As well as capitalism’s future, a recent congressional hearing on American International Group’s bail-out debated an invoice for $1,488 from the salon at the St Regis resort, California. The insurance firm had hosted an executive jolly there. “They were getting their manicures, their facials, their pedicures and their massages,” spat one congressmen, “while the American people were footing the bill.”
Microscopic scrutiny is a cost of having the taxpayer as a shareholder. Not that this has put off banks and insurers from queuing to receive capital injections (see chart). Governments are likely to end up as the largest shareholders in developed countries’ financial systems, with $500 billion or more invested, or roughly a quarter of the industry’s market value.
Financial firms are getting preferential treatment because they form the plumbing of the economy, extending vital credit to households and companies. But even emergency help does not come free. Executive pay has been capped, partly to avoid upsetting hard-hit voters. Most European schemes stipulate that lending to healthy businesses must be maintained (France has even set broad numerical targets), and limit or eliminate dividends that would deplete the banks’ capital. In America an unexpected joint statement made by banking regulators on November 12th warned lenders to “fulfil their fundamental role in the economy” and avoid excessive payouts to shareholders.
Just in case the message is unclear, politicians have been jawboning banks into action. The chairman of the Senate banking committee has said that if “progress is not forthcoming, we are prepared to legislate”. France’s finance minister says she hopes that “threats will be enough”.
Although the financial system needs such treatment, long-term state ownership of the banking system is an unattractive prospect. Academics have found a wealth of evidence that state-controlled banks can become politicised and misallocate capital. Paola Sapienza, of Northwestern University, found that Italian state-owned banks directed cheap credit to companies in regions which voted for their political patrons. A decade after Japan’s financial crash, up to a third of firms were “zombies” kept alive through uncommercial lending by banks under government pressure.
Governments have tried to structure their investments as short-term. They will largely own non-voting instruments, in most cases preference stock. Almost all financial firms will remain listed with directors having a legal duty to consider the interests of all shareholders, not just the state. By ratcheting up coupon payments over time, governments hope to encourage banks to repay taxpayers as quickly as possible. Although there are hints that France may be tempted to micromanage its banks, most governments do not plan to. Following the template of Sweden’s banking rescue in the 1990s, they want to sell and return taxpayers a profit within a few years.
But that will be a problem. Even if the outlook for the industry did not look so miserable, outside investors would still struggle to swallow all of this stock in one gulp. That could scupper governments’ hopes for a quick exit. In a nasty economic climate, the political heat on banks could rise. Consider Germany’s Commerzbank, which has received €8 billion ($10.1 billion) of capital, or almost double its market value. It may face pressure to preserve jobs and unprofitable loans as it tries to integrate Dresdner Bank, a rival it bought recently. Typically governments’ preference shares carry the right to veto deals, a detail that could conceivably be used to block politically unwelcome takeovers.
How much freedom the banks have may depend on how the stakes are held. In America the Treasury will own the stakes directly, although it is seeking outside managers to advise it. The Dutch finance ministry will also hold on to its investments, although it does at least have a fair record of leaving important firms alone. Elsewhere in Europe most governments plan to create arm’s-length agencies, but their independence is questionable. Being hands-on makes sense now, during the crisis. But it creates the risk that politicians will meddle too much in the future—and not just over a bill from a beauty salon.