why you can't just nationalize the banks, mark down their shitpile assets cancel out their debts to each other and then decide which ones to re capitalize and which ones to send to the bankruptcy court? Or am I missing something?

Posted by: generic | Jan 30, 2009 7:50:00 PM | 4

me, i'm in favour of public summary executions in financial centres all over the world with that gonnoreah-ridden-golem wolf blitzer & his pal john king doing the running commentaries 24/24 7/7 until they die of physical exhaustion

that'd be the beginning of justice

or alternatively let loose a battallion of taliban on horseback in financial centres - hooting & a' hollering & - then we can observe what pure maths looks like in real life

Posted by: remembereringgiap | Jan 30, 2009 8:12:16 PM | 5

me, i'm in favour of public summary executions in financial centres all over the world with that gonnoreah-ridden-golem wolf blitzer & his pal john king doing the running commentaries 24/24 7/7 until they die of physical exhaustion

that'd be the beginning of justice

or alternatively let loose a battallion of taliban on horseback in financial centres - hooting & a' hollering & - then we can observe what pure maths looks like in real life

Posted by: remembereringgiap | Jan 30, 2009 8:12:41 PM | 6

``and, in a few years, privatize them.''

Why? Nationalize the damn' banks and keep them that way. Odds are, anyway, that they would be sold for a fraction of the public funds put into them. This ``privatize'' craze is just neo-liberal bullshit.

Posted by: Feeder of Felines | Jan 30, 2009 9:19:14 PM | 7

``and, in a few years, privatize them.''

Why? Nationalize the damn' banks and keep them that way. Odds are, anyway, that they would be sold for a fraction of the public funds put into them. This ``privatize'' craze is just neo-liberal bullshit.

Posted by: Feeder of Felines | Jan 30, 2009 9:21:48 PM | 8

Dubya Bush once appeared before a congress of ultra wealthy supporters and addressed them as the Haves and the Have Mores. He called them "my base."

It's a lopsided land we live in. Fully 33% of the cash and assets of this nation belong to 1% of the population, to a single percentile of we, the people. This 1% represents a bit less than 3 million Americans, each of whom enjoys an annual income of about $264 million, and pays an average 17% in taxes on it. This 1% commands more treasure annually than the GDP of Canada.

Expand this headcount to the richest 10%, which is about 30 million Americans, and this one-tenth of we, the people owns roughly 85% of property and cash and valuables of all kinds in this nation. There's not much left to speak of after that.

The inequality of wealth distribution goes on like that, until you get to the bottom 50% of our population. This bottom half of the population owns roughly 10% of the property and assets of this nation. The average balance sheet of these 150 million people is negative. No savings, no property, just debts. The average time they can go without a regular paycheck is some fraction of a week.

If proof of property were a poll test, this group would never vote.

Now, whom do you suppose the government bailout is going to be directed to? The people who own, operate, and manage this nation, or the common folk who don't even understand why their job went away or why they can't seem to get ahead?

The bailouts -- past, current and future -- are to put back the wealth that the misguided and fraudulent policies of the Bush Administration destroyed. It belonged to the wealthiest Americans, and they want it put back.

Sure, much of it was "hallucinated wealth" as we all well know now, but the Owners of America want it put back even if it bankrupts the working people for seven generations to come.

The reason the big banks are handing out huge bonuses is to keep the rank and file bankers, the people who know how to fleece the public, in place and fleecing right on schedule. These investment bankers, brokers, fund managers and traders know that their huge bonuses and earnings are just pennies on the dollar compared to what the truly wealthy make off the efforts of these Wall Street grunts. If these bankers don't get these big bonuses, why would they put up with the hard work, the 18 hour days, the burnout?

The monies lost came from the wealthiest of Americans. They want it all put back, and then you and I will get to lick the forks left over after the feast.

It is literally their property, this country. It is their country. You just get to live here.

Posted by: Antifa | Jan 31, 2009 12:32:04 AM | 9

I am at the same side as Willem Buiter: We need good banks, and we need to scuttle the bad banks.

Of course the transition would be brutal - cause even legacy banks which did not take part in the big gamble would be hurt through the flight of customers. And because every new institution would need some time to be properly set up etc.

But this is the only way to get the important message across: Crime does not pay, and stupdity does not either. All the involved parties, from the investors to the managment to the staff will feel the hurt if the legacy bank goes belly up. Maybe some trial as rememberinggiap suggests as well, as a sugarcoating.

And it is the only way to get the economy going again in a short timeframe: For a long time to come, any dollar, euro, yen put into the legacy banks is going to be hoarded to cover the gambling debts, not to invest into the real economy or borrowed to consumers. The good banks would not have the liability of the gambling debts, and thus could lend their money.

Posted by: No So Ana | Jan 31, 2009 2:38:04 AM | 10

Antifa provides the lens through which all the bailout talk should be seen through (& I'm passing it on). And by the way, that bottom 50% controlling 10% of assets should be around 75% controlling 5% by June. Happy camping (literally) serfs.

Posted by: anna missed | Jan 31, 2009 3:48:25 AM | 11

Antifa provides the lens through which all the bailout talk should be seen through (& I'm passing it on). And by the way, that bottom 50% controlling 10% of assets should be around 75% controlling 5% by June. Happy camping (literally) serfs.

Posted by: anna missed | Jan 31, 2009 3:48:46 AM | 12

just found out Obama plans to continue this practice.

$14 million in federal faith-based money goes to Pat Robertson Televangelist's claim that Ariel Sharon's stroke was an act of God may have cost him the friendship of some Israelis, but it hasn't prevented his charity, Operation Blessing, from garnering faith-based grants from the U.S. government
...
"More than 380,000 CBN 'partners' who donate a minimum of $20 per month ... are the bedrock of CBN, which attracted more than $132 million in donations in 2004," the Times-Dispatch reported.

Finding funds and thriving through faith-based grants

Despite the near universal condemnations of Robertson's remarks, back in Virginia Beach, Virginia -- where his ventures have their headquarters -- it was business as usual. Especially for Operation Blessing, the charitable entity whose mission is to "demonstrate God's love by alleviating human need and suffering in the United States and around the world."

In January 2001, when President Bush announced his Faith-Based Initiative by issuing an executive order establishing the White House Office of Faith-Based and Community Organizations, and one that instructed the Departments of Health and Human Services, Labor, Justice, Education and Housing and Urban Development to set up Centers for Faith-Based and Community Initiatives within their agencies, the Rev. Robertson -- along with his buddy, the Rev. Jerry Falwell -- roundly criticized the project.
...
Robertson changed his tune the following year, when in October 2002, Tommy Thompson, then the head of the Department of Health and Human Services awarded a $500,000 Compassion Capital Fund grant to Robertson's Operation Blessing International.

Five years later, "the federal government has become a major source of money for Operation Blessing ... In two years, the group's annual revenue from government grants has ballooned from $108,000 to $14.4 million," the Virginian-Pilot's Bill Sizemore recently reported.

Posted by: Uncle $cam | Jan 31, 2009 4:21:44 AM | 13

Speaking of the swedish model, there is one thing I think is crucial to understanding its relative success:

Sveriges Riksbank/Riksbanken - The Swedish Experience

Banks applying for support had their assets valued by the Bank Support Authority, using uniform criteria. The banks were then divided into categories, depending on whether they were judged to have only temporary problems as opposed to no prospect of becoming viable.

Uniform criteria, but what criteria?

Sveriges Riksbank/Riksbanken - The Swedish Experience

The Swedish Bank Support Authority had to choose between two alternative strategies. The first method involves deferring the reporting of losses for as long as is legally possible and using the bank's current income for a gradual write-down of the loss making assets.
(...)
The Swedish authorities opted for the second method: disclose expected loan losses and assign realistic values to real estate and other assets. This method was consistent with other basic principles for the bank support, such as the need to restore confidence. Looking back, it can be said that in general the level of valuation was realistic.

So transparency and valuing shitpiles to their realistic value. I think that was important. Credit is fundamentally about confidence, you do not build confidence by swapping your friends shitpiles for piles of dollars.

Btw, iirc the norwegians evaluated their handling of a banking crisis with swedish and finnish experiences and concluded that they had done one thing better: Their government did not sell the assets as soon as possible but kept it for a long time.

Posted by: a swedish kind of death | Jan 31, 2009 6:31:43 PM | 14

The idea of "good bank" comes from here and here . You can spread the links. Prof. W. Buiter is definetly more authoritative ans is working out some details. Soros is also urging U.S. to go in this direction.

Posted by: Massimo GIANNINI - M.G. in Progress | Feb 1, 2009 2:24:51 AM | 15

Richest Americans’ Income Doubled as Tax Rate Slashed

Jan. 30 (Bloomberg) -- The average tax rate paid by the richest 400 Americans fell by a third to 17.2 percent through the first six years of the Bush administration and their average income doubled to $263.3 million, new IRS data show.

The 17.2 percent tax rate in 2006 was the lowest since the IRS began tracking the 400 largest taxpayers in 1992, although the richest 400 Americans paid more tax on an inflation-adjusted basis than any year since 2000.

The drop from 2001’s tax rate of 22.9 percent was due largely to ex-President George W. Bush’s push to cut tax rates on most capital gains to 15 percent in 2003.

Capital gains made up 63 percent of the richest 400 Americans’ adjusted gross income in 2006, or a combined $66.1 billion, according to the data. In all, the 400 wealthiest Americans reported a combined $105.3 billion of adjusted gross income in 2006, the most recent year for which the IRS has data.

Raise that to 50% and the government balance sheets will look much better.

Posted by: b | Feb 1, 2009 3:07:55 AM | 16

I'm with Willem Buiter on this one. He's been very good on this mess since the beginning, and was the only one at the Fed's Jackson Hole conference to stand up and tell them they were useless. For which he will no doubt not be invited back.

My 4 step plan:
1) make sure there is still food and shelter for everyone at a reasonable price,
2) make sure there are jobs available for anyone that can work,
3) make sure there are loans for those that can service them, and a safe place for savers to put their savings (this is where Buiter is now, call it "good industry, bad industry")
4) and only THEN look at the private financial industry and their fictional balance sheets.

Funnily enough, if you have 1, 2 and 3 right the problems of the private industry players would be less severe and many more of them would survive.

Posted by: peedee | Feb 1, 2009 6:19:10 PM | 17

Antifa, spot on.

The show, all of it, seems to be run more openly so now by Big Banks, that is Wall St, the Fed, Gvmt, Corps, Military, and the PTB whoever they are when they are at home.

Crony capitalism: how does it evolve or morph? How does a system that is non-transparent, riddled with fraud, embezzlement, and corruption, much of it officially accepted, change? How do structures that are run from the top react to shocks, how do they tip over, bite the dust?

A few partial reforms have been implemented with success, e.g. corruption (Chile), banking system (Sweden), or forced thru default (Argentina), etc. In all cases, though, the change was built on a base that stayed stable, involved one aspect only, did not address a wider world system, and most vitally, was planned for ‘rationally’, more or less..

As for the tipping point case, we have the FSU. I don’t have a clear picture of that, because the power structure behind the scenes was impenetrable. I suspect that the jack boots and guns, military and security apparatus, played a role not made public. I also guess financial high jinks (such as artificially lowering the price of oil and currency moves) were part of the picture. I once heard Gorby speak on this topic, and he basically congratulated himself. But let me not ramble, the point is the FSU had a powerful enemies, which the US does not.

To the question(s) above:

More of the same, with some cosmetic *or* wide-ranging regime-type changes. An authoritarian state and modern feudalism, with a command economy and a large class of ‘serfs’. Note that the US has been edging closer to such a state of affairs since Reagan. Obama’s Change .. Yes we can sounds sinister in this context. Change, to what? Not to a dream view of the past; and the tacking on of new frills or reversals -more work fare, better health care, or De-Bushification- hardly count.

Chaos. This seems to be a popular pov. The Wild West in today’s Montana or downtown LA. Buy ammo now, stock up on food! It seems unrealistic to me, though some riots and mayhem are always possible. The US body politic has been gutted, there are no political responses at all, so the State Sec. Forces win as guns in the hands of lonely individuals or small gps are ineffectual and even represent a bonus, an oppo for more crack down, state control, as well as letting the ‘gangs’ kill each other, etc.

Reform to Revolution. They are the same thing, one quiet and consensual, the other violent to some degree. I think we can all agree it would have to be very broad, very comprehensive, deep. Fiddling about with bail-outs and squatters rights hoping for a new bubble doesn’t fall into this category. Obama has put paid to that option, even if he was elected on the hope of it, however narrow and misguided, the hope I mean.

Renewal and system change. Usually forced by outside events, and unpredictable...

Note, the different cats. overlap somewhat and are not mutually exclusive, they can occur at different times.

Posted by: Tangerine | Feb 3, 2009 11:06:39 AM | 18

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