Sen. Schumer: Failed 'Zombie' Banks Should Be Nationalized

Posted by Ryan Grim, Huffington Post at 7:00 AM on February 21, 2009.

Sen. Charles Schumer, D-N.Y., believes that failed "zombie" banks, no matter what their size, should be taken over by the government, which should then wipe out shareholders, fire management, clean up the banks and quickly resell them into the marketplace. Such a move, he cautioned, should come only if the "stress tests" being conducted by Treasury Secretary Timothy Geithner determine a bank to be insolvent.

In an interview with the Huffington Post, Schumer sought to clarify and elaborate on widely reported comments he made last Sunday on ABC's This Week.

During the show, Sen. Lindsey Graham, a Republican from South Carolina, turned a few heads by stating that nationalizing the banks should be a policy option on the table.

Responding a few moments later, Schumer said on ABC, "I would not be for nationalizing. I don't think government is good at making these decisions."

But on Friday, Schumer argued that there are good and bad ways to nationalize banks, and that the loaded nature of the term often leads to confusion. " 'Nationalization' means many different things to many different people, and somebody needs to clear it up," said Schumer. "We have to distinguish. I like the good and don't like the bad."

Schumer also pressed that nationalization should be a last resort. "It should be the last arrow in the quiver. The danger here is when a government takes [a bank] over, it drives down shares of other banks that might not be in as bad shape," he said. "Let me be clear about this because I want to be very careful: I am not speaking of any specific institution, just a general comment about a general situation. And I don't have -- and please write this -- I don't have any specific institution in mind."

Schumer contrasted nationalizing and holding onto a bank with taking over a failed firm for a temporary period. He said:

"Bad nationalization is when the government takes over these institutions and runs them for a long period of time. I don't think this is a good idea. I know President Obama doesn't, and I don't think most Americans do.

"The government is not good at making these decisions and managing assets in general. It's a different way of thinking in government. The government bureaucrats make for bad bankers, and you'd probably end up making it worse."

A second problem with bad nationalization, he said, is that it concentrates too much power in the hands of government.

"There's a real danger of crony capitalism," he said. "Eisenhower himself warned of the military-industrial complex. If the banks were nationalized in the way we're talking, the bad way, you could end up having a military-industrial-financial complex that could threaten, in some ways, our freedom."

That doesn't mean that the government shouldn't take over failed banks -- even large ones -- he said.

"There is a good type of nationalization. I think that the [Treasury] secretary was wise to do these stress tests," he said. "They're going to find some banks that are hopeless, that are zombie banks."

Those zombie banks, once discovered, he said, should be nationalized.

"Instead of keeping them alive for a long time," he said, "I do agree with people like Roubini or Mishkin -- and I think people would support this -- that the government should come in. And what the government would do would be: wipe out the shareholders, put in new management -- wipe out the old management and put in new management -- and then let the bank run sort of independently, without day-to-day government intervention."

(Schumer is referring to economist Nouriel Roubini, who has called for nationalization, and Frederic Mishkin, a former member of the Federal Reserve's Board of Governors.)

"This is not that different than what the FDIC is doing in certain places," he said. The Federal Deposit Insurance Corp. has taken over a number of banks, guaranteed the deposits and begun the process of cleaning their balance sheets to prepare to reopen them as private institutions.

Earlier Friday, Sen. Chris Dodd, D-Conn., chairman of the banking committee, made similar remarks on Bloomberg TV.

Schumer said that several conditions applied to his support of nationalization. "Government ownership should be brief. We should try to sell the cleaned-up bank quickly," he said. "And second, for whatever time the government owns the institution, it shouldn't be running it day to day because of the dangers I cited before."

Schumer was asked if there are any financial institutions that are too large for a government takeover. He said that there are not.

"I don't think this is a question of size. This is a question of viability. There may be some small and some big that are zombies, basically, that can't really be saved, and you just come clean," he said. "It should be regarded as a last resort, but a necessary resort, for some of the worst institutions and better than sort of a death of a thousand cuts for these institutions -- where you just keep pumping money in, they stabilize for a while, get worse, etc."

Schumer said that the stress test proposed by Geithner, aimed at determining which banks are solvent, should be thorough. Because so many mortgages have been packaged together and sold by the originating institution, many are now divorced from the documentation that would be needed to determine their value.

"I think the Treasury has the ability to get at all the documents, and the banks themselves have the right to those documents, and they can request them from the originators," he said. The test, he said is "supposed to be relatively short. It may not be days, but a month or two."

If nationalization does become necessary, said Schumer, a new term may be needed to distinguish it from "bad nationalization."

"It's a good idea to have a different term," he said when told that Huffington Post readers had been proposing new names.

Read a list of their suggestions, he gave the thumbs-up to "detoxification."

"Of the ones I've heard, that's the best one so far," he said.

Tagged as: economy, banks, nationalization, nationalization, chuck schumer, econopocalypse, zombie, zombie banks, failed banks, schumer on nationalizatio