Today in Economic News
Retail sales down. Meanwhile, Lehman is in big trouble and looking to put itself up for sale in order to get out of trouble. With, of course, big government stepping in to lend a helping hand:
As confidence in Lehman continued to drain away on Thursday, the bank, one of the oldest names on Wall Street, reached out to several potential buyers, including Bank of America and Barclays, the big British bank, according to people briefed on the negotiations. Lehman hopes to strike a deal within days.
In each case, the suitors are seeking help from the Federal Reserve to help make an acquisition palatable. They want the Fed to guarantee a part of Lehman’s troubled assets, these people said, similar to the way it backstopped the emergency sale of another foundering bank, Bear Stearns, in March.
As I’ve said of previous interventions in the ongoing financial crisis there’s nothing wrong with having the government step in to avert catastrophe. Indeed, letting catastrophe happen merely for the sake of bringing reality closer into line with free market rhetoric would be silly. But by the same token, the same kind of help should be available to families or individuals facing catastrophe and not just investment banks.
40 Responses to “Today in Economic News”
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September 12th, 2008 at 4:12 pm
because of some of the particular kinds of paper that bear stearns held, you could see the fear of a massive unwinding. there doesn’t appear to be a comparable for lehman, and my guess is paulson has to let one of these go by and lehman could be the one….
September 12th, 2008 at 4:16 pm
This is where you may want to not comment on something just for the sake of doing so. It’s looked all day as if Treasury is likely not going to risk a dime of public money on saving Lehman, largely though not entirely because it would look bad.
September 12th, 2008 at 4:17 pm
“Indeed, letting catastrophe happen merely for the sake of bringing reality closer into line with free market rhetoric would be silly.”
“Free market rhetoric” isn’t the issue. Accountability and moral hazard are. They are both being ignored.
September 12th, 2008 at 4:25 pm
Let’s hope Secretary of the Treasury Paulson takes the weekend off. Lehman has had six months to raise capital or find a buyer. Last week Paulson added $5 trillion dollars to our national death by assuming the debt of Fannie and Freddie. At that point, he had little choice because to allow them to fail could bring down the entire world banking system. But Lehman is not that big a deal.
The worst problem with government bail-outs is what’s called “moral hazard”. If lenders know the government will bail them out, they’ll lend to unsound borrowers to get the highest possible rate. It’s like if someone told you to go to the casino — you get to keep your winnings, but they’ll cover your losses. This is not how you get a rational allocation of capital.
Greenspan has described the current mortgage/financial crisis as a once or twice a century event. Some of our largest financial institutions have lost most or all of their capital. This is not a liquidity crisis but a solvency crisis. Obviously, extraordinary measures are required. But as soon as possible we must restore the sense that careless lenders won’t be bailed out by the taxpayers.
September 12th, 2008 at 4:36 pm
e o’neal, you really are an amusing one: even when you’re sorta right, you’re wrong!
we did not, for example, add $5T to the national debt with the receivership of fannie and freddie; you’re confusing assets and liabilities. (that is, to spell this out slowly and condescendingly for you, e o’neal, fannie and freddie either own or guarantee roughly $5 – $6T of mortgages. these represent assets; they may or may not be worth $5 – $6T, and indeed almost assuredly aren’t, but they aren’t federal debts. what the feds have agreed to do – and some of the fine points aren’t fully clear yet – is invest money into a special preferred issue with a high dividend and loan money, insofar as is required, to keep fannie and freddie technically solvent.)
meanwhile, nice to know that you’ve heard of “moral hazard,” but there’s more problems in life than “moral hazard,” such as a complete collapse of functioning financial markets. more to the point, thanks to the magnificence of bush league economics, we have effectively ceded control over certain decisions to foreign creditors, and it was the unwillingness of foreign creditors to roll over fannie and freddie debt that forced treasury’s hand. had they chosen not to act, the cost would have been much worse than “moral hazard.”
finally, if you want to discuss the home value/mortgage issue, you’d be well-advised not to bring up alan greenspan, who sat there in denial about the problem for years.
September 12th, 2008 at 4:40 pm
Good post Matt.
Krugman writes at his blog:
Interesting article from Bloomberg about how relaxed the markets are in the face of the probable fall of Lehman. Basically, Lehman’s liquidity problems are eased by access to the Fed’s Term Securities Lending Facility, plus the broader expectation that the feds will step in to protect counterparties.
What this reminded me of was a conversation I had with NY Fed officials in the early 1990s, when banks were in a lot of trouble because of a slump in commercial real estate. The stock price of Citibank, one official said, was entirely because of the “FDIC put”. That is, if things turned up (which they eventually did), that was good for Citi; if they turned down, deposit insurance would cover the losses. Heads stockholders win, tails taxpayers lose.
If they’re too big to fail, they should be regulated and capital gains tax gains should be raised to help with the bail outs of these guys who win either way.
As David Brooks wrote in his column today, productivity gains aren’t being shared equitably. A little “redistribution” may be in order.
September 12th, 2008 at 4:41 pm
Why aren’t we going in and investigating these failures? Investigating Frannie and Freddie and prosecuting their CEO’s, CFOs.
September 12th, 2008 at 4:47 pm
The reason for helping banks is to stop the catastrophe spreading to other people, rather than a desire to be nice to bankers (after all, who has that desire?).
It is the difference between curing a cancer sufferer, which helps him, and curing a smallpox sufferer, who might have infected others.
September 12th, 2008 at 4:59 pm
“…we have effectively ceded control over certain decisions to foreign creditors, and it was the unwillingness of foreign creditors to roll over fannie and freddie debt that forced treasury’s hand. had they chosen not to act, the cost would have been much worse than “moral hazard.”..”
Correct. And with Uncle Sam’s debt piling up at the rate of $1 billion per day (a rate that will accelerate) more and more of our domestic economic decisions will be effectively made by foreign parties.
There’s no sense in complaining about the loss of control over our own destiny that this implies. This is what we signed on for when we become a nation of “consumers”, leaving the tough job of saving to others.
September 12th, 2008 at 5:01 pm
It’s obvious we’re never going to let institutions like this fail, and since we’re socializing the risks we should be correspondingly more aggressive about socializing the benefits reaped by them.
September 12th, 2008 at 5:04 pm
Howard, the GSE’s liabilities are not technically part of the national debt, but the government (we taxpayers) are now on the hook for every penny. I’m not suggesting Fannie and Freddie are that far in the hole, but I’ll bet you it’s more than $100 billion.
I agree that a total collapse of the banking system due to spiraling defaults is a more immediate concern than moral hazard. I said so in my post.
September 12th, 2008 at 5:10 pm
Michael, Fannie and Freddie are the most politically connected institutions in the country. All of their CEOs have been political hacks and the Congressional leaders of both parties are deeply implicated, though a few have been warning of this debacle for years. To investigate the GSEs would be to investigate themselves.
September 12th, 2008 at 5:14 pm
“The price index for finished goods, a measure of the change in prices businesses pay, fell 0.9 percent in August…Consumers’ spending on retail and food decreased 0.3 percent in August…”
IF the price index is for the same bundle of goods as the consumer spending report, THEN, adjusted for price changes, that component of consumer spending (less than 1/3 of the total) actually rose in real terms. Kevin Drum (http://www.motherjones.com/kevin-drum/2008/09/adjusting_for_deflation.html) puzzles over these data (as do I, and I haven’t reached a conclusion yet), but what’s happening is not really clear. Yet.
September 12th, 2008 at 5:27 pm
Everyone hates economics.
.
September 12th, 2008 at 5:32 pm
e o’neal, i can tell you’re trying, but really, you need to be better informed if you’re going to take a shot here: confusing fannie and freddie’s assets (roughly $5T – $6T) with their liabilities (somewhere around $1.5T as best we can imagine) is a mistake, shall we say.
meanwhile, the actual costs associated with this bailout could be anywhere from zero (if things go well) to $300B (william poole’s estimate). since no one knows: a.) where the housing bottom will be; b.) how fannie and freddie will be restructured; c.) how good is their paper; d.) how accurate are their books, no one can know any better.
but $100B or $300B ain’t $5T.
as for the rest, look, if you’re going to spend the time typing about moral hazard, you need to get your story straight: either it’s a big problem, which makes it a bad idea to bail anything out, or it’s one of many problems, at which point it doesn’t need our time at all.
September 12th, 2008 at 5:32 pm
Hook every one of the executives involved up to a polygraph and ask them “Have you ever used the phrase ‘welfare queen.’” If they fail the lie detector exam, they lose their job and have to pay back all their bonuses for the last two years.
Hell, they ought to lose their jobs and pay back, anyway.
September 12th, 2008 at 5:33 pm
The “same kind of help” would be pointless. What an investment bank needs in crisis and what a family needs in crisis are rather different things. And we do make help available to people: food stamps, unemployment, Medicaid, rent vouchers, various smaller (and state and local) programs. Maybe we don’t do enough, I’ll gladly second that, but it’s not like we don’t do anything.
September 12th, 2008 at 5:48 pm
Incidentally, anyone howling over this crisis should remember that lots of people will be going to jail over all this, and our economy (or at least out regulatory system) will be radically restructured, but all that is (rightly) getting dumped in the next administration’s lap. In the meantime, avoiding a Great Depression-level catastrophe is really the only focus of the government, which seems to be doing exactly what it would do if Hillary Clinton or Barack Obama were president right now. (Take that as you will.)
September 12th, 2008 at 5:48 pm
howard, Freddie and Fannie back about half of the $12 trillion of mortgages in this country. That’s where I got the $5T of liabilities. The Treasury was forced last weekend to extend the “full faith and credit” of the United States to support this paper. Otherwise, the GSEs would not have been able to re-finance their maturing debt. That’s about $17,000 of debt guaranteed by each American. Obviously, all those mortgages aren’t going bad, but many will, and we’re on the hook.
September 12th, 2008 at 5:54 pm
The need for government intervention in this case demonstrates that the Bush administration’s stewardship of our financial markets is in complete disarray. Good management averts problems before they become crises.
September 12th, 2008 at 5:59 pm
Unemployment is not a benefit which is made available to struggling families, it is a compulsory insurance program which all employers are forced to support on behalf of their full time employees. Claiming unemployment benefits is no different from claiming a “free” repair of your car from your auto insurance company after an accident.
September 12th, 2008 at 5:59 pm
e o’neal, i’m trying to be sympathetic to you, but you still don’t understand.
i know where you got the number. i told you where you got the number. and i’m telling you now that you are confused about what is an asset and what is a liability.
the mortgages are assets; in the course of buying or guaranteeing those assets, fannie and freddie have accumulated liabilities (which amount to something like $1.5T).
if every single mortgage that fannie and freddie hold goes bottom up and if there is no recourse on any of them, then we would be on the hook for $1.5T (the extent of current liabilities).
i actually can’t tell if we truly have placed the full faith and credit of the US behind those liabilities, since as far as i can gather, what we did was guarantee that fannie and freddie would never be technically insolvent, which isn’t the same thing (it is possible that there is a full faith and credit aspect buried in the fine print).
the “paper” that fannie and freddie were having trouble refinancing relates to the liabilities, not to the assets. until this week, the problem fannie and freddie were facing was that they were paying an enormous margin in interest (something like 125 basis points, iirc) over treasuries, which was eating up their cash flow. now apparently this week, the treasury decided that the word they were hearing about foreign creditor’s reticence to roll over that paper even at that price forced their hand.
but i digress: the point is that you are mixing apples and oranges in order to make a phony claim that the national debt increased $5T this week. it did not.
September 12th, 2008 at 6:32 pm
howard, you may be right for all I know, but if Fannie and Freddie have $5 trillion in assets and only $1.5T in liabilities, why were they insolvent?
September 12th, 2008 at 6:40 pm
Borrowing short and lending long often causes trouble. That has always been known and the $400 billion bailout of the Savings and loans should have been a more than gentle reminder. Usually such lessons last for a generation or two. In this case the lesson lasted maybe a year. Starting in 03 Greenspan and Wall Street recognized that the GSE’s were a bountiful source of systematic liquidity so they hopped on the real estate bandwagon and the rest is history. We were all going to be rich through the inflation, oops, I mean ever increasing ‘value’ of our homes. The increase driven by demand supplied by easy mortgage money at really low rates.
The F’s have books of mortgages of $5 to $6 trillion dollars. They had to borrow short term to give the checks to home buyers to give to fund the mortgage, a long term loan. The F’s have to keep borrowing short term to keep the books in balance. Yes they have been paying higher and higher rates on that. As opposed to the lower than normal rates they used to pay, because of the implicit government guarantee, in days of yore. The Treasury and the Fed will provide them short term money in needed from now on so they don’t have to pay the higher rates and this will help their cash flow.
However this is not the biggest part of the operation Howard. The biggest part is this. The $6 or so trillion the F’s hold and the other $2 trillion they have sold are probably going to suffer at least a 10% drop due to defaults. Round it down up or around and any way you slice it the US taxpayers are on the hook for half a trillion bucks, if we are lucky.
Which I suppose isn’t such a big deal nowdays. Iraq will cost at least 4 times that when all is said and done. Hell, the Pentagon loses that much every couple of years, no sweat.
September 12th, 2008 at 6:51 pm
Re “But by the same token, the same kind of help should be available to families or individuals facing catastrophe ”
————–
I don’t know — should we spend any US tax dollars on helping those Texans in Houston getting hit by Hurrican Ike?
After all, we don’t want them to develop a “culture of welfare dependency”.
Well, except for Big Oil expecting us to give $Trillions of tax dollars and our sons’ lives protecting their foreign investments. That’s “Bidness”. And you don’t mess with “Bidness”.
September 12th, 2008 at 8:55 pm
E. O’Neal,
howard is correct. You do not know the difference between an ‘asset’ and a ‘liability’ Please inform yourself before commenting any further. Thanks!!!
September 12th, 2008 at 9:35 pm
Not that I’m advocating it, mind you, but wouldn’t it be interesting if some patriot ripped off Palin’s face with a claw hammer?
September 12th, 2008 at 10:19 pm
Re: Unemployment is not a benefit which is made available to struggling families, it is a compulsory insurance program which all employers are forced to support on behalf of their full time employees.
Um, no. Employers may write the checks, but in reality it’s the employees themselves who pay the tab, as with all workplace benefits. I’m actually a fan of the idea of showing all such payments as line items on pay stubs so people will appreciate this fact of life better.
September 12th, 2008 at 10:21 pm
observerfrommars, I’m no accountant, but I know the difference between assets and liabilities. If you think the Fs have more assets than liabilities, then you haven’t been paying attention. They have trillions of dollars of mortgage guarantees that are off-balance sheet, hence their insolvency. I haven’t seen the total amount.
I was just making a ballpark estimate that if the GSEs guarantee about half of the total amount of U.S. mortgages of about $12 trillion, then they (we) should be on the hook for at least $5T. Of course, the vast majority of that is performing mortgages.
September 12th, 2008 at 10:46 pm
JonF, you’re both right. To the employer, it’s all employment cost. He doesn’t care if it’s treated as a deduction from the employee’s paycheck or as a direct payment to the government. Similarly, the employee just cares about what’s left after deductions. The idea that the employee pays half of FICA and the employer half is also nonsensical. The employer pays it all, but it all comes out of what would otherwise be the employee’s compensation.
September 13th, 2008 at 12:24 am
Since there’s going to be a bailout anyway, why can’t the money go directly to individual homeowners? Give a bank 10 billion dollars and maybe it doesn’t go under but its borrowers are in the same predicament as before: lots of debt, no equity and no chance of refinancing. Instead, why not give $100,000 to 100,000 people? Let them pay down their mortgage and get some equity so they can refinance, or even bank the money and use it to make payments. The homeowners would be helped out, and the bank wouldn’t go under. Win-Win.
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