Cheaper Than Wind Down

If you're stomach gets tied up in knots at the injustice and perhaps corruption of the bank bailouts, just consider one thing. Banks are not like other companies. When they fail, they are unwound via the FDIC, not through bankruptcy. FDIC has all the powers of a bankruptcy judge, plus the powers of a U.S. Trustee. Plus, it has its own (federally backed) money on the line.

Chrysler's impending bankruptcy will cost a lot, but the people taking the biggest hit are investors and employees. Through bankruptcy, contracts such as leases can be dissolved by the judge.

If, for example, Citi goes into receivership (the bank equivalent to bankruptcy), the FDIC will insure all the covered deposits and sell off all remaining assets to cover other major creditors. Most likely, the FDIC would be left holding onto all the toxic assets because there is no demand for them.

When you think it through, it becomes apparent that there is a sense of imperative to kickstart the secondary market for securitized loan assets. Not only does it preserve the capital standing of the banks, it provides a preventative balm in case any of the major banks do in fact go under. If there is a functioning secondary market, the FDIC could auction off the assets to make creditors whole, or it could preserve them on its own books, taking the income stream to supplement the fees it charges to FDIC participating banks.

But, we're still a long way off from having a functioning secondary market. Right now, all of our hard earned tax dollars are sitting on the books of the banks to keep their capital levels in compliance. That money is not being used for lending or for buying securitized loans from other loan originators. But, merely surviving, the banks are paying interest on that money. Interest that goes back to the Treasury.

If we just let the creative destruction of capitalism runs its course, the tax payer would still be out all that money (and probably more) as the FDIC takes on losses it cannot absorb, and there would be no hope of recovering any of that money. This way, at least we get interest.