I put up a post last night that discussed the idea of resurrecting the RTC concept as a means of clearing bad assets out of the banking system. Reuters is reporting today that there seems to be some move afoot to do something along those lines.

The details are more than fuzzy with lots of maybe we do it this way and maybe we do it that way being thrown around. The buzzword they use is “aggregator bank”. Here is how Sheila Bair of the FDIC described a potential structure:

Bair said an “aggregator bank” would be capitalized by the second half of the $700 billion TARP fund. She said it would be similar to the Resolution Trust Corp, which liquidated almost $400 billion in assets from more than 700 insolvent savings and loans from 1989 to 1995. 

The top bank regulator also said the government could require that banks also raise a portion of private equity if they want to sell troubled assets to the aggregator bank. 

“People on the street tell me that private equity investment is holding back now because they don’t know what the tail risk is,” she said.

All of this is fine but as always, details matter, and there are precious few of those at this time. If this plan like the original TARP relies on the government purchasing bad assets at inflated prices and then sitting on them in the hope that somehow lightning will strike and they will suddenly be worth more than was paid for them then it might well be and should be a non-starter. The taxpayer gift to the equity and debt holders of those banks blessed to have their mistakes taken off of their hands would be unconscionable. 

If the government chooses to buy these assets, it should do so at as close to current market value as possible. Those with an interest in the right hand side of the balance sheet will see their investment diminished or in some cases wiped out. Since we have no compunction about spending money as a nation, the institutions can be kept alive with some sort of government capitalization. Once clean of the toxic assets, they would present an attractive investment opportunity. Rather than leaving the equity and debt holders out in the cold, some scheme could exist that would channel any earnings that result from liquidating the bad assets back to them. They could also be given the opportunity to invest in the reconstituted bank, perhaps at a discount to other investors. They take the pain as they should up front, but stand to make back some of their money if things turn in their favor.

Perhaps some of the talk today represents movement. Let’s hope so.

more: here