Yesterday the Financial Times ran an article which said Alan Greenspan was now in favor of limited nationalization. This was taken as a sign that the tide was turning in favor of nationalization -- a tide that may remain unstoppable. However, the inherent problems of nationalization still remain and important questions are still unanswered.
I originally wrote about my problems with nationalization in this article. There were three areas of questions. Who do you nationalize (there are over 8000 US institutions), how do you make the transition from private to public ownership with minimal disruption and how do you prevent the new owners from being same corrupt idiots the old owners were?
Let's assume we find an adequate solution to point number one -- who we nationalize. Let's now address the two other points.
How do me make the transition from private to public ownership with the smallest amount of disruptions -- especially at a time when the financial markets are hanging on by a thread? I originally wrote the following on this topic:
Once the last three questions are answered the next step is the actual nationalization of banks -- that is, making the transition from private to public ownership. Let's start by looking at the money center bank page from Yahoo finance. According to this page the total market capitalization of money center banks is $327 billion. Let's assume nationalization will involved 1/3 of these institutions. This total is pretty easy to get to -- simply nationalize Citigroup, Bank of America and Wells Fargo.
Where does the government's ownership interest come into play in the capital structure? Most people would argue that a nationalized interest would be superior to public shareholders. But that increases the the possibility of common shareholders getting hit hard -- if not wiped out. That means that $107 billion dollars of market wealth (the total market cap in our example) is threatened. Even assuming the best -- that common shareholders continue to hold onto their shares -- nationalization of these banks would stand a good chance of sending these shares into steep discount territory.
According to Yahoo finance, 44% of Bank of America's,64% of Citigroup's shares and 58% of Wells Fargo shares are held by institutions. So nationalization cuts into the net asset values of a number of mutual funds, sending their values lower. Not only are mutual funds taking a hit so are most major averages. Financials compose 13% of the S&P 500 index.
The above concerns will impact a large number of people -- not just the idle rich but anyone who has any exposure to equities. That's quite a swath of people we have to consider. Their net worth -- which has already taken a beating -- will drop further lowering consumer confidence further, leading to lower consumer spending and lower GDP growth (at least that's the path the economy has taken over the last year and a half). The point is this: I don't see a way to do this that won't send the markets into a tailspin.
But most importantly, no one has addresses the central issue of who are the new owners. As I wrote yesterday on my blog:
In short, my concerns were primarily that we would trade one form of stupidity, ignorance and gross incompetence for another form of stupidity, ignorance and gross incompetence.
I outlined the following issues with the new management:
1.) A person in government (elected or not) leans on a bank to make a sweetheart loan to someone/an entity/a group not qualified to take out the loan
2.) A major campaign contributor gets a sweetheart "consulting" contract to service a financial institution.
3.) A major campaign contributor gets a special loan package
4.) The issue of patronage enters the picture: campaign workers/politically connected people who are unqualified to work in the financial field or are minimally qualified get jobs in the financial field
5.) A bank that shouldn't have qualified for government assistance gets government assistance. Actually - that's already happened:
Troubled OneUnited Bank in Boston didn't look much like a candidate for aid from the Treasury Department's bank bailout fund last fall.
The Treasury had said it would give money only to healthy banks, to jump-start lending. But OneUnited had seen most of its capital evaporate.
Moreover, it was under attack from its regulators for allegations of poor lending practices and executive-pay abuses, including owning a Porsche for its executives' use.
Nonetheless, in December OneUnited got a $12 million injection from the Treasury's Troubled Asset Relief Program, or TARP. One apparent factor: the intercession of Rep. Barney Frank, the powerful head of the House Financial Services Committee.
Mr. Frank, by his own account, wrote into the TARP bill a provision specifically aimed at helping this particular home-state bank. And later, he acknowledges, he spoke to regulators urging thatOneUnited be considered for a cash injection.
On Dec. 3, Rep. Spencer Bachus (R., Ala.) forwarded a Dec. 2 letter from Alabama bank regulators complaining about the complexities of applying for federal funds. Alabama banks later received billions in funds.
6.) Less than 50% of the banks return to profitability.
7.) Of the remaining 50%, none of them achieve better than 80% of the previous institutional high of ROE. In other words -- the previous management made more money for shareholders
8.) Lending does not increase to pre-meltdown levels -- or to acceptable levels.
Most of the people who got us into this mess -- and that includes Congress -- are still in power. They would be the ones performing the nationalization. And no -- I don't trust them to do the right thing.