A paraphrase can be used to describe the role of states in banking crises – states have had to become owners of last resort. But before the money goes in, make sure that the bank’s managers go out. You simply cannot rely on the same people who jeopardised the bank in the first place. It is also a signal to the markets that things are about to change in the way that the bank is run. Of course, the bank should continue to be run on purely market-based terms, even though the state may become a major, or even the only, shareholder. Another thing you must ensure, before you join the ranks of investors, is that the bank’s assets are conservatively valued. Otherwise, you risk overpaying and instantly transferring taxpayers’ money into the hands of existing shareholders. Diluting the owners’ share of the bank – or, in some cases, even taking over the bank completely – also ensures an equitable upside for the taxpayers over time. And this is important, as capital injection does not mean permanent ownership. The idea, of course, is to exit the bank as soon as this is possible in an economically justifiable manner. A good restructuring plan turns the odds of such an exit in your favour. That is the third lesson. Profit maximisation should be the guiding principle in this restructuring process. Maximising profits, in turn, hinges on banking skills. So make sure the restructured bank is run by the most skilled professional bankers you can find!
I want to emphasize the word limited. Notwithstanding Adam Smith’s own reference to government intervention, the role of government must remain a limited one. If temporary market imperfections or difficult market adjustment periods give rise to the justification for relentlessly expanding the role of government, there will be a point when markets will no longer function effectively and when welfare creation will seize to advance. There is no better breeding ground for irresponsible behaviour than an environment of economic stagnation or worse, welfare decline. BIS Review 38/2005  1  There are times in history when the world economy undergoes fundamental structural change. With the rapid integration into the global economy of China and India, we are experiencing such historic change. Fundamental structural economic change invariably produces economic victims. The temptation for governments to interfere excessively with the free market is therefore particularly acute during periods when dramatic change occurs. Paradoxically, it is precisely then that the forces of the “invisible hand” are most needed to help bring about the welfare that can ultimately help absorb the negative externalities of change. If I am right that we are currently traversing such a period of historic change, it is more important than ever to ensure that government intervention in markets is limited and remains subject to continuous checks. Free markets under the rule of law, Ladies and Gentlemen, provide the optimal path to welfare creation and ultimately responsible behaviour by market participants.