[R-G] [BillTottenWeblog] The Only Road Out of Crisis

[Bill Totten]

Yes, it is socialism, but nationalize the banks already. 

by Joseph M Schwartz 

In These Times (May 15 2009) 


Since taking office, President Barack Obama and his economic team have
confronted a daunting financial crisis with a string of solutions that
have been hard to sell to a wary public. 

Obama's first problem is that his administration's bank rescue has
failed to break with the discredited Bush administration plan -
throwing taxpayer funds at insolvent banks to put off their inevitable
nationalization by the Federal Deposit Insurance Company (FDIC). 

On March 23, Treasury Secretary Timothy Geithner proposed the latest
rescue for big banks, whose "legacy assets" of housing-based financial
derivatives have tanked in value. Geithner's Public-Private Investment
Program (PPIP) tries to revive the market for these toxic assets by
having the government insure their value. 

Some major financial institutions, such as Bank of America and
Citigroup, are what Princeton economist and New York Times columnist
Paul Krugman calls "zombie banks". They live as private entities only
because of the endless infusion of government funds that swamp their
private stock market equity value. 

Despite this quasi-nationalization, the Obama administration did not
initially demand equity shares and, thus, majority management control
in these banks. And after the stock market reacted negatively to an
April 19 New York Times report that the administration was considering
coverting government-owned bank warrants (essentially loans) to common
stock, the proposal has gone unmentioned. But even going through with
this measure (which would shore up the banks' balance sheets) doesn't
mean the government will demand control of the banks' management. 

Federal regulators are doing their best to hide the dire situation of
our megabanks, thus delaying official acknowledgment of their
insolvency. The regulators have let banks off the hook, sparing them
from having to "mark to market" declining assets while allowing them to
use the declining prices of their bonds (which will have to be paid off
in full if held to maturity) to lower their total liabilities. Thus,
the recent quarterly reports of bank profits are largely accounting
fictions. 

Investors fail to renew lending 

So far, the banks have gladly taken government funds, using them to
shore-up their deteriorating balance sheets rather than to engage in
renewed lending. A Wall Street Journal analysis published on April 20
shows the biggest recipients of taxpayer aid made or refinanced 23
percent fewer loans in February than in October - the month Treasury
launched the Troubled Asset Relief Program (TARP). Although massive
federal aid to financial institutions has failed to unlock the frozen
credit markets, under PPIP, Geithner proposes to spend up to $1
trillion more in federal funds and insurance guarantees to create a
"private market" for legacy assets. 

"We cannot solve this crisis without making it possible for investors
to take risks," Geithner wrote in a Wall Street Journal op-ed. 

Yet under PPIP, the federal government asks private investors (mostly
the very hedge funds and private equity funds that speculated in these
troubled assets in the first place) to risk just seven percent of the
purchase price of these assets. The federal government (that is, the
taxpayers) will not only risk its own seven percent but will also loan
the banks the other 86 percent of the auction purchase price through
the FDIC or Federal Reserve. 

If the price of the asset has fallen more than seven percent below the
original auction purchase when the loan comes due in a few years,
taxpayers will assume the loss on the value of the loan. That is, the
public treasury will assume the risk on 93 percent of the private
market purchase price, with the private sector risking only its
original seven percent investment. 

Geithner knows that now there is no private market for these worthless
assets - hence his plan to bribe private investors to get into the
toxic-asset market. So much for a capitalist market that rewards
successful risk and penalizes failure. 

Here's a better plan: Rather than continuing to pay inflated prices for
toxic assets that cannot be sold on a truly private market, the
government should simply take those assets off the books of distressed
financial institutions, so that their balance sheets can be restored to
health. 

Just as in the Savings and Loan crisis of the early 1980s, the FDIC
should take over insolvent banks and other financial institutions,
place their presently valueless assets into a Resolution Trust Company
and restructure the banks so that healthier balance sheets would
support renewed lending. 

Once the financial firms have regained their health, the FDIC could
either resell them to private investors or the government could choose
to run the banks. When, and if, the housing market recovers, so will
the value of the toxic assets. The Resolution Trust Company could sell
the toxic assets to private investors without expensive guarantees, and
use the proceeds to repay the Treasury a portion of the funds the
government infused into the banking system. 

Critics - including conservative pundits and some moderate Democrats -
claim the federal government does not have the capacity to run
megabanks. But in practice, little would change in terms of the
bureaucratic structure of the institutions. Nationalization only
involves firing the top layer of management; mid-level managerial
personnel would stay on, under the supervision of skilled FDIC
administrators (recently unemployed bank managers would be glad to work
for the FDIC). 

Finally, rather than reselling all the restructured, nationalized banks
to private investors, the federal government should maintain full
ownership of at least one major bank. This bank could serve as a
benchmark institution, setting standards for investment in community
housing, alternative energy development and infrastructure that other
private banks would have to match. 

The disaster of deregulation 

It's one thing to fix the current crisis, but preventing a repeat will
require reflection on how this happened in the first place. The
disastrous experience of financial deregulation demonstrates that
without public regulatory restraint, finance capital will engage in
irresponsible acts of speculative swindling during financial booms and
resort to excessively conservative lending during financial busts. 

The deregulation of the financial industry has been a thirty-year joint
project of Republican monetarists and Democratic neo-liberals. This
"free market" project began with the Carter administration's
deregulation of the Savings and Loans. It accelerated under Reagan's
gutting of the entire government regulatory apparatus, and culminated
with the Clinton administration's abolition of the Glass-Steagall Act,
which had separated commercial banks from investment firms. Now, the
very banks that create risky financial instruments also market these
instruments to their own clients. 

To restore a sane credit system, the federal government must first take
the fiscally prudent step of nationalizing and restructuring insolvent
financial institutions. Then the Obama administration must recreate an
effective regulatory system for domestic financial institutions and
cooperate with governments of other advanced and developing economies
to build a global financial regulatory system that favors productive
investment over speculation. 

The other story behind our current economic crisis is global,
neo-liberal capitalism's race-to-the-bottom. Transnational corporations
that scour the globe for the lowest labor costs fail to pay workers
enough to purchase the goods and services they produce. Only if Chinese
and Southeast Asian workers can form independent trade unions will they
be able to force employers to pay them wages sufficient to consume the
goods they produce. 

In developed nations, with wages failing to keep up with productivity
increases, workers went into debt to forestall declining living
standards, which temporarily put off the impending global crisis of
overproduction and underconsumption. 

In the end, restoring a stable global economic system will require
raising the floor under global living standards and working conditions
and creating global regulatory institutions that insure that investment
and trade benefit all working people. 

The era of deregulatory free-market mania is crashing down upon us. We
must revive the capacity of democratic governments to regulate the
economy to serve people's needs rather than the speculative desires of
corporate elites to recover from the current global economic nightmare. 

_____ 

Joseph M Schwartz is a professor of political science at Temple
University. He is a Vice-Chair of Democratic Socialists of American and
the author, most recently, of The Future of Democratic Equality:
Reconstructing Social Solidarity in a Fragmented US (Routledge, 2009). 

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http://www.inthesetimes.com/article/4419/the_only_road_out_of_crisis/


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