NYT: Obama to Invent New Bank Capital

The New York Times scoops that the administration has figured out how to give the banks another bailout without having to go to an angry Congress: quasi-nationalization.

Obama is considering converting its bank loans into equity. In other words: converting the debt it holds into stock.

This story is something like a trial balloon for the administration, which is planning to release the results of its so-called stress tests in the next few weeks. You can infer from this leak that the results aren’t good and that the banks need a ton of new capital.

How much new capital? Well:

Treasury officials estimate that they will have about $135 billion left after they follow through on all the loans that have already been announced. But the nation’s banks are believed to need far more than that to maintain enough capital to absorb all their losses from soured mortgages and other loan defaults.

Sounds like hundreds of billions of dollars more to me. The paper notes that the Obama budget also has a placeholder of $250 billion for bank bailouts for next year.

And the Times reports that Bank of America will “probably” need billions in new capital. There’s no sourcing there, so I can’t tell if the paper is reporting the conventional wisdom or if it actually has a scoop there.

The new strategy would follow a similar deal the government made with Citigroup a few weeks back, where it converted its preferred shares into common shares comprising a 36 percent stake in the company.

And it would go a step toward nationalizing the banks, rather than continuing to funnel them new money. The Times hints at the increased risk involved, but should have spelled out that this means if the banks go bankrupt, we lose all our money. If they go bankrupt while we hold their debt, we could at least salvage some of it.

The Treasury would also become a major shareholder, and perhaps even the controlling shareholder, in some financial institutions. That could lead to increasingly difficult conflicts of interest for the government, as policy makers juggle broad economic objectives with the narrower responsibility to maximize the value of their bank shares on behalf of taxpayers.

How much do you want to bet they wouldn’t exercise control even as the controlling shareholder?

I’ll leave the last word to a commenter on the Times website:

Nationalization of the banks by the backdoor sounds sweeter than Socialism for the banks by the front door.

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Ryan Chittum is a former Wall Street Journal reporter, and deputy editor of The Audit, CJR's business section. If you see notable business journalism, give him a heads-up at rc2538@columbia.edu. Follow him on Twitter at @ryanchittum.