An increasing chorus of politicians and journalists are asking “Should the government simply nationalize the bankrupt banks?” Right now we pour in taxpayer money and it goes right back out of the bank in the form of bonuses, acquisitions, losses on bad assets, etc. The banks on average remain insolvent. A nationalized bank would have the advantage of instant investor confidence. Any obligation of the nationalized bank would be as safe as a Treasury Bill.
By guaranteeing hundreds of billions of dollars in potential losses for Citigroup and Bank of America, the U.S. taxpayer is already on the hook for the downside, i.e., we’ve already nationalized any potential losses. With a full nationalization, the taxpayers might potentially reap some of the upside, if the U.S. economy ever does recover. Could the government afford to run these banks? Certainly not with the efficiency that we ran the Iraq occupation (see Imperial Life in the Emerald City
The total Federal civilian employment is about 2.4 million full-time employees who are paid approximately $180 billion per year (source), roughly $75,000 per employee. Merrill Lynch had approximately 60,000 employees sharing $15 billion in salary, roughly $250,000 per employee per year. Collectively these folks ran their company into insolvency. Can the Federal government get skilled people for less than $250,000 per year? Our Supreme Court justices seem to work very hard and very competently and earn $208,000 per year. The Treasury Department and Federal Reserve Bank are able to attract some of the nation’s best financial talent at salaries less than 1% of what Wall Street pays its top executives. The U.S. military has “finance officers” who manage programs costing hundreds of millions of dollars and can be responsible for millions of dollars in $100 bills. These folks aren’t paid any more than officers who perform other tasks, yet they seem to do a competent job. At least at the federal level, employees seem to be able to work with large numbers without being paid tens of millions of dollars themselves.
Citigroup has 300,000 employees. Bank of America had 200,000 prior to the Merrill acquisition. In round numbers, let’s assume that the to-be-nationalized banks together have a total payroll of 1 million people. The worst-case scenario would be that the banks can’t generate any revenue to pay salaries. If bank employees were placed on the standard Federal salary schedule, the cost of paying 1 million people for one year would be $75 billion, a small fraction of the money devoted to TARP so far and a tiny fraction of the total bailout money proposed. Would workers accept lower salaries? These are troubled times and the lure of a steady federal paycheck is strong. Furthermore, where else could they go? What banks are hiring right now or in the foreseeable future?
Right now the taxpayers are on the hook not only for the losses generated by the big banks, but also to keep paying boom-era salaries that were only possible because of phony accounting that assigned ridiculously high values to subprime assets and resultant fake profits. Nationalizing the banks and putting bank employees on the same salary schedule as the U.S. Treasury Department appears to be more affordable.
Of course, then we get back to the risk of whether the government could be even more incompetent at running these institutions than their former management…
I think “nationalize” in this context doesn’t mean taking over those enterprises and continuing their operations indefinitely into the future; it means taking them over and winding them up by selling off their assets over some prudent period of time, as the government did with the S&Ls in the early 1990s.
“The banks on average remain insolvent.” This seems like a very dangerous blanket statement. I don’t think anybody really knows right now whether banks are insolvent or not. Banks do not have to be insolvent to be nationalized – if one takes the tack from the Nordic countries in the ’90s, all the government has to do is guarantee all deposits (more than the FDIC insurance).
It was certainly the case a couple months ago that there was a flight of capital from banks, causing issues with short-term liquidity (see the run on Lehman). The government seems to have alleviated that by basically becoming the lender to the banks themselves.
And the problem is that these nationalized banks could probably not pay these huge bonuses and salaries?
The problem you say? Isn’t that the solution?
Alas, no. While your private bank may go bust (and get a bailout) wall street people like risk, and will prefer to work at the banks that pay the fat bonuses. So these banks will probably not take as many risks, not do as well, and attract only the most conservative investors and depositors.
No easy solution here? Whatever you do in terms of government management is going to restrict the banks and make it hard to compete with banks without those restrictions. For employees, and for money, and for investments.
How safe is a Treasury Bill?
These arguments for nationalization are all good. But then, what happens when the crisis is over and small companies once again need bank capital for innovation? Would we want a federal, bureaucratic and nationalized bank in charge of determining whether, say, the new Google is worthy of a loan?
http://www.nytimes.com/2008/10/26/opinion/26friedman.html
Simon Johnson, MIT professor and former economist of the IMF, also sees this as the main drawback of nationalizing banks.
http://baselinescenario.com/2009/01/25/the-emerging-political-strategy-for-bank-recapitalization/
Tom: http://www.reuters.com/article/bondsNews/idUSLJ71150920090119?sp=true says that “credit default swaps on U.S. Treasuries widened to 69.5 basis points” and “That means investors were paying $69,500 a year to insure against default on $10 million worth of bonds.” I believe that these numbers provide one year of insurance.
A money expert friend says “0.75% per year for 10 years. Up from 0.05% a year ago.”
Murali: Thanks for the link to the Thomas Friedman article. I think that he is confusing banks with venture capitalists. Banks don’t evaluate small new companies and then decide whether or not to lend them money. Banks are asset-based lenders. They’ll give you a loan secured by a house or a piece of commercial property or maybe some receivables. Google was financed with venture capital funds and then a public sale of stock, not with bank loans.
The New York Times has an article about Sweden’s experience with nationalising the banks in the mid 90s:
http://www.nytimes.com/2009/01/23/business/worldbusiness/23sweden.html
(It always amazes me how rarely politicians look to other foreign examples of how counties have solved problems. It says a lot about the mindset of your average politician, I reckon)
The problem is not that the managers of the banks were incompetent.
On the contrary, they were quite competent – just that their goal was one of personal enrichment, and they were relentlessly committed to it. They knew that they end would come, but who cares if you run a company into the ground if you can make half a billion doing it?
Peter Boone and Simon Johnson wrote another interesting piece on bank nationalization in the US.
http://baselinescenario.com/2009/01/27/to-save-the-banks-we-must-stand-up-to-the-bankers/
First he explains why he doesn’t like nationalization in the US:
“[…] think about what would happen if the American political system gets the bit of directed credit between its teeth, with all the lobbying that entails. If you want to end up with the economy of Pakistan, the politics of Ukraine, and the inflation rate of Zimbabwe, bank nationalization is the way to go.”