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Tuesday, February 24, 2009

The Big Break-Up

Simon Johnson:

Privatize The Banks Already, by Simon Johnson: ...In some important and not good ways, we have already nationalized the financial system.

There’s the direct ownership that the government received through TARP and the reupping with Citi, BoA and some others.  These stakes are obviously not (yet) voting stock, but the taxpayer certainly has capital at considerable risk.

Then we have the lines of credit provided by the Federal Reserve which, without a doubt, were instrumental to the survival of almost all major banks during the fall - and arguably remain critical today.  The taxpayer has further downside risk here.

And, most importantly perhaps, we have the expansion of the Fed’s balance...  In effect, the Fed is becoming a commercial bank as well as a central bank. 

The government is essentially taking over the role of intermediation - take funds in and lend them out - for the US economy. This is a form of nationalization, and it will lead to all the lobbying and politically directed credits we have seen in other nationalized financial systems; taking away this credit once the economy starts to recover will not be easy. We have state control of finance without, well, much control over banks or anything else - we can limit executive compensation (maybe) but we don’t get to appoint directors (or replace entire boards) and we have no say in who really runs anything.  Responsibility without power sounds accurate. ...

How then do we really privatize?  By exercising leadership: take over insolvent banks and immediately reprivatize them. ... The taxpayer retains a significant number of shares (or the option to buy common stock) as a way to ensure upside participation...

Above all, we need to encourage or, most likely, force the large insolvent banks to break up.  Their political power needs to be broken, and the only way to do that is to pull apart their economic empires. It doesn’t have to be done immediately, but it needs to be a clearly stated goal and metric for the entire reprivatization process.

No argument here. If there are good reasons to have banks so large their failure could bring down the entire system, a situation that gives them quite a bit of political leverage, I haven't heard them. There are questions about whether having many small banks as opposed to a few big banks reduces systemic risk, and if not, whether having lots of small banks makes policy intervention to stabilize and clean up the system more difficult when problems do arise - having just a few banks might be easier. But breaking up the banks does reduce political and economic power and I see no reason not to make this "a clearly stated goal and metric for the entire reprivatization process."

    Posted by on Tuesday, February 24, 2009 at 12:42 AM in Economics, Financial System, Market Failure | Permalink  TrackBack (0)  Comments (46)

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