Bank Nationalization: Who Would Bear the Pain?

Bank Nationalization: Who Would Bear the Pain? - 2/25/2009

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Bank Nationalization: Who Would Bear the Pain?, Bank bondholders have gotten off easy so far. Government takeovers of companies like Citigroup and Bank of America might change that
Peter Coy

BusinessWeek. February 25, 2009
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EXCERPT: The question of whether big, weak banks such as Citigroup (C) and Bank of America (BAC) should be nationalized is dividing the nation right up to the highest realms of finance. On Feb. 18 the Financial Times quoted former Federal Reserve Chairman Alan Greenspan as saying that temporary nationalization of some banks "may be necessary." Six days later his successor, Ben Bernanke, told Congress that nationalization "just isn't necessary." At that bank stocks zoomed 13%. The truth is, nationalization is not a painless cure for unhealthy banks. It could get both expensive and messy. But it may nevertheless be the right solution for one or more of the biggest, most vulnerable institutions. The reason is simple: The U.S. economy continues to spiral downward despite nearly two years' worth of half-measures aimed at propping up the status quo. Extreme actions are needed to fix the financial system. It could turn out that such steps can be taken only via nationalization. That would give the federal government power to negotiate—and, if necessary, force—a workable solution for all of the important players. The Real Debate The key to understanding the nationalization debate is to focus on who will bear the pain of bank restructuring: Will it be mostly taxpayers and common shareholders, as it has been so far? Or will the pain be shared by preferred shareholders and even some classes of creditors, ranging from foreign bondholders to other banks to the counterparties of exotic derivative contracts? Other nationalization issues generate heat but are distractions. You can safely ignore the controversy over whether the government will spend a lot of money to support nationalized banks; taxpayers are already spending billions, with or without nationalization. Likewise, while the risk that the government could interfere in lending decisions is valid, it's avoidable, especially if the bank is quickly reprivatized.

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