Death By Optionality

The next phase in preventing potentially insolvent banks (C and BOA) from backsliding into the abyss appears to be another accounting trick. The Treasury plan revealed earlier this week will seek to convert government shares of preferred stock held in beleaguered institutions to common stock. Whoopee! I've read that Geithner likes to preserve optionality,to leave as many doors open as possible. In this case Summers and Geithner both are not willing to concede that some form of nationalization is requisite in the case if C and BOA. They prefer to not exercise that option.

There may be some rationalization for the planned common stock conversion but not everyone agrees what that is. Coincidentally, a mention of the plan Treasury wants to implement can be found in the latest IMF GFSR report . The use of a stock conversion plan is mentioned in the section of the executive summary that discusses bank capitalization:

Most capital injections from governments thus far have come as preferred shares and these have carried with them a high cost that may impair the banks’ ability to attract other forms of private capital. Consideration could be given to converting these shares into common stock so as to reduce this burden.

My favorite members of the loyal opposition school of economics including Paul Krugman and Simon Johnson have cast doubt on this maneuver. I see their point on the seemingly futile nature of the stock conversion. The IMF report does provide some counterbalance to the critical outlook on the Treasury plan. This is the same IMF that Johnson used to work for.

Update:I recently purchased a Kindle and find it very conducive to reading dry and lengthy policy papers. More so than if I were to try to read them online. For what that's worth, I'm not quite sure.