Friday, 6 February 2009

Romer Joins the Group of Economists Urging to Start Up New Banks, Stop Saving Failed Ones

In a wonderful article posted today in the WSJ, economist Paul Romer (photo,) the same who pioneered endogenous growth models that became the paradigm for successful policy-making since 1986, is basically telling us that bailout funds shouldn't necessarily be funneled into existing banks. The money will surely end up stuck in lenders reeling from past problems even after the transfer. The first round of TARP aid, which was probably done in a rush without thinking of the most likely consequences, ended up in struggling banks that in turn failed to create new lending.

Says Romer, a professor at Stanford University: ''Proposals for turning existing banks into good banks -- recapitalizing them, nationalizing them, transferring the toxic assets off their balance sheets, or insuring the toxic assets -- require prices for all these hard-to-value assets or, worse still, prices for derivative contracts on the toxic assets.´´ Is this likely to occur? Uhhhmmm, let me doubt it. And he adds: ''If the government starts as a shareholder in new, healthy banks that eventually end up entirely in the hands of the private sector, the political risks start small and diminish.´´ At this point, Romer's proposal sounds more reasonable than those proposed by former Bush administration officials, who were using taxpayers' money irresponsibly in the form of subsidies to reckless institutions that skipped reasonable risk-assessment rules and gambled with both their depositors' and their shareholders' money.

To read the entire article, please click here.

By the way, I would like to wish good luck to Emma Moody, a former boss of mine, in her new job as a WSJ editor after a 13-year stint at Bloomberg News.

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