Why not tax the bond holders?

The Great Bond Bailout, By Justin Fox @ Time News, Thursday, Mar. 12, 2009

But banks also borrow on wholesale markets, mainly by issuing bonds. About $2.6 trillion of bank funding in the U.S., 20% of the total, comes from such debt securities, according to the FDIC. At the most troubled of the big banks, Citigroup, the figure is 27%. (Citi’s domestic depositors account for just 16% — its main deposit base is overseas.) These bank bonds are mostly in the hands of large, sophisticated institutional investors — pension funds, insurance companies, mutual funds. It may be too much to ask small depositors to monitor the risks at the banks where they put their money and pay for getting it wrong. But these bond buyers are pros. If there is to be any market discipline of risk-taking by banks, bond investors ought to be the ones who enforce it by withholding their cash from the bad apples — and paying the price for misjudgments. Plus, a few concessions from creditors could ease the burden on taxpayers dramatically. If Citi’s $486 billion in wholesale debt were converted into common shares — admittedly a pretty extreme solution — the company’s balance-sheet woes would evaporate. Which is why these arguments have been gaining in popularity. “I think it’s very important that the creditors in this crisis take a hit,” said New York University finance professor Matthew Richardson at an NYU conference in March. “We need to try to transfer some of the risk from taxpayers to the financial system.”