Lending to Those Who Need It Least

While Felix likes Paulson and Bernanke's capitalization plan much better than their asset acquisition one, he sees this issue:

JP Morgan and Wells Fargo, who don't need the money, have seen their stocks fall. The government has given them $50 billion to play with, and presumably there's some hope that they'll leverage that $50 billion and lend it out in the real economy -- as opposed to simply using it to shore up their capital ratios. But in this market, shareholders don't want to see lending nearly as much as they want to see as much cash as possible on the balance sheet. So don't hold your breath waiting for large new loan commitments from any of these banks -- especially since Treasury has no voting rights, and hasn't told the banks that they need to start lending again.

But I don't see the same problem. It makes sense to give funds to the healthiest banks during a recapitalization so that they can buy, and then run, the good pieces of the banks which are likeliest to be euthanized.

It's certainly a risk that this won't happen immediately as institutions try to show they're healthy. But the alternatives seem even less effective. If you argue that banks who need the funds the most are the ones that should get them, then there is actually an even greater chance that the injected capital won't be used to lend or buy since those banks are even more in need of shoring up their balance sheets.

I do agree, however, that the plan by itself likely won't get banks lending again and the government will have to step in with a different mechanism to get institutions to lend to eachother. So perhaps the best way to view the new Treasury plan is that it while it's a major step forward in stopping the Panic of 2008, it, by itself, won't be enough to get us to a recovery.