He was Against the $700 Bn Bailout and Wanted Weak Banks to Close Down

On Oct/13/2008, the Nobel Economics Prize was awarded to Paul Krugman, a noted economist. Among many achievements, research papers and journal articles, one of his more recent political skirmishes was the vociferous criticism of the current government's proposal of a financial bailout worth a trillion dollars to help weak financial institutions.

Krugman likened the current global meltdown to the Asian Financial crisis that hit like a contagion in 1997-98 which took down several known financial institutions in the South-east Asian region. His assessment of the current global economic scenario stems from the similarity of the root-cause that hit the Asian financial world in 1997-98. It was the exposure of the banking system to real-estate assets which was deeply impacted when the asset bubble burst due to inflationary pressures and a rising interest-rate regime. Banks which did not have appropriate capitalisation immediately capitulated under solvency pressures. Unsound banks are those which do not have adequate capital adequacy for solvency. Krugman had advocated stricter capital requirement norms on strong banks as they could set aside larger amounts as contingency capital (which was a function of their loan portfolio's risk-rating). Krugman opined that weak banks in the Asian region should have been closed as they did not constitute a strong foundation to the Banking & Economic system in a country.

Krugman, known for his analysis on trade patterns and locations of economic activity, had expressed strong reservations regarding the financial bailout proposed by the current government to weak financial institutions whose books were loaded with bad mortgage securities.

Of particular interest is the fact that the US government was doling out a trillion dollar package in exchange for bad mortgage securities while the government in the UK was capitalising it's local banks in exchange for equity stakes and partial nationalisation. It was viewed that the UK model of nationalisation in exchange for capitalisation was far more sane and tenable in the long-term than a temporary capitalisation of private banks in exchange for bad mortgage securities.

The above assessment of the bailout proposal in the US has been debated and criticised the world over. Subsequently, the private banks in the US are being capitalised in exchange for equity stakes, thus resulting in partial / complete nationalisation of several institutions.