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Op-Ed: Bernanke Tells Banks, "I've Got Your Back"

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With cheap Fed funding, banks will recover quickly.

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Editor's Note: As an emerging-markets banking analyst, James Kostohryz has firsthand experience of banking collapses and their subsequent resolutions in Mexico, Argentina and Southeast Asia. Since leaving his position as Head of International Investments at Brazil's Banco Pactual in 2000, James has worked as an independent trader and investor.


Ben Bernanke knows that all the monetary growth in the world won't amount to a hill of beans if the banking system isn't able to transform Fed liquidity into credit to households and businesses: As he said to the Senate Banking Committee, "If we're going to have a strong recovery, it has got to be on the back of a stabilization of the financial system. It is black and white."

And on Monday, Bernanke made it clearer than ever to the nations' banks and bank shareholders: "We need you up and running, and we've got your back."

Recently, in "Are US Banks Worthless," I argued that, at current prices, the balance of risk has shifted in favor of holders of banks' common equity. Banks have substantial cash-flow generating capacity, and over time, they can fully pay for the losses they've generated and still create value for common equity shareholders. In his remarks on Monday, Bernanke explicitly extolled US banks' "substantial franchise value."

The "franchise value" Bernanke referred to is code, I believe that the Fed recognizes the positive net present value described in both Are US Banks Worthless and Bank of America's War of Independence. Precisely because of the positive net present value of these franchises, Bernanke made it clear that nationalization is completely unnecessary and would be detrimental to the nation. Though some banks may be short of capital in the short term, Bernanke made it clear that the Fed stood ready to provide all the capital that the banks will need to work through their problems.

Bernanke signaled to the financial markets that common-equity shareholders need not worry about dilution from infusion of Fed capital, as the Fed wants nothing to do with ownership of banks, and essentially said that banks can take the money and repay it when they've gotten back on their feet - without having to give up an ownership stake.

Does this mean that banks and their shareholders are out of hot water? Minyan Peter argues that banks die from lack of deposits, not from lack of capital. In Minyan Peter's view, the risk is that depositors won't stick around long enough to allow the banks to earn their way out of the situation that they've gotten themselves into.
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No positions in stocks mentioned.

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