Issue of the week: Is it time to nationalize the banks?

Suddenly, the unthinkable has become part of the national conversation, said David Sanger in The New York Times. In Washington, there is now serious debate about whether the Obama administration should “nationalize a huge swath of the nation’s banking system.” Some of the country’s biggest banks, including Bank of America and Citigroup, are growing weaker by the day as their losses continue to mount. Restoring them to financial health will require hundreds of billions of dollars in fresh capital, and the only entity with that kind of money is the federal government—in other words, the American taxpayer. The question is, “what do taxpayers get in return?” Not much—if the U.S. takes only a minority stake in the banks, as it has with Bank of America and Citigroup. The government has pledged to absorb hundreds of billions of dollars worth of losses on those banks’ “most toxic assets.” Yet because Uncle Sam’s equity stakes are relatively small, taxpayers would see only limited gains if the banks return to profitability. Full nationalization would allow the government to fire management, wipe out current shareholders, and start afresh. And until the banks are returned to private ownership, the profits would belong to the taxpayers.

If only it were that simple, said Peter Eavis in The Wall Street Journal. In practice, nationalization would cause at least as many problems as it would solve. For one thing, where would the government find competent people to run the banks it seizes? “With so many executives tarnished by the crisis, there isn’t a long list of seasoned candidates ready to step into the financial storm.” And it would be almost impossible to keep politics out of the process. “The longer banks remain in government hands, the more likely they will be used to further government policies.” Does the nation really want its banks turned into an arm of the Democratic Congress?

The problems don’t end there, said Tyler Cowen in TheAtlantic.com. A government takeover would save banks that would otherwise fail, but what about “the banks that sit at the margin”? Ideally, private investors would supply the capital they need. But as long as the threat of nationalization hangs over the banks, private capital won’t touch them. “Why put your private capital into a sector” that any day now could be nationalized?

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That need not be a deal breaker, said Felix Salmon in Portfolio.com. The Federal Deposit Insurance Corp. can determine which banks are solvent and thus safe for private capital. Once the sick banks are culled from the herd, the government can take them over, clean them up, and sell them back to the private sector. “Since the government is taking virtually unlimited downside, it should by rights have all the upside as well—i.e. ownership.” There are no good options in this environment, but nationalization may be the least bad one.