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Is it licit that banks are restructured by bank managers?
The answer is: No, it is not. Let us see why.
The main problem of our world, nowadays, is that, it has not changed despite a whole year passed. The source of the problem is the US banks. It is necessary to do a comprehensive cleaning in the balance sheets of banks. Comprehensive cleaning operation has not been launched yet. Under these circumstances, banks fail to function. When the banking system fails to function, plans designed to boost consumption fails to be effective from the very beginning. Then, it is crucial to ensure that the banking sector restarts functioning before focusing on the measures required to boost consumption. The current state of affairs in the US carried the discussions to the following point: "Is it possible that banks are restructured by bank managers?" And the answer the legendary former president of FED, Alan Greenspan in New York was "No". And this "no" takes the discussion to a phase including sort of nationalization of banks for a temporary period of time. In life, it is important to consider where you will be rather than where you are. Speech of Mr. Greenspan is an example for this. Let us see why banks cannot be restructured by bank managers.
What is the problem of the US banks, or in general all banks? In the balance sheets of banks, there are financial assets that will not deliver returns as much as desired. Banks carry unnecessary burden in their balance sheets. The wise thing to do will be to dispose of them as soon as possible. However, the US banks and Treasury have been failing to agree on the disposal price. The issue is prolonged as the price the US banks asks for those assets and the price the Treasury is willing to pay does not accord. As the issue prolongs, the economy as a whole is harmed.
Why does the absence of an agreement affect the economy as a whole? Banks, carrying "unnecessary" burden in their balance sheets and bearing extra risk, act reluctant in taking new risks. Thus, banks delay extending new credits. As the banks avoid extending credits to the highest extent possible, economic activity slows down as a whole. Therefore, the society as a whole pays the cost of the reluctance of the banks in extending credits because of the troubled assets in their balance sheets which are a result of their own wrong decisions.
However, the reason behind the reluctance of banks is not the absolute weight of the burden on their balance sheets. The burden of the riskiness of troubled assets in the asset balance is high in terms of their current capital level. In this case, there are two paths that can be followed: First, the troubled assets that were a result of wrong decisions in the past and that locked the system today will be taken over by the public sector under a certain price and thus the banking system will be relieved of the unnecessary burden to be replaced by cash. Or, banks will increase capital and the burden of the troubled assets that were a result of wrong decisions of yesterday and locked the system today will be easier to bear. This is exactly where the paradox lies.
Bank managers are the people that have to serve the shareholders of banks. They have nothing to do with social welfare. Therefore, since disposing of the troubled assets in the asset balances at the highest value possible will be more beneficial for the bank shareholders, it is impossible to solve the problem with respect to the valuation of the troubled assets. Under these circumstances, the valid option will be increasing bank capital. At this point, however, it is not logical to expect that shareholders will put additional capital to a bank including troubled assets in its asset balance. Under this context, it is not possible to expect that bank managers will make a positive contribution to the restructuring of the banks.
So, is there a solution that works through the market mechanism? The only solution lying in the market mechanism is that the public sector makes a sacrifice on the sly and transfers funds to bank shareholders. What does this mean? First option might be public purchase of troubled assets at high prices. Second option might be injecting capital to banks "from the air" via methods like Treasury bill exchange. However, it is obvious that the environment is not suitable for this kind of nontransparent operations. And Americans are absolutely not ready for such a nontransparent operation. As obvious, it is almost impossible to design a non-shady operation through the market mechanism.
So, there are only two methods left. First is the public purchase of the troubled assets of banks at a price unilaterally set by the public sector. Second is that state becomes a partner of all banks at the price seen necessary. In any case, current bank managers and shareholders will pay a price. But, are not they the ones that dragged us into the crisis?
It is apparent that the operation of restructuring banks is too important to be left to the hands of bank managers. It will be wise not to make welfare a tool of blackmailing.
This is what Alan Greenspan took a bright view of the nationalization of banks.
The state of affairs in the US resembles the joke: I caught the thief/ bring him here/ he does not come /leave him/he does not go. This vicious circle cannot be solved within the market mechanism.
This commentary was published in Referans daily on 19.02.2009