Editor’s Note: Part 1 of “Too Big to Bail: The ‘Paulson Put,’ Presidential Politics, and the Global Financial Meltdown,” by Thomas Ferguson and Robert Johnson, appears in the next issue of the International Journal of Political Economy.
As children we were used to hearing from our parents that “it’s an ill wind indeed that blows no one any good.” As adults, we often found that hard to believe. Until this week, when Lindsey Graham, Alan Greenspan, John McCain and a bevy of scholars and publicists on the payroll of the Peter G. Peterson Institute started lining up behind a new version of Single-Payer Insurance.
For that, of course, is what nationalizing failed banks really amounts to. In sharp contrast to the bank rescue “plan” recently put forward by Treasury Secretary Timothy Geithner, outright nationalization does impose costs on bank shareholders and managements. That is why former Treasury Secretary Henry Paulson and the new Obama administration both shied away from the step.
But bank nationalization is just another version of Single Payer–call it Single Payer 2.0. Nationalization turns the Treasury–or we may hope, a specially constituted agency that actually knows what it is doing, on the model of the New Deal’s Reconstruction Finance Corporation or, more equivocally, George H. W. Bush’s Resolution Trust–into a financial HMO. The desperately ill banks, if not average Americans, get nursed back to health at government expense. Taxpayers foot the bill while the poor dears go cold turkey and embark on their daunting weight-loss campaigns to shed their toxic assets. And taxpayers, of course, fund the recapitalization that eventually allows the surviving banks to go out and start lending again.
As with single-payer health insurance, the great advantage of the scheme is its simplicity. It tackles the main problems head on. It gets the toxic assets–all of them–off the books of the banks at once. And it minimizes ultimate costs to taxpayers.
Here nationalization’s advantage is decisive: while the banks convalesce, the people of the United States take temporary ownership. That means that when the banks finally become healthy again, some trillions of dollars from now, the public’s shareholdings can be sold back to private investors at a profit, just as the Swedes did in the 1990s.
The difference with Hank Paulson’s TARP is night and day. This time the financiers actually get rid of their junk assets, because the government sweeps them all into a “bad bank” that it controls. And there are no tortuous arguments about how to value the distressed assets, because they are already owned by taxpayers. As Joseph Stiglitz has emphasized, the mare’s nest of management and stockholder interests that conflict with the public’s interest are swept aside.
This has to beat just giving the money away, which is what Paulson did and Treasury Secretary Geithner is really proposing, too.
Putting it this way, of course, points up the obvious question: Until literally days ago, many of these born-again advocates of Big Government were singing the praises of the financial deregulation that got us into this mess. The contrast with Franklin D. Roosevelt, who began his New Deal by promising to drive the money changers from the temple, is obvious and daunting: Here come money changers and their confidants advising us to buy the temple. (Greenspan now works for a hedge fund that likes to bottom fish.)
With friends like these, is there a catch somewhere that we’re missing?
The answer, of course, is yes. There are, in fact, two big yellow flags to look out for. Much of the wind in the sails of this new push comes from private equity firms like KKR, Blackstone, or their political allies, mostly, though not entirely within the Republican Party. Just like everyone else, private equity firms are now having trouble lining up financing. But taking over firms–like banks–is what they do for a living.
In addition, not only private equity firms, but many hedge funds, are exulting over the Obama administration’s heady talk of “public-private partnerships” that would help the government dispose of the bad assets that it would take over from the banks. The bad bank that nationalization would create would throw up toxic assets several times the size of anything the administration currently appears to envisage. Just as with the Resolution Trust, the temptation to looting by politically connected investors is going to be huge. The National Journal recently quoted Robert Dugger, a partner in an investment firm, suggesting that the task of disposing of bad assets “poses every potential problem that Iraq has: corruption, conflicts of interest, theft, and waste of government resources. It’s Blackwater, Halliburton, and KBR, but right here at home.”
Temporary nationalization of failing banks thus requires strong safeguards. It would be the height of folly for the public to pay to fix the system, only to sell it back into the hands of a tiny financial oligarchy in a position to keep buying both political parties and control regulators. When it comes time to resell the banks back to private ownership, accordingly, it will be vital to clamp unbreakable legal limits on bank concentration, akin to the old limits on news media concentration in localities. There must be major amendments to existing “change of bank control” statutes, so that not only individual banks, but blocs of shareholders holding positions in several banks, cannot end up controlling more than a small percentage of total bank deposits. We cannot risk a modern financial equivalent of the Standard Oil breakup, where the pieces of the old trust ended up basically in the hands of the same shareholders.
Nor can we tolerate the secrecy so far practiced by TARP and the Federal Reserve about who is buying what. The procedures for disposing of the bad assets must be utterly transparent, reported online, and conducted through public auctions that take to heart the myriad failures of privatization auctions around the world and the sometimes dismal history of the Resolution Trust Corporation.
Temporary nationalization of banks is, indeed, the best way for the United States to avoid ending up with a “lost decade” like Japan in the 1990s. It gets the toxic waste out of the system, and not by robbing the public, making possible the resumption of economic growth. But without stringent safeguards on assets sales and vigorous anti-trust regulations, new rounds of financial pathology will become inevitable.