Saturday, April 11, 2009

Nationalize The Banks Already

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By Nathan Batoon

Signed into law in February by President Obama, the stimulus bill plans to pump more tax-payer money into ailing financial behemoths Bank of America and Citigroup. Hundreds of billions of tax-payer dollars used to prop up these banks have failed to stem the flow of loses, and the deep tide of recession is drowning the U.S. economy.

We have run out of options.

Nationalizing Bank of America and Citigroup will help resolve the crisis of toxic assets and finally let lending resume. The economy won't be out of hot water but we could at least turn the sweltering temperature to simmer.

As part of its $700 billion bank bailout, the U.S. government injected $45 billion of taxpayers' money into Bank of America and Citigroup. Washington has also promised to cover $419 billion in losses for both banks.

After the government invested almost double what the bank is currently worth, a recent report by the Wall Street Journal states that Citibank offered the Washington a 25 percent to 40 percent stake in the institution.

Don't tax-payers already own the banks?

As Merril Lynch managing director Henry Blodget pointed out, the U.S. government is shoveling money from "regular guys" into banks that are "vaporizing it."

In testimony in front of the House Financial Services Committee and elsewhere, banks have already proven that they will not return to ordinary commercial, industrial and residential lending until they can see a realistic way to make money from it.

K. Galbraith, an economist for Mother Jones, who has briefed the HFSC about the banking crisis, predicts that major banking institutions will probably invest in treasuries and prime corporate bonds, and rebuild capital for the long-term. But with profit margins flat lining and the insolvencies as deep as they are, it could take a decade or longer to see the banks level out.

We don’t have that kind of time.

Beginning in 1990, Japan suffered a similar collapse in real estate and stock market prices that bankrupted the country's major financial institutions. Rather than nationalizing the banks, cleaning them up, and re-privatizing them, Japan kept them operating through government backed guarantees and gradual bail-outs. The "zombie banks" could not provide the capital to keep credit flowing through the economy and the Japanese economy entered a deadly free fall which lasted for almost 10 years.

Many people are concerned that nationalizing the banks will erase shareholder value permanently. Many economists claim that the constant anxiety about nationalization cripples the possibility of share price recovery.

By this logic, however, we are hedging our bets on the hope that if the banks are not nationalized, someone, somewhere, is going to think these banks are a good buy and invest billions of dollars to make them profitable institutions again.

This might be true. However, the survival of the economy depends on the speed of our actions.

Obama must stress test the largest banks in the country to establish which are ill and must be healed with nationalization. This would allow for private banking system in the U.S. to remain in place, while helping to breathe some life back into "zombie banks."

Washington could then institute a similar model that the Swedish government used in 1992 when it took over its insolvent banks, cleaned them up and re-privatized, evading major economic catastrophe.

Nationalizing banks will be fiercely detested, and will be a tough sell to the American public.

President Obama could however, use this opportunity to teach the American public about the desperate economic situation, and rally people's hopes as he did during the election.

And nationalization would not be a permanent solution. After the banks were cleaned up they could be sold off and privatized after being deemed stable enough to attract a fair price.

As for the costs, the government would initially have to make a large investment but it would have a much higher rate of return than on its previous bail-out attempts because all proceeds would go to them, instead of the 25 percent to 40 percent Citi has offered. This prevents the banks from coming back for money every fiscal quarter.

Or the government can continue to hand out tax-payer money, with limited guarantees --except for shareholders -- and regulation, as it did with the TARP funds.

In October, Northern Trust, the Chicago-based bank took $1.5 billion in TARP funds. The bank, which is in good health, says it didn't seek the funds but agreed to participate because the government wanted all the major banks to take part.

Instead of giving money to banks that don't need it, nationalize Bank of America and Citigroup, provide severance packages to investors, kind of like a proration, where the more stocks you own the more money you receive. This would help ease shareholders' minds, while reinstalling a little faith back into the market. And shareholders wouldn't have to rid themselves of bank stocks like they were toxic waste.

If the Obama administration persists in protecting an exclusively private banking system, there is a serious danger that the recession will turn into a depression. Barrack Obama will have failed as a president.

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