No extra capital for distressed banks

The merit of the US Treasury plan to "purchase troubled assets", as the Saturday's media release puts it, is debateable.

The immediate goal of policy makers, bankers and investors is, presumably, to revive liquidity in inter-bank markets and foster lending to commercially sound businesses and households and to ameliorate the recession in the United States (and other places).

If the Treasury pays much more than the assets appear to be worth for mortgage-backed securities, collateralised debt obligations and the rest, then US banks will, in practice, receive a capital injection courtesy of the US taxpayer.

If Treasury buys mainly the most odious assets and at very low prices then US banks won't receive much of a capital injection.

Short of rigging the auction process in a fashion that steers US$700 billion in capital into a carefully prioritised list of banks - which does not, so far, seem to be the plan - then the notional level of capital being made available under the plan to financiers may be allocated in questionable ways.

Finding a fair price for the assets, from the point of view of the Treasury, will also be a challenge, even though reverse Dutch auctions seem an appealing option.

Another feature of the plan is that shareholders in banks won't see any dilution in their stakes (though the banks they own will have to recognise losses from selling the assets, but at least they get to sell them).

As currently proposed, the Treasury purchase plan will not involve the seizure of any banks (as would happen under the rules of the deposit insurance system) nor the nationalisation of crippled institutions (in the manner of the Resolution Trust Corp that took over failed Savings & Loans in the US from 1989, or formation of the Bank Support Authority in Sweden in 1993).