It may now be time to cross that red line and force some bank bondholders, even senior bondholders, to take losses.
Throughout the now five-year-old global financial crisis, writing down bank debt when banks are insolvent is a step that policy-makers have been almost universally unwilling to take.
Fearing a rolling line of bank failures if the weak were allowed to go down, policy-makers have generally followed the following three-point script:
First, make abundant liquidity available to banks, ensuring that they don’t fall over in a panic… Second, create conditions where banks can profit, hoping they rebuild their own capital… Third, inject capital or buy illiquid assets from banks, some of which you may need to take on to national balance sheets.
There are a number of serious problems with the extend, pretend and then underwrite approach.
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