We Need a Permanent Solution for Our Banks

Greg Smithsimon on Bank Nationalization

THE OBAMA administration has gone to great lengths to insist that if nationalization of banks is necessary, it will only be temporary—as if the general public thinks the U.S. government was planning to permanently nationalize banks.

Yet that’s exactly what should be done. Time and time again, our experiences in the United States and in the global economy have taught us that banks are like weapons of mass destruction: they can cause so much damage to our society that they have to be guarded by stable states rather than rogue private interests who will exploit them for their own dangerous ends. On a regular basis privately held banks decimate our economy and those of an inexhaustible list of other countries. The inevitability of privately owned banks wriggling free of regulation and engaging in dangerous speculative activity for private gain is by now clear. The cost is unacceptably high.

The Realities and Benefits of Nationalized Banks
Nationalizing the banks can bring us two different sets of improvements to our current situation: As retail banks, they will provide consumers with healthy, stable replacements for the bankrupt zombie banks now paralyzing the economy. As democratized versions of the Federal Reserve Bank, they can oversee financial reform and fiscal policy that serve the needs of real Americans.

If we nationalize retail banks, they can provide checking and savings accounts, make loans for homes and small businesses, and do so without the speculative madness that private banks recently exhibited. Thus state banks would restore liquidity to the credit markets, confidence in the banking system, and sanity to lending practices.

What would this look like? Dozens of countries already have such state-owned banks. The state-owned CGD is Portugal’s largest bank. Most such countries have “post banks,” including Greece, New Zealand, and Ireland. Typically, they are state-owned banks in which customers make deposits and withdrawals at the counter of their local post office. Israel just created a separate postal bank company in 2006. Great Britain’s National Savings and Investments is state owned, and just last month a British survey showed 75 percent of the public supports creation of a new, publicly owned post bank as an alternative to private banks.

This would not be a new idea in the United States, which had a post bank until 1967. (The attraction of the bank originally was that only its deposits were insured by the full faith and credit of the United States. The FDIC eventually extended that benefit to private banks as well, but the recent banking debacles raise the question of whether such public guarantees should be made without the kind of oversight offered by public control.) Thus one promising model is for the United States to convert failed private banks into a system of publicly owned banks that could use depositor savings to make responsible home and business loans.

Beyond creating stable retail banks, public banks are also useful for macro-level policy purposes: state-run central banks set interest rates and implement de facto regulatory safeguards, and the more that macro-level banks are in the hands of the public instead of bankers on loan from Citibank, the more they can operate in the public interest rather than in the interest of speculative investment banks.

The Federal Reserve is already a state-run, not-for-profit, macro-level bank. But while it’s a government agency, its board of directors are made up of bankers from the very institutions that have lately run amok (and then aground). The Fed sets interest rates and makes important policy decisions about the U.S. economy. But in a perverse reversal of democracy, many of its executives are actually picked and installed in their positions by the private banks themselves. The desire for a more democratic bank dates to the Fed’s creation. Populists like William Jennings Bryant wanted the bank under public control, but banks wanted it controlled by bankers. The bankers won. While most Fed directors are picked by the private banks, the board of governors at the top is appointed by the president. And past presidents have almost always selected yet more bankers for those fourteen-year governorships.

At the moment, the Fed has two vacancies that could be filled by people who actually live up to the Fed’s mandate that governors represent groups like consumers and labor unions. While the first step is to begin appointing Federal Reserve governors who don’t represent the banking industry, the next step would be to let the public choose the second-tier directors rather than the banks, either through elections, state appointments, or other more representative means. If done poorly, political control could mean the bank would do the bidding of whatever political party was in power. But just as the Fed has successfully assuaged private banks’s fears that a member from Citibank would only represent Citibank interests (rather than those of Citibank and the rest of its ilk), so insulation from political influence can be structured into a more responsive, democratic, and transparent Federal Reserve Bank. In this model, nationalizing a bank would mean giving the public a real voice in an institution it already owns.

Changing the Debate: Rhetoric in Favor of Nationalizing Banks
Part of the reason too few Americans recognize the successes of public ownership is because the job of explaining this alleged “socialism” has lately been delegated to Republicans, Newsweek, and the New York Times. They’re constitutionally unsuited for the responsibility. Conservatives are already caricaturing mere FDIC receivership as socialism, so we should at least do them the service of making the argument in favor of permanent public ownership of banks.

Predictable giggling and eye rolling emanates from the Washington establishment at the mere suggestion that government can do some things better than the private sector. Simon Johnson, (whose 18-month stint as chief economist for the International Monetary Fund is supposed to burnish rather than tarnish his credibility) sniggers at the idea of permanent nationalization. Making the rounds of talk shows, Johnson says of permanent nationalization, “You don’t want your bank run like the Department of Motor Vehicles, right?” Let’s pursue that apt comparison: both banks and the DMV have long lines, and they are closed on presidents’ birthdays. But the DMV never destroyed the economy, put home ownership out of my reach, or left a roomful of my friends unemployed and increasingly desperate. Jeff Madrick and others have begun countering Johnson’s thirty years of conservative orthodoxy by making unapologetic, frank arguments in favor of big government. Further expanding that discussion requires putting more robust forms of bank nationalization on the table as well.

Public ownership is said to reduce innovation. But all we need banks to do is accept deposits and reasonably review applications for loans. Anything else a bank tries to do can be dangerous. In other fields, the risk of stifling innovation might have a downside: I appreciate the innovation in cell phones, for instance, that brought wonders like ten-cent text messaging. But innovation in banking has only brought us credit default swaps, derivatives, and toxic assets. In addition to innovation, there’s the claim that nationalization would reduce banks efficiency. As Adam S. Posen of the Peterson Institute warns, “The Mitterrand government nationalized French banks in the early 1980s as a matter of socialist ideology, not necessity, intending to keep the banks in the public sector—and that was a huge mistake. The resultant misallocation of capital interfered with innovation and discipline in the French economy and led to a few tenths of a percent lower annual rate of growth in productivity and GDP.” Put aside his dubious assignment of blame: leaving U.S. banks in private hands over the same period has led us into a downturn that people like Warren Buffett are calling more frightening than the Great Depression. Today, we can barely imagine growth slowed by just a few tenths of a percent.

Nationalizing banks would make them less like ponzi schemes and more like dependable public utilities. Public ownership of banks doesn’t sound so exceptional, of course, when we consider it in light of the successful public ownership of water companies, electric and gas utilities, or the “socialism” of public schools, libraries, and fire departments, not too mention the single-payer health care most Americans want and the rest of the industrialized world already enjoys. Reliably functioning banks are just as important to us today as reliably functioning utilities. What Enron did to electricity, privately owned banks did to money.

The Obama administration has already nationalized one bank function: the government announced in March that rather than subsidizing private banks to make student loans, it would just lend money to students directly and save taxpayers $4 billion a year that had been ladled out to subsidize the profits of banks making loans the government can make better and cheaper. This may be a dress rehearsal for a challenge to the health insurance industry, but it saves money by expanding government’s role.

The government is not new to the field of lending; it effectively created the modern home mortgage starting with FHA and VA loans, followed by Fannie Mae and Freddie Mac. (Before the government, you needed a third down and had to pay back the un-amortized loan in ten years instead of thirty. Consequently most people rented rather than owned their home.) By some accounts, the government is in actuality the only lender still standing today. Publicly organized retirement funds, home loans, and student loans have proved themselves less prone to busts, speculation, and overcharged fees than privately controlled ones.

Republicans may continue trying to argue that everything Obama plans to do, down to adopting a puppy without asking it to pay rent, is socialism. We’re supposed to be scared because the Soviet Union messed up socialism. (Russians have now also messed up capitalism, but we haven’t given up on that yet.) There are a lot of things we do better than Russia, and there’s no reason to think we wouldn’t do socialism better, too. But nationalizing banks isn’t really socialism. As Sheri Berman pointed out recently in Dissent, shared public control of critical public functions has a proud history as part of good old-fashioned social democracy.

Publicly owned does not have to mean government owned. Counties have been electing people to the position called “CEO” for years; so one approach to public control would be for us each to cast a vote for CEO of the nation’s bank. Alternatively, banks could be structured as member-owned credit unions, organized as non-profits, or run, as banks have been, by groups like labor unions and community organizations. However they were structured, if publicly accountable banks had been in charge of writing mortgages, it’s hard to imagine we’d be standing in the puddle of a burst bubble right now.

This is a difficult time economically, but it’s one full of evident promise. That’s because we need to make short-term patches to the economy, but we can also implement long-term solutions. Nouriel Roubini, an economist who predicted the current downturn, recently observed of the banking industry that “the market friendly solution is temporary nationalization.” That is precisely the problem. Before that, the market friendly solution was deregulation. Before that, it was cuts to social programs, and before that, the market friendly solution was savings and loan’s involvement in the last real estate bubble.

But none of these solutions were in the best interest of the majority of Americans. Reform that best serves Americans requires securing privately held banks in the public trust. Doing so could create a stable banking system and put macroeconomic policy in the hands of the public–not big banks. As long as banks are in private hands, their persistent lobbying for deregulation will lead to another debilitating financial crisis. One of the most important long-term corrections we can make is to rescue banks from the narrow private interests that misdirect them and establish them as the responsible, dependable lending institutions that we need. Anything else, as the term “temporary nationalization” implies, is just a temporary solution.

Greg Smithsimon is assistant professor of urban studies at Barnard College in New York City. He has previously written for Dissent, The Village Voice, and In These Times.