Learning from Israel

The UK has already moved towards partial nationalization of the banking system and we seem to be heading the same way. It’s hard for me to get a clear sense of what it means to have the banks owned by the state. So I asked Mrs. Q, is that the way it is in Israel? The answer is no, then yes, then no. It turns out that the Israeli banks hit their own rough patch in 1983; in the resulting “Bank Stock Crisis,” the banks were nationalized and eight bankers went to jail. Later, the banks were mostly sold back to private investors, though the State of Israel remains the largest shareholder in Bank Leumi. I’d be delighted if any Israeli readers could say something about how the Israeli financial system functioned during the period when the government owned the banks.

We also need to learn from Israel when it comes to summer pop hits. “Indian Love Song,” by Alma Zohar, is better than anything I’ve heard on the radio here in years.

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2 thoughts on “Learning from Israel

  1. Sweden also nationalized their banks when they collapsed in a real estate meltdown in the early 1990s. Like Israel, they later sold most of them back to the private sector. In the end, it didn’t cost much or perhaps the Swedish government even made a little money, depending on how you do the calculation. The NYT had an article on the Swedish experience recently, but I don’t think it mentioned the daily mechanics of the government owning the banks.

  2. Lior says:

    There are some similarities and some differences.

    The banks in Israel were not entirely private entities: the government used them to buy government bonds (essentially an indirect way to print money) and had them make investments “in the national interests”. The banks believed they would be bailed out if anything went wrong. At the time, the voting stocks in the banks all belonged to the bodies that created them (e..g the labour unions controlled “Poalim”) but the common stocks were mostly owned by the public. This created a disconnect between the management (who reported to a controlling body that didn’t care about performance and authorized salaries based on the nominal profits, greatly inflated by the bubble) and the owners. This is very similar to the case of Freddie Mac and Fanny May: the stocks of these bodies were owned by the general public, but the companies were (not) controlled by Congress, in part to achieve unprofitable “national goals” like minority housing ownership. The executives thus cooked the books and inflated the stock price to get higher pay, and relied on the government to bail them out if the bubble burst.

    Nationalizing the banks in Israel was necessary, but created many difficulties. Right away, the government now owns a controlling interest in ordinary firms. This means that the government now has to make economic decisions for these firms, something the government (being a political body) is not well set up to do. How high should banking fees be? Should the bank expand in learning-Democrat states or leaning-Republican states? Down the road when the government wants to sell the stock back to the public things get even worse. There were a lot of political games in the way this was done. Basically, re-privatization leaves a lot of room for politicians to benefit the well-connected by making the rules for the auction. Since the price will always be below the real price of the stock, being able to buy bank stock at the re-privatization moment is a great way to make easy money, so getting a (share of a) seat at that auction is quite valuable.

    The Wall Street investment firms that failed are not so similar to the Israeli banks: they didn’t commit crimes; when they bought back their stocks it was well-publicized (even if that’s a bad practice), and in any case their participation in the bubble was not done in secret. Everyone could see that bad loans were being made and who was making the loans (though it’s true that the extent of the risk was hidden by the derivatives market). The banks here failed because they gambled on the bubble and lost, but they didn’t create the bubble by themselves. That said, if they get nationalized then you’d have the same problems as in Israel.

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