Administration to Convert Preferred Bank Shares to Common Stock


If you ask me, converting the “preferred” shares of stock that the U.S. government currently owns as a result of the TARP “capital injection” into common shares makes perfect sense as policy. It will slightly reduce the ongoing financial burden on banks, since they won’t need to make dividend payments. It will continue to give the government upside in case federal rescue efforts prove super-successful and the value of the rescued firms skyrockets. And it opens the possibility that the government could use its large stake in the firms to influence board of directors composition and otherwise exert control over the firms. But the idea that it’s a way of giving banks more capital without spending more money didn’t make sense to me.

And it doesn’t make sense to Tyler Cowen or Paul Krugman either. As James Kwak explains “If you don’t give a bank any more money, it doesn’t have any more money.”

Basically, instead of having found a philosopher’s stone that lets Geithner and Obama give banks more capital without spending more money, they’re changing the accounting situation. But since the entire premise of the first round of TARP capital injections was that preferred shares should count as capital, they haven’t even really found a particularly impressive accounting gimmick. They just switched from one way of looking at the situation to another. That said, despite the shoddy effort at press management, I don’t see a real argument against this plan on the merits—it looks to me like the right thing to do.