I've been writing about this mortgage situation for close to 18 months now (and probably thinking about it for 24 months). Something that i've been asking myself since all these bailouts started is about the lack of questioning of the implied protection the government has given creditors.
There has been a lot written on those "bailouts" that basically protected shareholders (who rightfully were taking risks). However, there hasn't been enough written on the fact that all those capital injections are basically making creditors whole.
Maybe I am being naive (in that it probably doesn't really work that way), but, why don't we simply let the market run its course (with the banks?). In other words, if a bank is to fail, its shareholders lose, and its creditors lose... the government takes over and in a very fast transaction it puts it back into the market - there will obviously be a bid for the assets of that bank... here's the caveat - the bid will have two concepts: 1) how much debt would they be willing to take on and 2) how much capital will they put in.... the highest bidder takes the institution... and bingo, by default... the new debt level is known...
I am guessing it can't be that easy - creditors would have the right to sue (claiming that through a bankruptcy process they would've taken control of the bank (rather than unilaterally having to cede control)...
Regardless, the point here is that we talk about moral hazard on the equity side, but, one of the biggest moral hazards we might be creating happens to be on the credit side.
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