To Nationalize Or Not…

 

Nationalization of our nations banking institutions seems to be making headlines again this week. I mean again, because these headlines where already made several months ago when the Bush administration effectively nationalized Fannie Mae and Freddie Mac and stated flatly that they would not allow institutions that were “too large to fail” to go under. Does anyone really believe that the government does not already have a say in how the banks that took TARP money operate? It is silly not to believe that for all practical purposes, nationalization of some banks has already happened. Here is why I do not believe this will happen.

 First of all it would not happen because the government knows that the headlines generated by the general nationalization of banks would send the broad markets into a freefall. That would add tremendous stress to an already fragile global system. Why would the Obama administration and the democrats in Congress risk being the party that nationalized banks when they can continue to pump money into these institutions to keep them viable? This is how I believe this will play out.

 The Treasury will administer the “stress tests” to banks prior to buying any of the banks toxic assets. The stress tests are basically an accounting of the banks ability to meet liquidity demands. The institutions that fail the stress test will be taken over by the FDIC as insolvent institutions and the assets and liabilities of these institutions will be sold to healthy, small to mid size regional banks, many who did not participate aggressively in subprime lending.  The US government will be forced to make this happen and will make it very attractive for these institutions which in my estimation, will be the ultimate winners in the outcome of this crisis. The banking landscape in the United States will be transformed irrevocably by this with several now small to mid size banks taking a much bigger chunk of the nations deposits. The end result, several years down the road would be maybe as many as 10 very large institutions instead of the 3 or 4 we have today. Many large under capitalized, and highly leveraged institutions may be forced to shed themselves of businesses in order to keep their banking charters. It is conceivable that institutions such as Goldman Sacks and Morgan Stanley be given a big role in this new universe and I would expect them to be at the head of the list for takeover of some of these failed banks.

 Basically,  judgment day is coming for those institutions that failed to manage their businesses properly by becoming highly leveraged in these mortgage assets. Why should the government (i.e. the taxpayer) award the poor management of these institutions by bailing them out? In the end this approach would mean survival of the fittest and isn’t that what capitalism is all about anyway?

Mr Geithner- Details Please??

 

The main problem with the Obama Administration’s “financial stability plan” is that there little clarity as to how the losses will be divided amongst the two main characters in this financial drama, the taxpayer ie. the U.S. Government and the financial institutions that hold these illiquid mortgage backed assets. In an effort to present a politically appealing plan, the administration has failed to present clear answers to the American people to the following questions:

How much will it cost

How will we pay for it

How will we prevent it from happening again

The answers to these questions are not politically appealing but necessary for a market looking for clear answers. Treasury Secretary Geithner, promised the new plan would be transparent but omitted describing the plan itself! Stock market averages fell yesterday as traders who had started to turn mildly bullish reversed course and hedged their positions to avoid steep losses. The markets hate uncertainty and we got a day full of just that. The time for promises and pledges is well behind us and the markets want to see some real action.  

Geithner promised a stringent “stress test” of banks’ balance sheets; more aid to banks through a new Financial Stability Trust; up to $1 trillion for a public-private partnership to buy banks bad assets; up to $1 trillion to support student, auto, consumer, small business, and commercial-mortgage lending; and a major effort to lower the rates and monthly payments on home mortgages. Again, all of it theoretical and no real detail as to the how’s and why’s. The Obama plan is going to take much more than the already approved $700 billion in TARP funds. The size of the plan is estimated to be in the range of $2 trillion dollars.

The biggest stumbling block in the plan is how to value the illiquid assets. There is a tremendous amount of political pressure on the administration to not overpay the banks for these assets therefore handing the taxpayer a potential liability which will take many years to repay. The truth is that many banks would be crippled if these assets were to be sold at their actual current market value. The taxpayer is irrevocably entangled in this mess. The question of who loses in this fiasco is clear, although not articulated by the administration, it is the U.S. taxpayer.

The far reaching consequences of the this economic crisis involve many countries who hold preferred shares of these intitutions and who would be severely impacted by severe writedowns. The U.S. taxpayer is entitled to a clear and fair assessment of the crisis and we need to hear clear detailed plans as to how we are going to correct the ship.