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Bad Banks: A Priceless Model?

Thursday, 17 Sep 2009 | 12:21 PM ET

Out here in Germany the debate about bad banks is heating up. Is our model actually working? Is the shifting of toxic assets from banks’ balance sheets into as specially created bad banks, the right answer to stabilize the financial system?

I looked at two interesting issues, which could bring us closer to the answer:

  1. Band banks have not turned out what we would call a blockbuster. Only WestLB and Hypo Real Estate are so far in the boat, with HSH Nordbanken still thinking about it and for the rest of the regional state-backed banks staying rather quiet.
  2. Rating agencies, such as Moody’s, feel rather reluctant to give bad banks a credit rating. To put it in a nutshell, they argue bad banks don’t solve the issue at hand in the long term, as the transferring banks actually keep full liability for future credit losses. This will also have an impact on banks’ capital requirements.

This means that after a lot of huffing and puffing to pull the “bad bank bunny” out of the hat, the model is flopping. Support is scarce among two fundamental parties needed to make it work: those who should make use of it (banks) and those who make the bad banks model work well (rating agencies) by giving them a potential market value, so banks can find investors and sort out their balance sheets.

Only if that is the case will we see lending activity picking up again. But how can you sell anything without a price tag?

An estimated €230 billion ($339 billion) worth of toxic assets are still floating about in our German financial system and credit lending has fallen by 5 percent in the second quarter of 2009. Our finance minister Peer Steinbrück continues to warn about a credit crisis and sees our regional state-backed banks as a “systematic risk,” especially to the back bone of our German economy: the SMEs.

Fine, who is to blame here?

The rating agencies that have turned full blast from being too lax to being too prudent (I kind of understand their attitude)?

The banks that don’t play ball with the Government’s effort and fail to apply?

The government for creating a model that may give short-term relief, risking long-term stability of transferring bank (all about pre election–image creation)?

What do you think, should rating agencies chip in here and actually enable detoxification or should we re-model the already re-modelled bad bank idea?

Questions or comments? Contact Patricia Szarvas here.

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