Wednesday, February 11, 2009

Lessons Learned, Japanese Banking Version

I don’t pretend to be any kind of economics whiz-bang, and frankly a lot of the discussion about President Obama’s bank rescue plan goes way over my head. But this caught my eye when I read it back in December and it seems appropriate to bring it back up now:
Economists and former Bank of Japan officials say the biggest lesson they learned was that cutting rates alone has almost no effect when the financial system has fallen into a crisis as deep as the one Japan faced in the 1990s.

In Japan’s case, economists and former bankers say, credit began to flow freely again only after 2003, when regulators adopted a tough new policy of auditing banks and forcing weaker ones to raise new capital or accept a government takeover. Economists said the audits finally removed paralysis in credit markets by convincing bankers and investors that sudden failures were no longer a risk, and that the true extent of problems at banks and other companies was finally being revealed.

This seems to make sense. Here in America our interest rates are practically at zero, and credit reminds as tight as ever, dragging the economy down. Meanwhile, the FDIC’s failed bank list got three new names in February.

Yet near as I can tell, Treasury Secretary Geithner’s plan doesn’t seem to address these problems:

The revised financial rescue plan will inject banks with fresh capital, work with the Federal Reserve to support an increase of $1 trillion in lending, provide incentives for private investors to work with the government to buy up the bad assets weighing down banks, and commit $50 billion to help struggling homeowners avoid foreclosure.


Federal regulators will institute uniform standards to clean up banks, performing "stress tests" to assess the health of these banks. As Treasury has done in recent weeks, Geithner will seek to improve the transparency and accountability of the embattled plan by launching a Web site to show how government funds are being used, insisting that banks show that federal help is serving the purpose of the program by increasing the flow of credit, and limit executive compensation and lobbying from banks participating in the government plan.

Well, geez. We already gave the banks a bunch of money and instead of lending it, they held onto it -- just like the Japanese banks did back in the ‘90s. And why would anyone want to buy a bunch of bad debt in this economic climate?

I’m wondering if Geithner’s plan includes any strict new regulations that the banks will need to abide by, or else face some consequences--like nationalization. Because “uniform standards” are not the same as regulations that carry with it the force of penalties. And have there been mandatory audits of banks, or are we going to keep letting their failure be our first clue that they are in trouble?

President Obama says he doesn’t want to follow “the Swedish model” (i.e., nationalizing banks) because America is not Sweden, culturally and in terms of the size of our economy, and what worked in Sweden may not work in America. But as Iglesias pointed out:

On the other hand, it’s not clear to me what about the Obama/Geithner alternative to nationalization actually meets this problem. It’s inherently more difficult to conduct oversight and administration in the United States, which really could make it harder to make nationalization work. But the Obama/Geithner alternative will also work poorly unless oversight and administration can be made to work. This amounts to saying “just because nationalization worked in Sweden doesn’t mean it’ll necessarily work here, so I’ll try something else that also might not won’t work.” The reasoning doesn’t go through without the first consideration—we’re not nationalizing the banks because, damnit, we don’t do that sort of thing in the United States. To which I say that nationalizing the banks’ losses doesn’t exactly fit in with American cultural ideas about rugged individualism either.

I have to say this whole plan seems very confusing to me, and I’m not sure I understand why we’ve taken nationalization off the table completely. Unless there are some signals that banks aren't going to go belly up right and left, I can see how the banks would be holding onto their money instead of letting it loose into the economy. And giving them more money won't change that.

Someone needs to explain all of this to me.