So how can banks recapitalize?
There are many ways to recapitalize, in ways that both involve and don’t involve the government. The key message is banks – just like taxpayers – typically prefer not to be recapitalized through government programs. This is because government stakes in banks will dilute the original shareholders.
Ways European banks are hoping to recapitalize:
Rights issues: ask current shareholders to invest new funds in the bank
Deleverage – shrink the size of the lending book by lending less (the capital ratio has a denominator as well as a numerator!)
Grow retained earnings (profits which aren’t distributed to shareholders, and thus stay on the balance sheet as additional cushion):
Reduce staff pay (read: reduce bonuses) – investment banks bonus structure allows huge year-on-year flexibility on staff pay
Reduce dividends
Seek large-scale investor to make large one-off investment – e.g., call Warren Buffett.
Go cap in hand to the government
Again, bank’s typically avoid government bailouts to avoid diluting current shareholders
In extreme conditions, such as RBS and Lloyds, banks are basically seized and recapitalized by the government – eg original shareholders wiped out, government is the new owner
However some capitalization programs, such as TARP, were designed in ways that didn’t significantly impact shareholder wealth, and thus were popular amongst banks
