By: James Kwak

James Kwak — Tue, 14 Oct 2008 03:55:43 +0000

Good questions. So far, one interpretation is that “systemic” means that big banks will be recapitalized, at least based on the UK (RBS, HBOS, Lloyds TSB) and the US (8 big banks). In both cases, the governments have not said that smaller banks will not be recapitalized, and both have additional funds earmarked for the purpose, so we can’t make a definitive judgment yet. But one strategy could certainly be to protect a small number of big banks and let them buy up assets from smaller banks that may fail.

As far as the price, there are two possibilities. One is that the FDIC will charge insurance premiums for the new stuff it is insuring (such as new senior debt of banks). The other is that, in exchange for the insurance, the governments of the UK and the US are strong-arming the banks into accepting recapitalizations that they might otherwise not accept. In the US, rumor has it that the offer was presented on a take-it-or-leave-it basis, along with a strong suggestion that they should take it. (The US cannot just go ahead and recapitalize banks against their will, at least not without inviting lots of lawsuits.)

By: D. Nowakowski

D. Nowakowski — Sun, 12 Oct 2008 21:21:47 +0000

Clearly, oodles of moral hazard is what the market needs right now, and this is a good thing to keep our system from breaking.

There are important things they left out: what’s the definition of systemic? The unintended consequence of this is that anyone small will be out in the cold, left to die or vulnerable to be bought and swallowed up by the big guys. (This is what Prof Johnson warned about recently, so it’s more his idea than mine)

Second, what is the price of this guarantee? Insurance should have a price
.
Finally, what if a healthy bank like HSBC says, to quote Sarah Palin, “Thanks but no thanks”?

Comments on: When’s the Make-Up Test? Tomorrow.

By: James Kwak

By: D. Nowakowski