WASHINGTON (AFP) — After struggling with little success to stem a financial panic, US authorities raised the possibility Thursday of direct capital injections to troubled banks as a means of shoring up a fragile system.
Such a move would follow similar action by British authorities, and would give the government special shares of the banks in exchange for helping boost badly needed capital in an effort to unclog credit markets.
"These capital injections are something that (Treasury) Secretary (Henry) Paulson is actively considering," White House spokeswoman Dana Perino said.
The concept of capital injections "was a part of the rescue package that the president supported," Perino added.
"And it gives the Treasury secretary a range of possibilities, and investing in banks directly was one of those authorities. And Secretary Paulson can use that authority as he sees fit."
Paulson said this is one option authorized by emergency legislation giving the administration 700 billion dollars to buy up distressed assets from a real estate meltdown.
"We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalization of financial institutions of every size," Paulson said Wednesday.
John Ryding at RDQ Economics said such a move would help stabilize the banking system and go a long way toward easing the crisis.
Ryding said the move announced by British Prime Minister Gordon Brown, who has urged other governments to take similar steps, would likely be discussed by the Group of Seven finance chiefs gathering in Washington this week.
"We hope his Chancellor Alistair Darling is an effective marketer of these ideas in Washington," Ryding said.
"Our hats are off to (Brown and Darling) and, if Treasury Secretary Henry Paulson follows their advice, we could finally have found our wider firebreak."
Senator Charles Schumer also urged the administration to consider this type of action.
"London's response to the turmoil in its financial markets is something we should consider here," Schumer said.
"Many experts agree that recapitalizing US banks directly would be an effective and less costly way to address the frozen credit markets. Under this plan, the government would receive equity stakes in return for providing capital or liquidity. This would allow taxpayers to share in any upside potential of our nation's banks."
Schumer said there is a precedent in the Reconstruction Finance Corporation "that sprang up out of the Great Depression."
Nouriel Roubini, a New York University economist, said the authority to inject capital did not appear to be explicitly authorized by last week's emergency legislation but that the Treasury stretched the definition allowing investment in "assets" and "any other financial instrument" to help stabilize markets.
He said lawmakers confirmed this during their floor debate.
"Paulson should be lucky that his early opposition to such public capital injection in the financial system did not prevent Congress -- via the back door -- to do what was right," Roubini said.
Some analysts remained lukewarm to the idea.
"The fact that the Bush administration is considering this step, which would mean the federal government would be a part-owner of banks, indicates how worried policymakers are," said Augustine Faucher at Economy.com.
"A number of problems could arise with such a move. In particular, the federal government could end up taking an ownership stake in hundreds, if not thousands, of banks and other financial institutions. It would be better for the Treasury to wait and see whether buying up the bad assets is enough to restore calm, and then turn to partial nationalization if those efforts are insufficient."
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