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Stay away from bad banks and risk insurance

ECONOMICS: Nationalisation on a temporary basis would efficiently resolve our banking problems, writes KARL WHELAN @Irish Times

THE GOVERNMENT has put €7 billion of public money into AIB and Bank of Ireland, but it has also employed economist Peter Bacon “to assess the possibility of creating a bad bank or risk insurance scheme to take so-called toxic debts off the banks’ balance sheets in a bid to free up new lending”.

It is crucial that the Government deals with our banking problems quickly and efficiently. However, it is my opinion that the bad bank and risk insurance proposals would be inefficient and unfair.

In normal circumstances, when a firm can only survive with a significant equity investment from an outside investor, that investor gets a dominant ownership stake, reflecting the significant risk they are taking on. The Government, however, is very reluctant to take banks into public ownership.

Understanding this reluctance, bankers have been promoting the idea of a bad bank. The idea behind the current round of bad bank proposals is that governments buy “toxic assets”, thus removing them from banks’ balance sheets. However, removal of toxic assets is the not the key issue: banks could remove these assets themselves by simply writing these loans down to zero. The relevant question is: what price does the Government pay for these assets?  Link to full article

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