Is there a better way to deal with bankrupt banks – MoneyWeek

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Ifnot,thenthiscouldbegoodforsaversandotherswhorelyonthebankforeverydaytransactions。

Thebailed-inbankwouldbeabletosellthetoxicassetsatapacethatallowedittomaximizerevenue,orevenholdthemtomaturity。

Inturnthiscouldalsopreventthemarketfrombecomingtoodepressed。

Howeverwiththisprocessyouneedtohavearegulatororcentralbank,insteadofthecourts,attemptingtorankclaims。

Thiscouldleadtomistakes。

Toavoidlegalbattles,thebank’screditorswouldeitherhavetoagree,ortherewouldhavetobelawsalreadyinplace。

3。

Goodandbadbanks

Anotherideaistosetupabadbank?

Thisbankwouldbuytoxicassetsfrombanksatapricethatkepttheminbusiness。

Theideahereisthatbankscouldthengetonwiththeircorebusinesswithouthavingtoworryaboutsellingassetsorgoingbust。

Whilethisprocessdoesinvolvebailingoutthebanks,taxpayersupportcouldbeminimizedbyeitherrecoupinganylossesviaabanklevy–aspecifictaxonbanksorbyforcingthebankstocontributecapitaltothefundthatbuysthetoxicassets。

Supportersofthismethodarguethatitminimizesdisruptionwhilereducingtheoverallcosttotaxpayers。

Theyalsopointoutthatpriortothe1929WallStreetCrash,largeUSbankswereexpectedtobailoutsmallerinstitutionswhenthelattergotintotrouble。

However,criticspointoutthatforcingsolventbankstosupportinsolventonesallowsthelatterto‘free-ride’ontheprudenceoftheformer。

Italsocreatesaformofmoralhazard,wherethepromiseofrescuemeansthatlessprudentbankscontinuewiththeirrecklessbehaviorinthefuture。

Andunfortunately,italsodoesn’tworkiftheentireindustryisinsolvent(asislikelytobethecaseinSpain)。

Ifthisisthecase,taxpayersaretheoneswhoendupfundingthe‘badbank’andshouldertheriskoflosses。

Whatwewoulddo

Allthreesolutionsarearguablybetterthanstraightbailouts,thoughthethirdoptionstillinvolvessomemoralhazard。

TheexperienceofIcelandprovesthatthefirstoptioncanwork,withthestateonlycompensatingdepositors。

We’renotsayingitwouldbeeasy,andIcelandwasarguablydriventodoitbecauseithadnootheroption,butwithsomeplanningitshouldbepossibletocreatearegimethatwouldallowbankstogobustinthefuturewithoutfearsthatcivilsocietywillcollapse。

Sadly,thiswouldalsorequiregovernment,regulatorsandcentralbankstoresistspecialpleading。

Thislooksunlikely。

Forexample,theDodd-FrankreformspassedtwoyearsagorequiretheFederalReservetoconsiderarangeofoptions。

However,asimulationofthecrisis,involvingformerTreasurySecretaryLarrySummersresultedinhimsuggestingthatanotherstatebail-outmightbeneeded(eventhoughthelegislationwasintendedtomakethisdifficult)。

Soforallitstoughtalk,MadridislikelytogodowntheIrishpath,withsupportforfailedbanksessentiallybankruptingthecountry。

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