October 15, 2008 in Business

Direct stake in banks has precedents

Associated Press
 

WASHINGTON – For all the thorny free-market issues raised, the big U.S. intervention in banks does have precedents – from wholesale wartime takeovers of entire industries to the seizing of hundreds of failed savings and loans in the 1980s. Most nationalizations have been temporary, but some endure, like Amtrak.

The government has taken stakes in banks, railways, steel mills, coal mines and foreclosed homes.

President Bush’s announcement on Tuesday that the government would directly invest up to $250 billion in the nation’s top financial institutions was the latest step in increasingly bold efforts here and abroad to prop up a financial system near collapse.

It was presented as a last-resort intervention. But already this year, the Federal Reserve had taken an $85 billion stake in failing insurer American International Group, which it later upped by $37.8 billion. And it provided a $29 billion loan to help JPMorgan Chase & Co. buy investment bank Bear Stearns. The government took over mortgage giants Fannie Mae and Freddie Mac, pledging up to $200 billion.

During World War I, the government nationalized railroads, telegraph lines and the Smith & Wesson Company. During World War II, it seized railroads, coal mines, Midwest trucking operators and many other companies and even, briefly, retailer Montgomery Ward.

Not all takeover efforts go through.

President Truman tried to nationalize the steel industry in 1952 to avert a strike he claimed would hurt Korean War efforts. But the Supreme Court stopped him, saying he failed to cite any legislative authority.

Others can last and last. One major friendly takeover remains today: the government-owned National Railroad Passenger Corporation, doing business as Amtrak since May 1971.

In 1984, Washington seized the failing Continental Illinois Bank and Trust. It continued to exist, with some 80 percent of its shares owned by the federal government, until 1994, when it was acquired by what is now Bank of America – among the first banks in which the Bush administration will take an ownership stake.

The Resolution Trust Corp. took over more than a thousand failed savings and loan institutions in the late 1980s and early 1990s, including an array of bad loans and foreclosed homes. It took six years and $125 billion in taxes to clean up that mess.

The RTC was modeled on the Reconstruction Finance Corp., which made loans and bought stock in distressed banks during the Great Depression.

Administration officials emphasize that the recent bank interventions are temporary and argue that they are in the national interest – even if seemingly at odds with hallowed private-enterprise principles.

“These measures are not intended to take over the free market, but to preserve it,” Bush said on Tuesday.

“The federal government will not be running banks,” said White House spokesman Tony Fratto.

Peter Morici, a business professor at the University of Maryland, said that may be a shortcoming, not an advantage. “Unless the government gets involved in the management of banks, we have no assurances that they won’t get us into this mess again, that they’re really going to start lending money to people who need it,” Morici said.

The U.S. action follows similar steps by Britain, France and other European nations.

Some critics argued that scrapping free-market principles would only perpetuate inefficiency while striking at the citadels of capitalism.

“I can’t agree with socialism. I mean this is just more government,” said libertarian-leaning Rep. Ron Paul, R-Texas.

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