Government Ownership of Banks - A Curse or a Blessing for the United States

Abstract

During the Financial Crisis of 2007–2008, the Treasury injected an enormous amount of capital and held equity in 707 financial institutions to stabilize the U.S. financial system. The government’s large-scale ownership of banks alarmed the U.S. banking sector. The mainstream opinion in the United States strongly opposed this practice, mostly due to the distrust of the government and the fear that government intervention would jeopardize private shareholders’ interests. Later developments, including the Treasury’s quick exit from its holdings and the Dodd-Frank Act’s declaration of the end of bailouts, suggest that the U.S. government eventually succumbed to the mainstream opinion.

Such sentiment against government ownership appears to be no more than a myth. In this Article, I provide a balanced view of government ownership in the U.S. context. By tracing the experience of government ownership of private corporations throughout U.S. history, I find that the United States not only is familiar with this practice, but also has developed a set of governance rules to constrain the government’s potential abuse of its power derived from the ownership. Empirical evidence based on cross-country data also suggests that a competitive financial market, a developed financial system, and advanced political institutions may control the downsides of government ownership of banks; the United States possesses all of these institutions. In fact, in this post–Financial Crisis era, where risk management has become a pillar of good bank governance, government ownership of banks can bring benefits to the U.S. banking sector. Specifically, government directors appointed by the government owner can better represent creditors’ interests, supplement incomplete banking regulation and supervision, and reduce informational asymmetry between the banking regulator and banks. This, in turn, can improve poor risk management of banks and lead to greater financial stability. What the United States needs is not a complete rejection of government ownership, but proper legal designs to control the government’s exercise of its ownership, such as a conditional and temporary adoption of government ownership, a minority-based governance structure, clear roles and duties of government directors, statutory access to fiduciary claims against government directors, and disclosure rules. The balanced views provided in this Article can allow the United States to be more comfortable with the prospective use of government ownership in the banking sector.

Keywords: government ownership, bank governance, bailout, Financial Crisis, government directors, risk management