Ackman makes the mistake of thinking that everything will be fine once a bank has achieved a high capital ratio by converting its bonds and preferred stock to common equity. There are a lot of other ways to measure balance sheet leverage; a ratio of the sum of unimpaired loans and securities marked at par to the sum of FDIC insured deposits and guaranteed bonds would tell the taxpayer pretty clearly how much is at risk leaving aside the equity infusions and the TARP, and it would define the good bank. If the point of the conversions is to suspend interest and dividend payouts to boost retained earnings, why not negotiate payment moratoria instead of conversion? None of the panelists seems to understand that bank lending is a high volume, low margin business that needs high leverage to achieve mediocre returns on investment. In fact, the impetus behind the problematic concentration in the industry and the extension of basic intermediation of deposits and loans into trading and all the rest is the need earn fee income and transactional revenues in order to produce returns on investment sufficient to attract capital on a competitive basis. When banking was a boring business was when bank stocks were boring.

If the objective of government policy in response to the crisis were solely to restart lending in what Stiglitz terms the productive area of the economy, we would have seen a magnification rather than diminution of the competitive advantages of banks stemming from the Federal deposit insurance and access to the Federal Reserves’ discount window for liquidity. It’s the global systemic risk of counterparty failure that has been the area of greater concern, evidently,
and for this it has been important to show the world that the US stands behind its banks.

No solvent nation lets its banks fail, as Martin Wolf of FT has said.