My bit part in the Krugman-Sorkin debate

There is – at the New York Times – a spat between Paul Krugman and Ross Sorkin over whether Krugman was ever in favor of wholesale bank nationalization. 

I had a bit part in this debate – so I think I can offer some perspective.  Krugman debated the issue with me in his blog:

Who to nationalize (somewhat wonkish)

John Hempton somewhat misunderstands my point, but that’s OK. I should have been clearer — and he and I actually seem to be mainly in agreement.

I was not saying “nationalize all the banks”; I was saying do what the Swedes did — in tandem with a guarantee on bank liabilities, take the banks with zero or negative capital into receivership. It’s really important that you do this: if you offer a blanket guarantee on the assets of a bank that’s already underwater, you (a) are very likely to take a large hit on taxpayers’ money, without any share in the upside (b) create a huge moral hazard/looting incentive.

Basically, you really don’t want to turn Citigroup into a $2 trillion version of Lincoln Savings and Loan. If you guarantee the liabilities of a stronger bank, by contrast, it’s probably OK even if you don’t take it into receivership.

Let me also say that I think a blanket guarantee without some kind of seizures will just fuel a vast — and justified — populist rage.

Anyway, I think Hempton and I are more or less saying the same thing: guarantee all bank liabilities except for [fill in the blank here], while taking over large banks that are essentially insolvent.

I remember this well.  I thought it perfectly reasonable to nationalize large banks – but only after due process.   I thought that the Government should issue a “guarantee” over all big financial institutions – especially if they could get away with an implicit guarantee (as per the statement “no more Lehmans”).  And then they should have a process for determining which banks they would confiscate.  The process should determine how much additional capital that the bank would be required to raise.  If they did not raise it then they should nationalize it.  The idea was to nationalize in a way that respected the property of private equity providers.  [Incidentally the stress tests and the compulsory capital raises worked out roughly this way…]

I thought that nationalization without due process would be a disaster.  I worried at the time that Paul Krugman was in favor of some things that did not look like due process.

And indeed he was.  He was explicitly in favor of nationalizing Citigroup and Bank of America.  I thought he had no process for arriving at those two and wished to call him on that.  I happened to agree with him on Citigroup – but I disagreed with him on Bank of America and was busy buying shares.  When we started taking money for clients (June 2009) Bank of America was our largest starting position.  [Incidentally I thought that Barclays would probably wind up as Government property – and I seem to have been wrong on that.  We all got things wrong.]

Krugman was wrong about BofA.  Nationalization of it without a process (as per the confiscation of WaMu) would have been a disaster – a death-blow for confidence in the system.  It would – in my view – have led to the nationalization of the whole system – something that Krugman never advocated.

Krugman did want to nationalize banks that were ex-post sovlent (BofA in particular).  I think he wanted a process for doing it (witness his comment about negative net worth) – but he never spelt out the process.  Moreover he was polemical on nationalization and weak on process more generally. 

Sorkin is flat wrong when he says that Krugman wanted to nationalize the banking system.  I call it that way as do most other commentators.  But Krugman’s position is hard to defend because he was in favor of some nationalization, some of the nationalization he was in favor of (particularly BofA) looks flat-out-dumb and he never spelt out a process to get it right.