Former FDIC Chief: Don't Nationalize Banks, It Won't Work

William Isaac - the former head of the FDIC - nationalized Continental Illinois Bank, then the seventh-biggest bank in the U.S.

The Continental nationalization went very well. So you would assume that Isaac would be pro-nationalization, right?

But Isaac is totally against bank nationalization now.

Why?

As Isaac explains in the Wall Street Journal:

Today our 10 largest banking companies hold some two-thirds of the nation's banking assets, and some are enormously complex. Continental had less than 2% of the nation's banking assets, and by today's standards it was a plain-vanilla bank. This is important for three reasons.

First, any bank we nationalize will be forced, both by the regulators and the marketplace, to shrink dramatically. We are in the middle of a serious economic downturn where deflation is a realistic concern. Do we really think that dismantling our largest banks would be helpful? I don't.

What's more, we won't be able to stop at nationalizing one or two banks. ***

Second, for nationalization to work there needs to be a reasonable exit strategy. In the case of Continental, we had scores of options for returning the bank to private hands, including a public offering or a sale to any number of domestic and foreign banks and investor groups.

Today, who has the wherewithal, legal authority, and desire to purchase our largest banks? No one comes to mind, particularly if we rule out foreign groups, which I suspect would not pass muster due to national security concerns about ceding that much power over our economy to foreign powers.

Third, who will run these companies when we dismiss the existing senior managers and board members? We had significant difficulties attracting quality people to Continental even without today's limits on compensation.

So-called experts frequently cite the success of the Swedish experience with bank nationalization in the last decade. Nothing could be less relevant. Sweden's population, economy and banking system are roughly the size of Ohio's. Sweden's largest bank is roughly 10% the size of each of our three largest banking companies. Moreover, Sweden nationalized only Gota Bank -- and that was after it had already collapsed.

The Obama administration should declare that nationalization of any major bank is off the table . . .

The guy with the most experience of nationalizing banks in the U.S. says it won't work and we shouldn't do it.

Will our leaders listen?

Note: A reader quoted Senator Bernie Sanders: "If a company is too big to fail, it is too big to exist." Several readers argue that Isaac is wrong, and that the big banks should indeed be downsized.