Earlier, when we were discussing the Swedish plan, I mentioned as a sidelight that the reality of the Swedish plan doesn't seem to match its image (even among the people who instantiated it). The image of the Swedish plan is that the government stepped in and nationalized banks and forced them to do things that wouldn't have done otherwise. The reality is that the government only did that with 1 bank. With most of the banks, they did something completely different that didn't involve nationalization and is kind of fascinating for exactly that reason.
It had 2 steps. First, they guaranteed all of the banks' credit liabilities -- no haircuts for creditors at all. Secondly, all the banks -- including the non-nationalized ones, which were the majority -- divided themselves into good and bad banks. The bad banks essentially became asset managers who held their assets and then liquidated them at the best price they could later when markets picked up. The good banks were now completely trusted by investors because all the murky stuff was gone, and the system was clean.
The one thing I didn't understand was how the government forced all the banks to do this without nationalizing them.
But reading the below article about the very similar-sounding Irish plan, the obvious suddenly struck me: once the government had made that blankeet guarantee, it had the enormous leverage of removing it from any bank that refused to cooperate.
This was especially true in the economic environment of that time (the aftermath of the 1992 european monetary union crisis), where there had been such an international run on the Swedish banks and currency that overnight rates famously hit 500%. All of that stopped when the guarantees were issued. No Swedish bank would want to risk suddenly being the one bank that wasn't guaranteed.
As always, I'm not sure how much if any of this can be transposed to the current US situation, but I find the details interesting.
Michael
=============== April 8 2009 Financial Times
Ireland pushes bank recovery plan By Peter Thal Larsen in London
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The government's plan is to remove all land and property development loans from the banks' balance sheets and replace them with government bonds. The loans are a legacy of Ireland's property boom and the debt-financed expansion by Irish developers in other countries, particularly the UK.
The loans have a nominal value of 80bn-90bn -- about half of Ireland's annual economic output. However, the government plans to buy them at much lower prices. On average, the finance ministry says, banks were willing to lend developers 70 per of the value of their land. Given the plunge in property values, many of those loans are now heavily under water.
Disagreements over valuation have proved a sticking point in other "bad bank" plans, and may yet derail the US authorities' proposed public-private investment programme.
The Dublin government plans to overcome this problem by force. "We will take legal powers if necessary," says Mr Lenihan, pointing out that the government has been explicitly supporting the banking system since autumn. "Given that we have guaranteed the banks, the banks will co-operate with us."
However, selling the loans could force the banks to recognise additional losses, creating a capital hole the government would fill by taking equity. This will increase the cost of the bail-out, which has already seen the government inject capital into Bank of Ireland and Allied Irish Banks, its two largest lenders.
But Mr Lenihan is keen to avoid outright nationalisation. "We are anxious that the banks remain under market surveillance," he says.
Compared with some other recent bail-outs, Ireland's scheme has the advantage of relative simplicity and transparency. However, it does not address the issue of bad loans in areas such as credit cards and mortgages that are rapidly going sour. Investors have also been unnerved by the government's insistence that any losses it suffers on the "bad bank" will be recouped by a future levy on the industry.
This may prevent banks from overvaluing their assets. But it also risks burdening them with an uncertain future liability -- the opposite of what the scheme is designed to achieve.
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