Stress tested

Is nationalization so politically unpalatable that the Obama administration won't deal with the inevitable?

In yet another sign of distress for the banks, Citigroup officials were in active talks with federal regulators on Sunday night about plans for the government to take a bigger ownership stake in the bank, according to a person close to the talks.

Citigroup approached the regulators with a plan that would allow them to convert a large amount of the government’s $45 billion of preferred shares, which is treated as debt, into common stock, this person said. The government owns a stake of roughly 8 percent, but that could grow to as much as 40 percent.

Converting the preferred shares while also issuing more common shares would bring Citigroup closer to the mix of equity that the government is likely to demand when it introduces the stress test. But that would severely dilute the value of shares held by existing Citigroup stockholders.

Still, the big banks say they remain relatively healthy and that, with time and support from the government, they will regain their footing.

But many economists, Wall Street analysts and even some bank executives contend that some of the banks are already effectively insolvent.

Even though banks have reported billions of dollars of losses from bad loans, these critics say, the major institutions still carry trillions of dollars in additional toxic assets and are too damaged to resume normal lending.

This camp says it would be best to nationalize some of them now — with the government wiping out shareholders and taking over the operation of some institutions, at least temporarily — rather than to drag out the process while the economy spirals further downward.

40 percent, after all, is a big bite of nationalization.