Systemic Risk, Seen and Unseen
By Arnold Kling
Once investors figure out that bank debt is not safe, they will refuse to lend to any banks, and we are back in September all over again.
Nonetheless, I think that zombie banks are create more unseen systemic risk and the systemic risk that you can see by allowing bank creditors to lose money. The zombie banks compete with the healthy banks.
Tyler Cowen says that it’s “pick your poison.” The poison I would pick would be to shut down insolvent banks and if necessary provide short-term loans to solvent banks. Giving the short-term loans to the insolvent banks makes things worse, not better.