Kevin Drum Smackdown Watch

Ten weeks for some sort of audit. Another many weeks for some form of shareholder vote.

Sure.

Also, shareholder vote? Most shareholders *don't* vote -- they mainly sell.

How many bailouts do we give the shareholders? They've had several years of their voting through their purchases of the stock (perhaps relying on Daddy to bail them out.)

Kevin, there's already a bank nationalization/recapitalization mechanism in this country that works reasonably well, which is an FDIC takeover. The FDIC prefers to immediately sell banks that it takes over, but it doesn't always do that. Sometimes it holds them for a while -- say with IndyMac. You don't have a problem with the FDIC, do you? So why do you have a problem with bank nationalization in general?

The problem is that the FDIC doesn't remotely have sufficient resources to do that with Citigroup, BofA, etc. So in some sense, all the serial bail-out nonsense that we're seeing is because the FDIC can't deal the "right" way with institutions the size of Citi.

So one solution would be to allow the FDIC to draw on the full faith and credit (for what it's worth) of the US govt and deal with Citi and BofA, etc, as if they were just large versions of IndyMac, which, to some extent, they are.

What problem do you have with that, conceptually?

Kevin Drum: Short version: I prefer private ownership of just about everything unless there's a really compelling reason for state ownership.

So do I. Socialism (I'm not bothering to mince words) has many problems, but sometimes the alternatives are worse.

The last thing I'd want is long term gov't ownership of banks. I don't even think Freddie and Fannie should have been kept around for so long after the Great Depression.

But to coin a phrase, desperate times call for desperate measures. In WW2 we basically had a command economy, complete with rationing, wage and price controls and gov't determined allocation of resources for the war effort. Terrible idea for the long term, but it worked great for the duration.

Federal regulators presumably have access to bank balance sheets, but they haven't shared their findings with me, which means I don't know how much trouble Citi and BofA are in.

That's the crux of the problem. Paulson and Bernanke have done everything possible to hide who's in trouble and how bad it is. That's the opposite of what should be done. If nothing else, since the US gov't is a major investor these days then I, as a taxpayer, have every right to know the dirty details of what they're investing in.

This also cuts to the heart of Hempton's "due process" idea. The last thing I want is for decisions about which banks to nationalize to be political. I suspect that so far it has been, with Citi having the politician's on their side.

P.S. Kudos to my aunt, who worked for Citi for 40+ years before retiring in 1999. She saw the train wreck coming even back then. The repeal of Glass-Steagall, merger/acquisition of Travelers, etc. changed the culture from solid, conservative bank to the gambling house atmosphere that belongs elsewhere on Wall St.

This is off the point, but has anybody tracked Credit Unions? If an important end of the financial system is providing mortgages and consumer credit and if the banks are not doing it, then someone ought to check and see how alternative institutions are doing.

Kevin, I generally think you are a fine writer, but you need to stay out of economics. Stick to politics.

Going forward, the obvious way to deal with this sort of situation ... is to prohibit banks (or essentially any entity that is either too big too fail or essential to the economy) from being able to take stakes in type (c) contingent financial instruments. ... these sorts of limits on what core financial institutions can do fit into that mold.

Exactly. And the case for nationalizing or not depends SOLELY on whether one believes that just bailing out the banks and "regulating" them as we have in recent years will prevent this type of fiasco from happening AGAIN.

I, for one, don't believe that there is the political will or muscle to do this. Put another way, as a post above suggests, "The story ...[of] how sad and unfair it is that CitiBank can't make money the same way Goldman Sachs can" will prevail once again.

I will repeat -- for the last time -- that the case for nationalizing banks or not is NOT the same as for other industries, as Drum implies. Creating and operating a bank is a privilege, not a right -- even in a capitalist economic system. When you are allowed to create and run a bank, you are granted the privilege of creating money through lending. (An investment bank or hedge fund is NOT granted this privilege.) In return for that privilege, you should be required, at a minimum, to make sound loans and investments. You are responsible not only to shareholders; you are also responsible to depositors.

The questions of how best to get out of the short-term (hopefully) credit crisis and whether to nationalize banks are SEPARATE policy decisions. Drum and others are conflating the two.

I prefer private ownership of just about everything unless there's a really compelling reason for state ownership.

If you want a good reason for nationalizing the banks, consider the fact that the American banking problem appears to consist of extremely large money-center banks and smaller ones in which real estate (mostly construction) loans are too large a portion of their portfolio for their capital structure to support when they go bad as a group. The real issue is the very large banks.

By definition a bank that is too big to fail is one whose failure would damage the entire banking system. I would suggest that any such really large banks be put on notice that if they fail, the government would nationalize them and wiped out the shareholders and replace the top management with no golden parachutes. The law should also contain a provision allowing shareholders who were wipe out to sue top management and board members personally for their loss if it can be shown that the bank used newer unproven-over-time financial instruments or took inordinate risks. The auditors should perform audits of the risk management procedures of such banks and publish them as separate financial statements.

The Federal Reserve (or FDIC) should identify such banks and keep a list that is regularly published. One criteria for getting the list would be to have a net worth that is a sizable percentage of the funds available to FDIC to provide a rescue. The FDIC would need to (frequently) model or game the possibility of various combination of banks failing, and when too few banks could use up the entire fund, then more banks need to be on the list - or the fund needs to be larger.

The effect of would be to cause such too-big-to-fail banks to operate in ways that drastically minimize risk to the overall system. For banks unwilling to accept such limitations they would need to break themselves up into smaller, independent banks that don't run such a risk to the overall financial system. Smaller banks could be the ones that conducted the riskier lending, within the limitations of the regulators of course. Citi Group is already in the process of getting smaller anyway. This would essentially be a form of Anti-trust.

This would provide a motivation to others to consider the price of their failure to the overall system rather than just to the stockholders and highly paid executives.

It would also direct the Federal Reserve (and/or FDIC) to a greater effort to regulate risk management procedures and give them the list of too-big-to-fail banks as a tool to manage overall system-wide risk factors that grow from the operations of large banks. Such too-big-to-fail banks should also be required to be a lot more transparent aoub their operations and risks. Shareholders that consider taht unfair can always sell their shares and buy shares in smaller, riskier banks. The key is that a bank that is too-big-to-fail must, of necessity, operate as a regulated utility operation in the financial system and should be treated that way.

This is just a thought, of course. Let's not forget that the real purpose of privatizing Social Security was to take the massive retirement funds collected by law and hand them over to the money managers so that they could use those massive sums to personally profit. That has ALWAYS been the reason why conservatives hated Social Security. They were cut out and prevented from profiting by managing the money.

The problem with the smaller banks can be dealt with by better regulation. Don't let any bank hold too great a percentage of their lending portfolio in real estate construction loans, or those to any other single industry. Those banks can deal with that by selling participations in their construction loans to other banks outside the same geographic area. The problem here is that the regulators have not been doing their job since at least as early as the Reagan administration.

The threat of nationalization would not be taken seriously until it had happened, though.

Econobuzz, when you stated "You are responsible not only to shareholders; you are also responsible to depositors." you made a really important point.

I'd add to that that every banks also has an additional responsibility towards the health of the overall banking system. That's what has been left out of most of the Shadow Banking System.

Granted the regulators have the key responsibility for the overall system, but the efforts of the individual banks to evade regulation have greatly contributed to the financial problems we now face. The banks themselves need to consider their additional responsibility for the maintenance of a healthy banking system and work with the regulators, not evade regulation.

John Hansen: Having watched the way elections run, and how Senate hearings go, I can't understand why anyone would want to nationalize an industry which is obviously needed.

Having watched the way "free enterprise" handles banks, I can't understand why anyone would oppose nationalizing some of them.

Kevin, you have failed to answer Salmon's key question: why are you allowing squeamishness about a word to derail your logical process and determine your conclusions? The economic arguments have been clearly laid out, the situation is desperate, and yet you are writing lengthy, circuitous, meeaningless posts, all in an attempt to assuage a baseless fear that you can't acknowledge. It's called conditioning. You, and the vast majority of Americans, have since birth been subjected to powerful psychological control mechanisms. I'm making no criticisms here, we all have: it's all part of being a member of the human herd. But when we get older, we need to recognise these boogeymen of childhood for what they are: political brainwashing.

Actually, to answer the question Kevin asks, the unstated implication in Atrios's and Felix Salmon's assertions are that too much money as in enough to make them insolvent.

I don't know enough - as in less than Kevin if his assertions are to be believed - about the subject. But, as in the game of "mafia" or whatever the PC name for it is - where the idea is for the innocents to identify the 2 bad guys who kill the innocents off - usually, the best way to identify the guilty is to find the ones that keep contradicting themselves repeatedly. Of course, this won't work with a really smart bad guy - but the one thing that is clear from the mess we are in, is that there is a clear dearth of smart guys in charge. QED.

In case, that was too cryptic to make sense, all we need to do is to follow the total lack of rationality to the (mis)deeds of the powers that be and lack of consistency in their statements, to conclude what Felix Salmon concludes. And, you have two more people coming out in the last few days - 1) Meredith Whitney saying Citi is insolvent and 2) Nouriel Roubini stating our banking system is insolvent.

PS - I do recognize the inability of Greenspan (oops - Bernanke) and Paulson to acknowledge this, but I have a bad feeling this is true.

PPS. sorry for a convoluted reply, but the dime version as Kevin often provides - the banks are lying (or at least hiding the truth). Ergo, they are insolvent.