Nationalizing banks? Please, NO!

I grew up in India, when most of the banks were government owned. The few private banks were way smaller than these government entities. While India is seeking to make these large public-sector banks more efficient, here in the US there are loud calls to nationalize major banks.
Granted that we are in a serious crisis .... but, nationalize? and, yes, I have no expertise in this topic, but I don't think I am that significantly less smart than the elected officials who are expected to make this decision. So, ....

Yet, I was waiting for a real expert to articulate in simple terms the kinds of apprehensions I have on this topic. And, here is Alan Blinder on why nationalizing is not a good idea, even though it worked well for Sweden:

WHERE TO DRAW THE LINE? First and foremost, the Swedish government had to deal with only a handful of banks; we have more than 8,300. Numbers matter, because deciding where to draw the nationalization line isn’t easy. Presumably, no one wants to nationalize all the banks, thousands of which are healthy. But where do you stop, once you start?

Suppose we nationalized four banks. Bank Five would then find itself at a severe disadvantage in competing for funds with the government-backed quartet. Forced to pay higher interest rates to attract depositors and other creditors, its profitability would suffer. Soon, Bank Five might start looking like a candidate for nationalization, too — followed by Banks Six, Seven and so on.

THE DOMINO EFFECT As stock traders began to contemplate the nationalization of Banks Five, Six and Seven, their share prices would tank, and short-sellers might consign the companies to an early grave.

THE MANAGEMENT CHALLENGE The Swedes had a relatively simple task. They never had to deal with institutions of the size and complexity of our banking behemoths.

Mr. Geithner has emphasized that governments are ill-suited to manage businesses. I’d take the point a step further: Overseeing the management of dozens, or hundreds, or maybe even thousands of nationalized banks is a daunting task.

POLITICAL OBSTACLES The process of nationalization and reprivatization went amazingly well in Sweden partly because it was remarkably free of political interference. Would that happen here? You decide. My bet is no.

THE CONFIDENCE QUESTION Finally, because nationalization runs counter to deeply ingrained American traditions and attitudes, there is a danger that it might undermine rather than bolster confidence.

To which Paul Krugman responds:

1. I just don’t understand a lot of what my colleague Alan Blinder wrote. In particular, I don’t understand how the good bank/bad bank solution is possible unless you pump in large amounts of public funds.

You might say, why can’t a bank just split itself, giving the bad stuff to one piece and the good stuff to the other? Because it has to divvy up the liabilities as well as the assets. And if it gives the bad bank (which isn’t solvent) a bunch of the liabilities, this amounts to defaulting on its debts — and the bondholders will sue. So the good bank-bad bank thing seems to implicitly carry the assumption that someone, namely you and me in our capacity as taxpayers, guarantees the bad bank’s liabilities. In which case we are in fact nationalizing the losses, but privatizing the gains.

Well, here is what I think: the bottom line is essentially how much we (taxpayers) absorb the losses, and allow private interests walk away with profits. That is the bullet we need to bite. I am ready to let go of the gains that will flow towards private interests (and see if we can somehow tax them), and just take over the bad debts and get moving. The zombie status will otherwise continue on forever, and make economic recovery that much more a challenge.

So, Obama and Geithner, do what Alexander did to untie the Gordian Knot--take a sword and slice it. In this case, into "good bank" and "bad bank". Don't listen to economics professors for ever--we faculty, in any discipline--love to debate, and we can go on and on without reaching a conclusion.