Hi Ann, Julio, Shane, raghu, and others:
We need to distinguish more clearly between the DEPOSITORS of banks and the DEBT-HOLDERS of banks. As Shane has already said, the depositors are guaranteed by the FDIC. But the debt-holders are not guaranteed by the FDIC, and instead are being bailed out by the TARP. This is an important change in the banking system in recent decades a significant portion of the banks liabilities are now debt rather than deposits, especially the larger banks that are being bailed out. So this change of banking structure raises for the first time on a significant scale the policy question: what should happen to the debt of banks when banks go bankrupt? In Chapter 11 bankruptcy proceedings of non-financial corporations, the debtors are usually given a choice of: (1) either accepting haircut on the existing debt or (2) swapping their debt for equity in the restructured company. Something like this should happen for banks also. But I realized more clearly yesterday in thinking about this some more (stimulated by this pen-l discussion) that determining the size of the haircut could be a lengthy process (as it often is in Chapter 11 bankruptcies), which would be disruptive to the financial system. So I now think that the best option for banks would be speedy DEBT-EQUITY SWAPS, rather than haircuts. Buiter also emphasizes debt-equity swaps for the same reason it is quick. He calls it regulatory bankruptcy. The banks debt would be converted into equity and thus wiped out, so the banks would be solvent again, and could lending again. The private equity would be junior to the government equity in the capital structure, and the government would run the bank. Debt-holders could also be given the option of converting their equity back to debt at a later date, with a significant haircut, the size of which determined by bankruptcy judges. So I guess my amended slogan would be: permanent nationalization with debt-equity swaps. Again, the beauty of this is that it makes the banks solvent again, and does not cost taxpayers anything. The debt-holders now have a riskier investment, but that is better than the debt-holders being bailed out by the taxpayers. The debt-holders had risky investments to begin with, and made lots of profits in good times, and now they, not the taxpayers, should suffer the losses (or the conversion to equity) in the bad times. And the government will have more control of the banking system in the future (along with the permanent nationalization of Fannie and Freddie, which is a separate but related story). What do you think? Fred ---------------------------------------------------------------- This message was sent using IMP, the Internet Messaging Program. _______________________________________________ pen-l mailing list [email protected] https://lists.csuchico.edu/mailman/listinfo/pen-l
