Nationalisation of banks is key to recovery

Words are funny little creatures. Often dissatisfied with the dry business of merely defining, some words look to inspire reactions in people. Words like 'leverage', 'securitisation' and in some circles, even 'capitalism' have long since shed the confines of the Oxford Dictionary. Fortified with innuendo and allusion, these words are bestowed a special knack to repulse. They have now become the nasty words of the English language.

In doing so, they replace veterans of the nasty word library like 'bailout' and 'big government'. Currently there is a spirited debate among economists underway about the fate of another word, and it's none other than the dreaded N-word, Nationalisation. After decades in disrepute, the merits of nationalising major UK and US banks are being seriously discussed. I say it's time to forgive the word for past sins and give the idea of a temporary government takeover another chance.

As evidenced by the turmoil of the last few weeks, the ad-hoc approach to fending of this crisis thus far has not worked. The losses posted by major UK and US banks highlight a sad fact about the state of these institutions, not just that their balance sheets are still a toxic mess but that we still have no idea exactly how toxic.

Given the amount of taxpayer money already pumped in to prop up these banks, it's a shameful state of affairs that the governments involved have yet to demand an open, honest account of the situation. Transparency and trust are key prerequisites for financial institutions to do business, yet these firms are holding the cards very close to their chest. We are in a high stakes poker game with buy-in fully funded by taxpayers.

Nationalisation will open up the books of these failed banks. Before any more recapitalisation takes place, let's have these banks write down all their bad assets. As things stand now, it is not in management's or the shareholders' best interest to press forward with these painful admissions.

Furthermore, with more funds on offer, these banks hope to keep hobbling on. In an environment like this, each institution looking out for its best interest spells disaster. Adam Smith's invisible hand is choking the economy to death.

Nationalisation would allow governments to play its (rightful) role. It would enable them to pool together all the bad assets into a 'bad bank', an idea that has a successful precedent in Resolution Trust Corp that emerged from the saving and loans crisis of the 1980s. Extracting these toxic assets would get us back on the road to recovery, with an immediate impact on sentiment.

Armed with the knowledge that the bad assets have been segregated and contained, banks can once again get back to the business of lending and dealing with each other.

Additionally, nationalisation would expedite the ability of the remaining good assets to continue on as profit generating entities, perhaps in a more consolidated mould. Finally it opens the door to private capital entering the space, thereby alleviating the burdens on the state.

Arguments citing the long-term failings of government owned banks are valid but remain exactly that, a long-term concern. For now we need immediate action for alarming near-term issues. This is a practical solution specific to the context, not a philosophical debate.

There is no question this is a painful and expensive alternative.

However, it is time for the taxpayer to demand some return on their investment. After the brutish first response to the crises, policymakers can make way for something more civilised.

- Sidarth Menon, CFA, is an Investment Manager at Fortis Private Bank.