Henry Blodget has noted that I do not think that the Geithner plan is a bad idea.
That is I do not think it is a bad idea to lend money to hedge funds at low rates to buy dodgy bank assets.
I do not love the idea. I just think it is better than any of the alternatives. I do require a good level of private capital before I am happy with it.
Henry Blodget publishes an objection to my plan which I quote:
Hempton's point is well taken. As he comments to one of his readers, "If I set up a new bank and borrow with brokered deposits I can lever 12 times non-recourse. If I win I keep the profit. If I lose the FDIC pays the losses. ... Geithner lends the money to the special purpose fund. Not against the pool of purchased assets - but with private capital pitched in. Sounds like banking to me." So Hempton objects to what he sees as Krugman's inconsistency.But Hempton's analogy isn't quite right. Krugman wants big banks nationalized, giving taxpayers the equity upside. The Geithner plan is at best an inefficient way of bolstering bank capital because some of the taxpayer funds go not to bank capital, but to bank shareholders and hedge funds.
However, Henry Blodget’s objector – and most other people are forgetting the second part of my plan – detailed in the long post and elsewhwere on this blog.
I want the regulators to come into the banks and say – now you have a ready – if somewhat subsidized market for your assets then it is no longer tenable for you to say that the market price for them is unrealistic.
This asset that you have marked at 95% of par. We want you to sell some of it (or a part interest in it or similar.) If you get 75% of par – then we want you to mark your book to 75.
If – given a real market for bank assets – you are shown to be capital inadequate then you should have time (say 6 weeks) to raise private capital. Failing that your bank becomes government property.
The objection detailed in the Blodget post is still right – which is that this plan is better for shareholders than outright nationalisation of banks without a process to determine who is capital adequate.
Nationalisation without process – which appears to be the alternative – is a dagger to the heart of capitalism.
Tell me a process that will have banks and regulators with adequate external parties indisputably saying to bank management “this asset should be marked at 75 and you have it marked 95” then I will listen. Until then the objectors to the Geithner Plan are left saying “nationalise now”, but without an answer to the nasty question of which banks to nationalise. And do not say the stress tests are adequate - because they are a joke.
It is of course open for the Federal Government to follow a process that will scare liquidity away from the banking sector and result in everything being nationalised. So far that is the only real alternative I see to a more complete version of the Geithner plan. It is of course also open for the Government to guarantee everything and get no upside – but that is a really bad non-plan.