TCS Daily


After Banks Are Nationalized

By Barry A. Liebling - May 15, 2009 12:00 AM

Is it really a big deal if the Federal government takes an ownership stake in some of the largest banks? Certainly the banks will still provide checking and savings accounts, issue credit cards, and originate loans. But government equity fundamentally changes the game.

In May 2009 the Obama administration announced that 10 of the 19 banks that had "stress tests" will need "to boost their capital." A bank that fails to get capital privately - which might include Wells Fargo, Bank of America, and Citigroup - will be able to obtain it "by agreeing to convert some of the government's existing preferred shares into common equity" thereby partially nationalizing the bank.

If nationalization occurs the existing stockholders will have their equity diluted. Whatever proportion of the bank they owned before will be diminished. Of course, the possibility of losing some or all of the value of their investment is something stockholders should be prepared for, especially since the bank bail-outs of 2008.

What else might happen when the state is part-owner of a major bank? To assure its "investment" is being managed properly a representative of the Federal government will join the board of directors. Then the board will not only be working in the interests of conventional stockholders; it will be an appendage of the political party in power - striving to bring about "social justice and change" and to respond to the pleas of key segments of the electorate.

This introduces an inevitable conflict of interest. If a member of congress had a significant stake in a bank he or she would be expected to refrain from serving on a committee that regulates banks. The role of managing a banking institution profitably is incompatible with the role of policing the banking system to prevent crime. Will the Federal board member strive to tilt government policy so it favors his bank at the expense of competing banks, or will he sacrifice the interests of his bank for "the greater good"? Either way, he is sure to be accused of malfeasance.

How will the bank's business practices be different? Fees for loans are traditionally calculated on the basis of risk--the probability that the customer will pay the loan back. In the new world of nationalized banking, politics will enter the picture, big-time. Why should wealthy people be given better rates than the disadvantaged or members of protected groups? Note that the Community Reinvestment Act profoundly tainted how banks originated mortgages and resulted in loans being given to people who were unable to pay them back. Get ready for new banking policies that will look like the Community Reinvestment Act on steroids, since it will not come from an outside regulator, but from an inside government owner.

With the government in the corner office, credit card interest rates could be an instrument of social engineering: jacked-up to discourage the consumption of products out of favor with Federal officials, such as appliances that use too much energy or imported clothing, and adjusted downward when consumers buy products approved by the administration, like recycled paper or products from companies that are dominated by labor unions.

And speaking of labor unions, expect to see changes in the work force of nationalized banks. For years labor unions have attempted (and failed) to gain a foothold in the largest banks. What will the bank's policy be towards organized labor if the majority stockholder is beholden to unions for votes? The no-trespassing sign will be replaced by an engraved invitation. Once a union gets into a bank, its tenure is permanent. Organized labor will presumably be as good for the prosperity of banks as it has been for the success of the automobile industry.

What if the new policies brought about by government ownership turn out to be dysfunctional? Suppose "progressive management" leads to financial losses; a nationalized bank is likely to be immune to the consequences of poor business practices. Surely a government that bails out private banks will not hesitate to rescue a bank that it owns. Besides, government officials have to save face and will be reluctant to admit that their policies result in disaster. Think Amtrak, a government enterprise that is supported in perpetuity.

Is it a big deal if the Federal government has equity in large banks? It transforms banking from a profit-oriented business to a political game where pressure groups contend for the spoils. And that's a raw deal.


Barry A. Liebling, PhD is the president of Liebling Associates Corporation in New York a management consulting firm specializing in marketing, marketing research, and organizational analysis. His monthly column appears at AlertMindPublishing.com.
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30 Comments

Zombie Banks, American-style
...

US of France
There is no reason to believe that if the US nationalizes the banks they will do a worse job than France did when they also nationalized banks and insurance companies in the Mitterand years.

Right now the US has the largest subsidized housing sector in the world so just imagine how they will be able to expand it! Apparently handing out money to bad credit risks is not enough; and they've decided that being the slum-lords of the ghettoes they quaintly call 'projects'; they now want to start another idea modelled on the Frence 'banllieues' from France. If they can have total control of the banks as cows to be milk, apparently they will also try some of those UK style 'council flats'.

They are also modelling France in taking over the car business too. Look how well they did when they nationalized Renault! I bet the US can do just as good a job of GM.

Apparently it's just malicious gossip regarding the leaked reports that US beaurocrats think they can pull it off much better than France could, based on how well the US postal service works compared to France's.

Pretty scary
Here I thought the wild success of a freer banking system, as evidenced by the extremely wealthy executives at the tops of those banks, would mean the government would never try take on a stake in the banks.

Oops.

Yeah, we have a lot more to fear than this little worldwide economic meltdown going on if banks are partially nationalized. How is a bank executive supposed to live on less than $10,000,000 a year? How would our economy survive THAT?

A clear choice
"If nationalization occurs the existing stockholders will have their equity diluted."

If a shaky bank finds no one at all to lend to it or shore it up, the stockholders will find their equity evacuated.

Your choice, shareholder.

clear choice
This is what you would expect in any failed company.

If a government wants to nationalize, partly or wholly, or just subsidize banks it leads to even more irresponsibility on all counts. Bank managers will be more wreckless because they know they will be bailed out, just like the teenager who takes his dads car; and sharholders will perform less due diligence if they know they will be bailed out.

It's a distortion of the economy.

ITMT, I been waiting for all the examples to roll in about successful nationalized banks from all over the world. So far nothing.

Successfully nationalized banks
"I been waiting for all the examples to roll in about successful nationalized banks from all over the world. So far nothing."

There are none so deaf as those who will not listen. How have you been able to miss all the talk about the Swedish Model?

The same thing happened to the banks in Sweden, back in 1992. The government bought up the failed banks, put them back in shape and resold them at a profit. Just like any private group of workout professionals would do with a failed business.

Yup. Made a profit on the deal. Do some reading:

http://www.nytimes.com/2008/09/23/business/worldbusiness/23krona.html?_r=1

Ah, you say, but what's the down side?

Check these commentaries out:

http://www.clevelandfed.org/Research/commentary/2009/0209.cfm?DCS.pr=20090212

http://blogs.wsj.com/economics/2009/02/20/lessons-from-swedens-bank-nationalization/

No one on earth can doubt that the Swedish Model worked for Sweden. There is some doubt that that's the way we are proceeding now.

swedish
I knew about it, and even they didn't KEEP them nationalized, nor did France and other places.

But I have heard that some other countries have. I'm going to keep waiting to see if the examples start rolling in.

Not so fast there, Bub
" I knew about it, and even they didn't KEEP them nationalized, nor did France and other places.
"I knew about it, and even they didn't KEEP them nationalized, nor did France and other places."

You can't wiggle off the hook that easy. The plan has never been to retain the banks under federal control. Every chance he gets, Obama tells us he'd love to get them off his hands, and can't wait until they're healthy again.

He says "Do you think I LIKE having to run everything? I'd love to give everything I can let go of to someone else to run."

As soon as he can find someone who can do the job more responsibly, I think he'll be dumping the job of running the investment industry. It's a big hassle.

not so fast
Yeah right. I'm sure they'll be just as successful as when they bailed savings and loans that time, and Chrysler years ago, and AMtrak, and all those others over that past 100 years or so they bailed out.

The reason they don't retain all these companies is because they know that they are incompetent, so it's better to get rid of them before it becomes to apparent and disgraceful. But to meddle shorter term is just up their alley.

But actually I myself will offer an example of some banking that has been retained by governments, over many years.
Several coutries, like the UK, Japan, and many others used to have, or still have Postal Banks, whereby people can keep deposits, pay bills, etc. Sure there's no decent interest so you're guaranteed to underperform the marked, and these companies loose money and are inefficient and corrupt and incompetant the same as anything else run by governments; BUT DUMB PEOPLE FEEL SAFE.

This is actually another alternative that I'm surpries hasn't been proposed by liberals in the US.

That's a great idea!
Thanks, I knew you must be good for something. I hadn't heard about these postal banks. But that would be an excellent way to save the public a whole lot of money. Just put up federally managed kiosks where people could deposit their checks and other payments, keep a balance and pay bills. In other words, act as a mom and pop bank.

They should be able to stay on budget just by providing simple services at no charge, and offering no interest on the money they keep. And you couldn't bounce a payment using one, so they'd be good as gold as far as creditors were concerned.

Really good thinking. Plus, at zero percent interest they'd overperform the current investment market. So some people might very well keep millions in their account.

And it's so simple and beautiful, nothing could go wrong. No moving parts. All they'd have to do would be to provide security for the individual accounts. Very efficient use of resources.

great idea
You can see some of it under 'Postal savings systems' in wikipedia.

It's wonderful for statists, but of course these creatures have the same problem that plagues all government efforts, they can't avoid pork-barreling with other peoples money.
So they pick winners and losers based of political considerations rather than economic ones, thus leading to gross distortions in the economy.

A better way
We've certainly seen where government has become a haven for abuses. And I might even agree with you that the government we have today has pased the point of no return.. where it would be simpler and more effective just to blow it up than to try to reform it. But that's not my point.

There are some services an honest government can provide more easily and cheaply than can the private sector. And assuming that it's possible to form a government without graft and corruption, the simplest banking services would be just such an enterprise.

Here it's the private banks who are in a poisition to steal millions from its custimers, just to provide them with savings and checking accounts. And there are all those fat salaries to be paid. Far better to create a small, honest government that could put everything on a single account number: credits, debits, tax bills and payment-- the whole thing.

It would cost next to nothing. In fact most of these functions could be handled online. You wouldn't even have to put out that many ATMs on the street.

The real resistance, of course, will come from those growing fat on the privatised, for-profit version of something that should be both simple and cheap. That is, bankers.

a better way... in a free economy
In private bankers can be a vested interest, which can use it's influence on government, then it's a government problem.

In fact somebody did try start up simple banks like those post office ones I mentioned. It was Wal-Mart, and you must have heard about it, and how they were stopped in various ways, in different juristictions.

In a free economy, either Wal-Mart or you, or anybody should be able to start a private bank, even a sharia one where they can't give interest, but just change the name to get around that religious proscription.

Nonprofits vs profit oriented enterprise
The government should get the chance to compete. Because to the degree that they enjoy a natural advantage (that is, they don't need to show a huge profit) they save the customer MONEY. And that is in everyone's best interest.

You may have asked yourself, why all the fuss over privatising Social Security? That's because the government was handling our largest national retirement plan at cost.. that is, with an overhead of a little under one percent of revenues. And all the private bloodsuckers were hankering after our billions, so they could invest them in speculative stuff like asset-based securities, at 5 or 6 percent overhead. Plus assorted fees and charges.

And what's the problem with a competing government-run health plan right now? It's not because the world will become socialist. It's because the government can offer a competing product for LESS MONEY. They don't have to pay the fat cats from our premiums. (The CEO of my supposedly "nonprofit" health plan makes upwards of $4 million in salary and bonuses, and in return has plundered the company for his private interests.) A public servant could get the job done for far less.. a prospect the private players find very scary indeed.

So it's all about having choice. I have no problem with the existence of private banks or public ones. Just as the US Post Office runs better with competition, I think everything would. We the consumers would get a better deal.

Governments never compete. They have FORCE.
How can private enterprise compete with government that can force the private enterprise into a non-competitive position?

government competing? oxymoron
You said the govrnmt could offer a competing product for less money. So let's there there is a gvnt store beside the Wal-mart, show us how any of the products would be cheaper.

Let's say there were a govnmt supermarket beside Kroeger's.

What about a shoe store beside Bata?

Maybe the govnmt computer store beside the Apple one.

Your example of the POst Office is ludicrous, they wouldn't even exist in a competitive environment.

When you say they don't need to show a profit, that is because they are stealing the money to operate from somebody else.

Your example of the SS is also stupid because we have determined that it would actually be illegal if run like that by a private company; some competitive advantage. But there are already private retirment plans out there like annuities, reverse-mortages etc. Let's see the govenment compete with them on an equal basis rather than by their monopoly of force.

The US Postal Service
Let's look at a real-world example, shall we? Your ideology-based arguments all take place in a vacuum.

The US Postal Service. Have they placed Fedex and UPS into a non-competitive position?

No, they have not. So this example from the actual world has effectively refuted your fantasy from Virtual World.

Ah, you say. But what about first class service? Doesn't the government force its competitors NOT to compete there?

Well yes, it does. But that could be fixed with a rule change. Just the way package deliveries got fixed.

Any monopoly strictly enforced invites abuses. The one with first class postage is that junk mail gets offered a rate below delivery cost.. so when you mail a first class letter you have to subsidise the people who pester you to buy their products.

But private industry's no better when they're the ones with the monopoly. Look at how Ma Bell ran her empire all those years. Or, if you want to see an oligopoly in practise, look at the abuses the credit card companies foster on us.

They need to be broken up. A government card, available only to customers with superior credit, would be a GRAND idea.

Wrong on four counts
"You said the govrnmt could offer a competing product for less money. So let's there there is a gvnt store beside the Wal-mart, show us how any of the products would be cheaper."

Duhh, let's see.. How about the PX?

It's a government-run commissary that undercuts everybody on price. Of course there are other ways to compete besides price.

A government-run outfit might offer better terms. It would be child's play for them to give customers a better credit card than the ones being offered now by companies colluding to collectively cheat their clientele.

"Your example of the POst Office is ludicrous, they wouldn't even exist in a competitive environment."

Honey, I hate to be the one to tell you this. They DO exist in a competitive environment. Other than on first class deliveries, they compete head to head with UPS and Fedex. Rates and services are both quite comparable. Spurred by competition, the government is not doing such a bad job in the area of package delivery.

"When you say they don't need to show a profit, that is because they are stealing the money to operate from somebody else."

Not at all. They could easily, and should certainly, maintain any government-run operation at cost. It would be wise to write this proviso into any government-managed company's founding document.

Granted, historically there has been bad management at the Postal Service. But that, interestingly, is for a reason that would also apply to many private delivery firms. They offer below-cost rates to their "best" customers, the mass mailers. And they then make the other customers, ordinary people, pay the tariff in the form of higher first class rates.

Whether public or private, let's predicate our argument that any service needs to be well managed if it's going to either be competitive or useful to its customers. That's how WalMart got out in front.

Finally, "Your example of the SS is also stupid because we have determined that it would actually be illegal if run like that by a private company; some competitive advantage."

Absolutely wrong. In fact you could start a company providing supplemental Social Security. And you could fund it from voluntary contributions from your pay. As long as it was divulged up front that it was not a private savings plan but rather a collective retirement account, with all revenues going into a single pot and all disbursements coming out of it, it would absolutely be a legal enterprise.

What differentiates this from a Ponzi is the element of deception. If someone runs an investment scheme as an unsustainable mathematical model, and hides this fact from the investors, he is culpable for fraud. A collective investment plan with open books is NOT FRAUD.

Ma Bell was a government monopoly.
Monopolies can only exist with government force.

Complete that thought
Okay, your contention is that Ma Bell could only have existed with government force. Lay out your evidence. Show us how it was government regulations that prevented competition during the time our phone system was becoming established.

Here's a little something to get you started:

http://www.corp.att.com/history/history1.html

My take on all this is that the connectivity problem had no clear solution, given the wired technology of the day, other than that of allowing a virtual monopoly to exist. And as such it was sanctified by law in 1913, with the understanding that government regulation could in this unique instance take the place of competitive market forces.

AT&T's position was that "government regulation, 'provided it is independent, intelligent, considerate, thorough and just,' was an appropriate and acceptable substitute for the competitive marketplace.

"The United States government accepted this principle, initially in a 1913 agreement known as the Kingsbury Commitment. As part of this agreement, AT&T agreed to connect non-competing independent telephone companies to its network and divest its controlling interest in Western Union telegraph. At several later points, as political philosophy evolved, federal administrations investigated the telephone monopoly in light of general antitrust law and alleged company abuses. One notable result was an anti-trust suit filed in 1949, which led in 1956 to a consent decree signed by AT&T and Department of Justice, and filed in court, whereby AT&T agreed to restrict its activities to the regulated business of the national telephone system and government work.

"Over the years AT&T's Bell System provided what was by all accounts the best telephone system in the world. The system made steady progress towards its goal of universal service, which came in the twenties and thirties to mean everyone should have a telephone. The percentage of American households with telephone service reached fifty percent in 1945, seventy percent in 1955, and ninety percent in 1969." etcetera

Unless you're contesting this version of events, we ended up with the best telephone transmission and routing system on earth, precisely through the combination of a tolerated monopoly and intelligent oversight and regulation. The premise that regulation would in this instance be a good substitute for competition was, IMO, very well borne out.

Also note that when the system matured to the point where its shortcomings had become obvious (1949) an antitrust suit was commenced to repair such problems as had been noted.

This to me sounds very much like a system that at that point in history was in good working order.

But please, make your point. Refute this interpretation from the evidence.

Ma bell monopolist
Your commments here still make our case that the a monopoly can't exist unless by government fiat.

You have often said before that business people buy out politicians and other regulators. Now you are saying that the government just gave away this monopoly to Ma Bell. Of course in this instance you say it was a good idea; but why wouldn't they also have 'sold' this monopoly as you allege happens all the time?

Your comments also don't mention what might have happened had there been no monopoly; there's no way to make the case that as many people as wanted wouldn't have had phones. "no clear solution" other than goverment enforcement of a monopoly, my foot.

By analogy we have also shown you how before government schools, everyone who wanted an education got one.

Nice try again at trying to justify statism, that corrupt system whereby govenments collude with businesses.

US postal
So your argument is: yes they have a monopoly which wouldn't exist without force, but private company monopolies are no better when they have a monopoly.
And you have the nerve to say WE have sloppy thinking?

Do you think that the $850k + salary the political appointement of the postmaster general is proper considering your stance on excessive ceo salaries?

I know a guy who would take only $100k for not delivering the mail.

wrong counts
The PX system can only undercut because they are subsidised, and not a competitor, it's a specialty retailors for the costumed goons that they send out to kill people. I could also undercut if I could steal from people to operate, as the government does.

You said a govenment outfit 'might' offer better terms. Just that it has never happened in the history of the world in a competitive environment.

Then you say, " they could easily", but actually don't. My auntie could also easily be by uncle too if she just had balls.

The SS money doesn't go into a single pot for reimbursement, but into general revenues to be wasted on all the other crap they waste money on, and is underfunded and would be illegal if you tried to do that as many have noted. The govenmet does indeed deceive the people in it.

In addition the SS is not voluntary but by force, which is immoral.

Why is there always one gun in the room when talking to you? Don't you think any social matters can be solved without violence?

The proper use of government
Colonel, the telephone service, back in the period when it was hard wired, was a natural monopoly. Just like auto fuel, back when it was only being refined by Standard Oil. Our government took a look at its options and decided to tolerate the monopoly, but to control it through regulation.

And as the technology and the business of telephone transmission developed, it changed the rules appropriately. Ultimately it broke Bell Telephone up.

At each step, when new problems arose, action was taken to repair the fault. That's what happens when government's doing their job properly.

The principle being maintained is the system of checks and balances. The Founding Fathers acknowledged that humans can have no single entity ordering our lives without abuses occurring. So they felt that for each estate there must be an equal and opposing estate, to protect the public interest.

And so, whether a given industry has a single large plyer, several players or many small players, regulation should be a ready card to play whenever it is needed.

That is not to say, as you would, that I then believe that government must ALWAYS exert force over EVERYTHING. You tend to run away with every concept.

Think instead of the old Greek ideal, of moderation in all things. Whenever one player gets too powerful there must be other forces in society able to moderate its power.

You are always looking for simple answers to describe a complicated world. Sometimes government is the enemy, and colludes with the forces that would seek to use us for their benefit. Other times it is our friend, and can be used to bring those forces under control. What it needs, always, is (here comes my commercial for professional management services) GOOD MANAGEMENT.

That's why we would be best served if the general public were well educated, and could be shown that their interests were better served if they could understand policy and politics to a greater degree.

Sloppy thinking
"So your argument is: yes they have a monopoly which wouldn't exist without force, but private company monopolies are no better when they have a monopoly.
And you have the nerve to say WE have sloppy thinking?"

Your comment pretty well defines sloppy thinking. I said nothing like that. In fact I said that increased competition has improved package delivery, in both price and efficiency. And first class mail would also be improved by allowing competition.

There are certainly times when a government service might benefit from private competition. And there are times when private control of, say, financial services have grown so thoroughly broken that they would benefit from government competition. I think a government-run bank, side by side with private competitors, would be a fine move.

2. "Do you think that the $850k + salary the political appointement of the postmaster general is proper considering your stance on excessive ceo salaries?"

Answer: No.

3. "By analogy we have also shown you how before government schools, everyone who wanted an education got one."

This is the worst of all your comments. Massachusetts started our first public school system in answer to a need. It was precisely because none of us, other than the richest families, could afford to give our children a proper education.

You're going to need to brighten up that dim wit of yours. If only you'd had a better education you wouldn't be getting into all these tangles.

doesn't make your case
To say it was a 'natural monopoly' does not make the case that it was necessary, or refute my case that no monopoly could exist with the force of goverment, the original topic.

You also didn't address, or deny my case that, could it be, that they brided the govenment to give them that monopoly, as you say happens all over the place?

You try to make an argument from effect, whereas I make an argument from morality; it's immoral to use force.

Why do you always bring a gun to the table? Can't you see any societal concern being solved without violence?

sloppy
You must have conveniently forgotten what you just wrote above: "But private industry's no better when they're the ones with the monopoly" this corresponds to my response.

Your comment about education means you're saying deTocqville was a lyer when he said that he was amazed about the high level of education in the US, way back then. This is an insult to his memory, and to the all those educators back then. But then again, you often insult people other than just me.

That is BS
There is no real reason for any 'public' utility to have a monopoly.
In fact, such monopolies stifle innovation. After the government ended the Bell monopoly, cordless phones and all sorts of telephone features have been made available.
Cell phones are lightly regulated and service is improving and expanding constantly.

Power monopolies have limited home power generation which is more efficient.


"That's why we would be best served if the general public were well educated, and could be shown that their interests were better served if they could understand policy and politics to a greater degree."

You mean if they were indoctrinated? If they were really educated, they would vote out most government controls.

A Magizine of Commerce Berating Amtrak? Shame on You.
Using “Amtrak” as an example of nationalization is unfortunate. Amtrak’s 1971 creation saved a necessary form of transportation for our generation. What was seen as frivolity throughout the 1970’s, 80’s, and 90’s is making a necessary comeback. If funded appropriately the railroad can provide greater national benefit as optional transportation. Federal stimulus bill provisions will allow Amtrak to grow; thereby, increasing its availability and service efficiency.

Much the same as US highway programs, Amtrak requires appropriation. Few argue that highway networks support commerce. Highways receive unquestioned, but much larger quantities of tax dollars. Amtrak, as mass transportation, can also provide similar commerce conduits, but in many cases at a lower cost.

Passenger rail can redefine 21st Century transportation if its fiscal critics do not derail its progress. Amtrak’s national benefit is beyond the farebox. It will not be profitable in and of itself. Rather Amtrak can be used to stimulate economic development; to conserve fuel; and to reduce greenhouse gases.

Unfortunately, Amtrak’s dramatically under-funded system has for 38 years been inefficient. Like any other transportation mode, Amtrak can provide a conduit to stimulate business, especially in small town America. This is an America bypassed by superhighways and jumbo jets. However, for Amtrak to shine, it must be funded as an emerging transportation source and not as a relic of the past.

Maybe they need to prove they deserve the money.
It is still cheaper and easier to fly the NE corridor or take a bus from BOS to NYC.

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