Dumb and Dumber: This is a comment on Governments and Banks

Last night I caught up with the Economist that I had not finished reading on Sunday.  There was a cogent discussion of the problems that a Greece Default would have on the Greek Banks.  Background, most government debt is risk free for BIS II capital calculations if the country meets certain standards, which I think Greece used to.  Now we have a lot of history in Emerging Markets; when a country defaults on its debt, it's banking system goes into deep distress and the drying up of credit makes it all the more difficult for the country to get out of its hole.  That is why many EM countries, with the assistance of the IMF, worked to shield the banks from loss or recapitalized the domestic banks.  When I read the article last night, I said I will try to think of some wise words to put down on the foolishness of calling government debt risk free and not recognizing that haircuts of 10% to 20% on any government debt is possible.  Think what a haircut would do to fix any number of over leveraged problems.

Then this morning, I see that the European governments, which just went through their own TARP programs in 2009, are asking their private sector financial institutions to help out with the latest Greece financial rescue plan.  Some of these institutions already have a lot of Greek debt.  Some of them were wise enough to avoid it in the first place or got rid of it when they could at a reasonable price for their situation.  Now their "Regulator" wants them to add high risk of default debt just so the government can say they had private sector participation.  What happens when Greece defaults as it almost certainly must?  Do these governments buy the debt back from the banks or do they extract another pound of flesh for the taxpayer for providing liquidity and capital to their banks.  Either way, the shareholders of these banks get hosed.  The taxpayers may get hosed as well since a good case can be made that Ireland would not be in the shape it is if it had followed the Iceland lead of letting the banks default.

So here are my candidates for Dumb and Dumber:  The governments for proposing this, the regulators for allowing it, the managements for accepting it (they haven't yet, so there is hope), and the shareholders for hanging around and letting this happen to their investments.