Tuesday, October 20, 2009

Should We Have Nationalized the Banks?

. Tuesday, October 20, 2009

Economics of Contempt writes:

Paul Krugman is clearly confused. Regarding Citi and BofA, he writes:
Um, weren’t we being assured that recapitalization by the government — which would probably require temporary nationalization — was unnecessary, because the banks could earn their way back to adequate capital ratios?

Just saying.


Um, what? Is Krugman really that unfamiliar with quarterly earnings reports?

Citi's Tier 1 capital ratio is 12.7%. Citi's Tier 1 common ratio is 9.1%, up from 2.75% last quarter and 4.8% in Q3-2008.
BofA's Tier 1 capital ratio is 12.46%. BofA's Tier 1 common ratio is 7.25%, up from 6.9% last quarter and 4.23% in Q3-2008.

For frame of reference, JPMorgan's Tier 1 capital is 10.2%, and their Tier 1 common ratio is 8.2%.

Just saying.


The question is whether TARP was intended to recapitalize the banks or to boost profits. (These two might not be mutually exclusive in the long run, but there are tradeoffs in the short run.) For relatively healthy banks like Goldman and JP Morgan, TARP funds were issued to shield the unhealthy firms from bank runs: if all the banks were getting government money, investors wouldn't know which ones were insolvent. But it is now clear that Citi and BoA needed TARP to recapitalize, while Goldman and JP Morgan mostly needed to roll over some paper (or didn't need TARP at all) but were otherwise alright. In other words, Goldman and JP Morgan were solvent but illiquid at worst, while Citi and BoA were basically insolvent.

So they forego profits for a few quarters to recapitalize; a $1bn quarterly loss isn't much when the capital ratio has multiplied several times over the same period. So TARP worked, and banks have recapitalized. Without nationalization. So the "nationalize the banks like the Swedes did" folks were wrong.

Just saying.

P.S. Another question is why Citi and BoA overshot: 12-13% Tier 1 ratios are treble the Basel requirement, and more than twice as high as the "well capitalized" marker as well. If these regulations actually constrain bank behavior, then why are they voluntarily holding more capital then necessary (it's not just a reaction to the crisis; banks routinely have capital ratios well above the mandated minimums)? I plan to write more about this soon.

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Should We Have Nationalized the Banks?
 

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