The Contagion Effect

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One of Ezra Klein’s readers argues that there are some practical problems to nationalization that its supporters haven’t addressed.  One of them is the contagion effect:

Take JPMorgan Chase, for example….It continues to operate from a position of relative strength, meeting capital requirements, and it still has a significant market capitalization. Yet it has also taken TARP money. Should JPMorgan Chase be nationalized in this scenario? If you say yes, why?….And what do you do when you seize JPMorgan Chase? Do you keep management, which did better than just about anybody else? Or get rid of them? Do you really think you’re going to find a better CEO than Jamie Dimon?

….And if you say no, let them stay private, consider the fate of this bank if other large banks are nationalized. Investors would flee the stock, fearing it was next. Short sellers would pummel the stock. The company would face a difficult time raising capital. Business customers would flee to government-owned banks. It would be, as Blinder argues, just a matter of time.

This is a real issue, but there’s also a fairly straightforward answer: do all the nationalizations at once.  The Treasury Department is already moving ahead with its “stress tests” of large banks, and if they chose to, these tests could be used to decide which banks need to be nationalized and which ones don’t.  Then, once the tests are done, the findings are announced at a stroke.  Banks A, B, and C are being taken over.  Everyone else gets a clean bill of health.

If anything, this would help banks like JPMorgan (assuming they passed the stress test, of course).  After all, investors are fleeing bank stocks already, and a firm statement of who’s healthy and who’s not would give investors some basis for thinking that the healthy banks really are healthy and aren’t going to be taken over.  Business customers would also be reassured, and the Fed has made money so cheap, and set up so many term lending facilities in the past year, that non-nationalized banks would almost certainly compete on an equal footing with the banks that are government owned.  That’s how it worked in Sweden, where two banks were nationalized during their banking crisis without bringing down the others.

There are plenty of technical and operational issues with nationalizing gigantic banks, but the contagion argument strikes me as one that can be addressed fairly effectively.  If the tests are seen as fair, and the results are announced all at once, the system will not only survive, it’s likely to be strengthened.

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DEMOCRACY DOES NOT EXIST...

without free and fair elections, a vigorous free press, and engaged citizens to reclaim power from those who abuse it.

In this election year unlike any other—against a backdrop of a pandemic, an economic crisis, racial reckoning, and so much daily crazy—Mother Jones' journalism is driven by one simple question: Will America will move closer to, or further from, justice and equity in the years to come?

If you're able to, please join us in this mission with a donation today. Our reporting right now is focused on voting rights and election security, corruption, disinformation, racial and gender equity, and the climate crisis. We can’t do it without the support of readers like you, and we need to give it everything we've got between now and November. Thank you.

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