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Tuesday, June 09, 2009


WSJ advocates nationalizing citi

via clusterstock -- a scary idea is making a return in today's wall street journal.

It's not enough to say the banks that pay back the TARP are on their own -- "and this time, we really, really mean it." The markets won't believe it, and over time these banks will have a lower cost of funds because lenders will assume, a la Fannie, that they will be rescued. One possible answer is a new mechanism for regulators to resolve -- that is, seize, then sell or recapitalize -- the biggest banks. But while we're waiting, one way to minimize the too-big-to-fail assumption is by showing that at least one big institution can fail. Last fall, at the height of the panic, regulators deemed this too dangerous. But this need not be an eternal truth.

It happens that we have a test-case at hand in Citigroup.

if we make clear that the capital structures of these banks really are in jeopardy, we write disaster into the future. my opinion has migrated over time from an initial skepticism of william isaac to a recognition that the banks cannot be nationalized because their junior capital structure is owned by the insurance industry. what's more, it's become clearer to me thanks to john hempton that major american banks are hugely underfunded and rely on wholesale funding that has its origin in our nation's current account deficit. there is further the fact that, for banks like C, a big slice of their deposit base funding is international in origin and not explicitly insured by the FDIC. if it should become apparent that these major banks are in fact threatened in the way the journal advocates, the likelihood of runs on their funding -- both international deposits and short-term wholesale funding -- and indeed the funding of the american banking system becomes far greater.

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Nicely put, GM. The insurance "reserves" rely on a banking system that relies on foreign capital, backstopped by a government that relies on foreign capital. I hope nothing breaks.

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