Deus Ex Machina

February 23, 2009 in Finance

Paul Krugman's new opinion, "Banking on the Brink," contains an excellent point:

The real question is why the Obama administration keeps coming up with proposals that sound like possible alternatives to nationalization, but turn out to involve huge handouts to bank stockholders.

He follows it up with a bizarre one:

What we want is a system in which banks own the downs as well as the ups. And the road to that system runs through nationalization.

It seems to me that Krugman has confused "plans in which the banks fail" with "plans in which the banks are miraculously saved."  Nationalization may wipe out the banks' equity - though one could argue convincingly that the banks have done that already - but it provides a backstop to the banks debt. And as institutions which have recently been as much as 30x levered, the banks rely on their debt, not their equity, for financing.  You want banks to "own the downs", then let them fail!  Let's not pretend like nationalization (and the subsequent reprivitization Krugman calls for) at this stage is some sort of ultimate corporate punishment.

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