March 29, 2009
How To Nationalize
Krugman has been opining (with despair!) that Geithner doesn't have the spine to close the big American banks, and former IMF chief economist Simon Johnson believes that America simply lacks the necessary political structure to nationalize.
They are both wrong - Geithner has both the guts and power to nationalize our big banks. But even so, he cannot show his cards. To understand Geithner, look back a decade ago when he coordinated the international response to the Asian financial meltdown. Then, as now, decades of overaggressive banking ended suddenly in an asset value crash and a complete collapse of commerce - as nicely analyzed by the pre-Laureate Krugman at the time.
In 1997, the difficult part wasn't understanding the problem, but administering the medicine. In the face of the collapse of a constellation of Asian currencies, gradual, piecemeal solutions had failed. The right solution was to raise interest rates (up to 60%!) and to close all but the strongest banks. But these actions could only be done fairly through coordinated international action, which was done by bribing the nations with IMF capital. The Geithner-mediated IMF actions resulted in real pain for Asian bankers, in the end closing 14 out of 30 Korean merchant banks and 56 out of 91 Thai financial companies.
To my eyes Geithner does know how to close banks. And he has the power - that is exactly why he was nominated by Obama. But here is the key. You cannot just close banks one at a time, because that will cause everybody to worry that their bank is next to go - the whole economy would collapse from fear. And you cannot just break up banks based on current market prices: that would just reward the best liars. You need get everybody to beg for salvation on equal terms, pry open their balance sheets and price them fairly, and then pick losers all at once. You need to do it in a way that seems fair and smart. And since this is a global crisis, it is going to take a little bit of time.
Pretend you are Geithner. You have two jobs: one, you need to put domestic banks in line for closures, and two, you need to coordinate international action. How do you do it?
Domestically, you would subject the banks to "asinine" stress tests to force their books open, and you would set up public-private partnership "handouts" to attract vultures to determine a fair value for hard-to-price assets.
Internationally, you would negotiate deals with the biggest economies to work out how to decide which banks need to be shuttered in Hungary, Latvia, Romania - and Britain and Germany and France and Hong Kong and Japan. You would bribe nations to cooperative action by supplying Federal Reserve capital and put a gun to their head by propping up AIG just short of the precipice. You would seal the deal at an international forum like next week's G-20.
Then some Friday evening, probably around the end of April, you would wait for Asian markets to close and then announce a bank holiday. Over the following days, you would roll out complex and comprehensive global bank closures. Carefully justified valuations for the pieces of shuttered banks would be used to chop them up and resell them to private investors. Then after the deed was done, the markets would reopen and the world would know that the crisis was over.
It's the World Series of economics, and we're barely halfway through the game. But we do have an all-star team.Posted by David at March 29, 2009 05:27 PM
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