[WSJ]Swedish Solution: A Bank-Crisis Plan That Worked
Swedish Solution:
A Bank-Crisis Plan
That Worked
By JOELLEN PERRY
April 7, 2008; Page A2
As policy makers in the U.S. grapple with the biggest financial crisis in decades, some market watchers are hailing as a model for action Scandinavia's massive 1990s government interventions in its then-battered banking system.
Sweden's case, in particular, offers some striking parallels to the U.S. situation. After the deregulation of credit markets in 1985, lending boomed, particularly in real estate. Low interest rates, lax supervision and inexperienced lenders led to a surfeit of questionable loans. Asset prices soared, with Swedish real-estate values and stock prices more than doubling in the latter half of the decade.
Amid rising inflation and a sharply appreciating currency, the boom turned into a bust in the early 1990s. Property prices plunged. Unemployment soared to 12% in 1993 from 3% in 1990. After nearly a decade of expansion, Sweden's economy shrank in 1991 and 1992.
A tidal wave of bankruptcies -- and a rapid drying up of finance for the bank-owned niche operations that had fueled much of the lending -- pushed total loan losses on Sweden's biggest banks to some 12% of the country's gross domestic product and prompted five of the seven biggest banks to seek capital injections.
"It became clear that if we didn't do something quickly, the whole system could collapse," says Göran Lind, a senior adviser at Sweden's central bank.
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The scope of the danger -- to both the banking system and the real economy -- united politicians behind radical steps.
"If it's just a few institutions, you can have an ad hoc solution," Mr. Lind says. "But when the whole system is in danger, you need a new framework."
In December 1992, Sweden guaranteed its entire banking system, insuring creditors and depositors -- but not shareholders -- of 114 banks against losses. A new government office, the Banking Support Authority, evaluated stricken banks' requests for help and eventually doled out state aid of 65 billion kronor ($11 billion). The World Bank puts the fiscal cost of Sweden's crisis at 4% of the nation's GDP.
Sweden imposed strict terms. To shore up confidence among creditors, the new authority required banks to disclose expected losses immediately, and it quickly assigned values to other assets, rather than let banks postpone reporting losses and take gradual write-downs. Banks receiving capital injections or loans surrendered shares to the government to avoid the possibility of rewarding shareholders, and to give Swedish taxpayers a chance to profit when the market improved.
The Swedes set up so-called bad banks to manage the troubled assets. This financial-sector triage not only gave the state-sponsored bad banks time to ready their assets for eventual sale, but also allowed the private-sector banks whose remaining operations were sound to focus on their own recoveries.
'A bad bank's main advantage is a good bank's ability to develop its business without being disturbed," says Jan Kvarnstrom, who ran Sweden's biggest bad bank and now advises the German government on its support for subprime-scarred lender IKB Deutsche Industriebank AG.
Sweden's swift, state-heavy solution was mirrored across Scandinavia, amid similar housing-led busts that were crippling banking systems across the region. Norway passed a law letting the state write down a bank's shares to zero, then nationalized its three biggest banks. Finland -- hit with the double whammy of a banking crisis and the collapse of the Soviet Union, a major trading partner -- took 41 savings banks and merged them in a government-owned conglomerate.
Sweden's radical steps prompted radical recovery. In 1994 and 1995, GDP posted annual growth rates near 4%. When the global economy rebounded, Sweden's refurbished "bad" assets found ready buyers; the central bank's Mr. Lind says the state recouped all of its $11 billion investment. In 1996, Sweden rescinded its banking guarantee, replacing it with a bank-financed depositor-protection system.
The effects were long-lasting. Now, even amid the global turmoil, Sweden's economy is so solid that the central bank in February raised its key rate to 4.25% to fight rising inflation. And Swedish banks have largely skirted the subprime crisis, thanks to stricter in-house risk management and supervisors' sensitivity to portfolios heavy on risky bets.
To be sure, Sweden's situation isn't perfectly analogous to that of the U.S. Sweden's nine-million-person economy is comparatively puny and its crisis was exacerbated by external factors, including a fixed exchange rate. Finding political consensus for massive state subsidies also may be easier in a relatively homogeneous country with a history of heavy government involvement. And while Sweden had big problems, they were straightforward compared with the complex web of investment vehicles central to today's turmoil.
Perhaps most pertinent: The U.S. doesn't yet appear to be in the dire straits Sweden found itself in. Troubled American banks have so far found private-sector capital to shore up their losses. And while the economy is surely slowing, it is far from clear that the U.S. is in for a protracted downturn.
As it happens, the U.S. already seems to be applying some of the key lessons from the Swedish crisis. The government-backed sale of investment bank Bear Stearns Cos. "was handled exactly as the Swedish crisis was," says Anders Aslund, a Swedish economist at the Peterson Institute for International Economics in Washington.
The U.S. stepped in quickly to prevent a financial-market freeze, took on a chunk of Bear's bad debt and punished the bank's shareholders. Such Swedish-style aggressiveness early on could help forestall the need for more government intervention in the future.
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