Overpaying for “Toxic” Assets
As a number of people have noted, Geithner/Bernanke (and not to let them off the hook, either—Obama & Larry Summers) seem oddly determined to believe that the “toxic” assets held by banks are actually worth far more than the market is willing to pay for them. Being something of a believer in free markets, I’m not really sure I even understand what this means. Financial instruments are worth what they’re worth. There’s this idea that government policy could cause their market price to “become” what their true value “really is.” But the only way for this to work is for the government to just decide to pay a lot of money for them. Then they’d be “worth” whatever the government decided to pay. My understanding based on a conversation today, however, is that this is exactly what Geithner doesn’t want to do. He wants the private sector to set the price of the assets. But the private sector has already done this and deemed them worthless. So Geithner wants a plan that somehow induces the private sector to set the price at the level he “knows” is “right” somehow without actually doing this.
Noam Scheiber says:
As Krugman points out, there are only two places to go from here: You either way overpay for the assets by heavily subsidizing the investors who buy them, which doesn’t seem fair. Or you pay the fair price but leave a huge hole on the banks’ balance sheets. Neither option seems especially appealing.
I guess where I part company from Krugman is that I’m willing to accept some unfairness if it’ll solve the problem. I just don’t think Treasury can make the subsidy large enough for the overpayment to suffice. (Alas, the political constraints are enormous.) So, increasingly, nationalization looks like the only option.
I think the idea that it’s merely “political constraints” that prevent the giveaway option from working is, itself, becoming an obstacle. There seems to me to be too much time and energy already being spent on trying to alter the optics around a giveaway. Basically, some people are looking for a way to make a giveaway not look like a giveaway in an effort to address the political constraints issue. But I think there’s a larger problem of substance. Even once you accept the “big shitpile” theory of the case, there’s still uncertainty around how big and how shitty the pile really is. When you have the taxpayer accept the downside risks via nationalization, one thing you get is absolute credibility that all the risks no matter how bad they may be, are really being borne by the government. The only alternative would be to default on the national debt. Then you can do whatever you need to do, relaunch whatever you need to relaunch, and whatever comes out of the cleansing process will both be and be known to be a “good bank.” If you just try to do giveaways, it’s not clear to me how you make it clear to potential investors and counterparties that you’ve really given enough away. This is especially true if you try to address the political constraints via shell games designed to trick people into thinking that the giveaway isn’t a giveaway.
That kind of obfuscation is going to wind up with a situation in which you have the same unreliable people running the same banks claiming that their operations are now sound. But that’s what they’re claiming now! That’s what they were claiming a week ago! Nobody’s going to go into business with them. And nobody’s going to compete with them either, since they’re operating under hazilly-defined government guarantees.
The is the sense in which Obama is most likely to fail by being too cautious rather than overreaching. There are a number of things—including the libertarian/populist idea of just letting the banks fail—that seem risky, terrifying, and might work. And then there’s the “muddling through” option that’s less terrifying but also certain to fail. A number of people have noted over the years that Obama mixes a progressive agenda with a small-c conservative temperament. Which is, I think, normally a good kind of temperament. But I don’t think it’s a temperament that’s well-suited to this situation.
68 Responses to “Overpaying for “Toxic” Assets”
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March 6th, 2009 at 11:44 am
One advantage of Geithner’s plan is that it doesn’t require much money. For $100 billion the treasury can get $1 trillion of assets moving again and get some price discovery going. The problem with any sort of nationalization is that it would require congress to authorize more money, probably another trillion or so for the banks and congress is not interested in giving out that sort of money.
Also, nationalization would require that the original $250 billion that treasury invested in preferred stock be sent to money heaven.
March 6th, 2009 at 11:48 am
Matt,
I get the impression that the Obama team thinks that nationalization will likely be required, but that going that route now — before concensus emerges to support it — is a losing proposition. So they’re trying a few interim half-measures (and obfuscating)for a few months while the situation sorts itself out. That makes sense to me politically. In the end, no ones gonna care in November 2010 what the economy looked like in Spring 2009, and it will certainly be easier to nationalize once consensus is stronger. What I don’t know is: (1) how much of the money we’re pouring into these banks now will disappear (i.e., how much it will add to the ultimate cost) if we nationalize later; and (2) how much a little dithering now will harm the prospects for recovery in the medium term. If the money spent now will reduce the later losses once we nationalize, and if a few months delay won’t make a huge difference to long-term or mid-term economic growth, what’s the harm?
March 6th, 2009 at 11:52 am
The bottom line is that if you spend $10 Trillion of the voters money –and they end up fucked anyway — then you and your party are toast.
Especially since neither Obama NOR Geithner NOR Bernanke have given a convincing narrative TO THE VOTERS for WHY they are doing what they are doing and why they are spending huge sums of our money.
I spent a fair amount of time working for Obama’s campaign in the primary and general election — and it still looks like a sellout to wealthy donors even to me.
I get that we need to restore credit to real businesses — I just don’t see why that requires us to bail out the dumbfucks who caused this mess. The government should just work with sound banks to lend directly to businesses who are reasonable prospects–REPLACE instead of RESCUE the bad banks and let the bad banks shareholders/creditors/bondholders eat the shit sandwich they crafted. If that upsets the Chinese, then too bad.
March 6th, 2009 at 11:53 am
I think the notion that the market has decided these assets are worthless is a pretty blatant misreading. The market has decided that it has no idea how deep the problems are with any given derivative or bundle, and is unwilling to pay for either until it becomes clearer just how rotten the underlying assets are.
March 6th, 2009 at 11:55 am
My understanding, fwiw, is that the Geithner/Bernanke approach is based around the assumption that much of the decrease in value of these “toxic” assets is tied to the lack of transparency, not to the actual default rate of the mortgages. The value of many of these securities dropped to near zero because there was a loss of trust in the rating agencies and it’s near-impossible to disentangle the toxic investments from the less-bad investments.
So it’s less a matter of “market value” vs. “true value”, and more a matter of having good reason to believe that the assets with a very low value can be broken up into pieces, many of which are likely to have a much higher market value.
This is not by any means my area of expertise, but my hunch is that you are right about the likelihood of success for this approach. Not because this really represents “overpaying” for the assets, but because I think we’ve really only seen the tip of the iceberg in regard to the frauds and scams that went on in the financial sector over the past decade, and the losses are just going to keep piling up on top of whatever bailout plan Geithner comes up with.
March 6th, 2009 at 12:00 pm
Re bill’s comment “Also, nationalization would require that the original $250 billion that treasury invested in preferred stock be sent to money heaven. ”
————
But that’s the major objection to all of this dicking around — you’re incurring huge sunk costs on behalf of the taxpayers in some very shady operations.
Over time, Obama and Geithner will be forced to become collaborators and enablers to con artists in order to cover up their initial mistakes. That’s how con games and crooked poker games work — the mark keeps cooperating because he keeps hoping it will all work out and he won’t have to face up to being a fool who has made a disasterous mistake.
This may well destroy the country as we know it — because the voters are going to decide that Washington DC can not longer be trusted with our credit card — and a Constitutional Convention is going to drawn up to revise the system of US government. Starting with destroying much of the federal government as it now exists. Including that malign pack of incompetent, corrupt shitheads known as the US Congress.
March 6th, 2009 at 12:02 pm
“I get the impression that the Obama team thinks that nationalization will likely be required”
Where do you get that impression, just out of curiousity?
March 6th, 2009 at 12:02 pm
including the libertarian/populist idea of just letting the banks fail—that seem risky, terrifying, and might work.
Well, it would solve the market information problem.
And then there’s the “muddling through” option that’s less terrifying but also certain to fail.
That’s the Hoover option. The big banks in the US didn’t go under until 1931. In the interval Hoover tried to do lots of small things, which weren’t good enough, while, at the same time, the FReserve loosened credit and gave the banks lots of cash, and the banks still failed. A lot of paper zeroes wind up getting tied up and vaporized.
Also, nationalization would require that the original $250 billion that treasury invested in preferred stock be sent to money heaven.
It’s already been sent to money heaven. For that to be worth anything, the banks have to start making money again, which is two or three years away.
The problem with any sort of nationalization is that it would require congress to authorize more money, probably another trillion or so for the banks and congress is not interested in giving out that sort of money.
Congress will be doing this, sooner or later.
(1) how much of the money we’re pouring into these banks now will disappear (i.e., how much it will add to the ultimate cost) if we nationalize later;
All of it, minus whatever gets stolen.
and (2) how much a little dithering now will harm the prospects for recovery in the medium term.
Rather greatly. Every unemployed person is probably going to be out of a job for three to six months, at least. That’s a lot of lost productivity. Not to mention a lot of spent unemployments benefits, reduction of consumption, etc. Additionally there is the daily aggravation of compounded asset prices collapses. A recovery of some sort, even a weak one, needs to be underway by Christmas or the R’s are gonna run riot next year. So there are seven months of meaneuver room, inclusive of the lag time from deciding to act to actually having results start to appear. This is in addition to the mounting political capital losses as the R people run around claiming that the non-policy (or the continuance of the previous R policy) is failure of Obama’s policy and everyone should support tax cuts and reduced spending. And if the R’s can swing a majority in either house, they can screw everything up enough that we never get out of the hole. And don’t think they won’t.
This is the ballgame, right here.
max
['Just like killing Obama was the ballgame back in 2001.']
March 6th, 2009 at 12:02 pm
Isn’t the problem that if we sell the bank assets at a loss, then AIG will have to pay for the loss. What that means is that we lose the potentially undervalued asset and we have to instantly pay for the shortfall via AIG.
Why not just hold on to the assets?
Something just isn’t right.
Start new banks with lots of capital, make loans.
March 6th, 2009 at 12:06 pm
No one knows what they are worth, because there is no market. There is no good information, so bidders are (perhaps) overly cautious, causing asset holders to hold out. The market for them is broken, so in a sense there not worth what they’re worth. If banks were agreeing to sell at what’s on offer, then that would be what they are worth. But they’re not, so it’s an unknown value. Bringing buyers and sellers together is what Geither et al are talking about. Not saying it’ll work.
March 6th, 2009 at 12:13 pm
Interesting post.
Joe Nocera wrote a great piece in the NYT last Saturday regarding AIG and what the government’s been doing regarding the toxic assets they have. He noted that the FRB has been buying up these assets (piecemeal presumably) from the insurer. The implication here is that there has been some valuation placed on these assets, if anything to provide some sort of “floor”.
Why isn’t or why can’t this be done with the assets of the banks as well?
March 6th, 2009 at 12:14 pm
Being something of a believer in free markets, I’m not really sure I even understand what this means.
You really don’t understand the concepts of undervaluing and good bargains?
March 6th, 2009 at 12:14 pm
Matt writes Then they’d be “worth” whatever the government decided to pay.
Never confuse “worth” (aka value) and “price”. Price is what people are willing to pay. Value is a lot hard to figure out.
There’s a decent argument to be made that the price of the toxic assets is in fact well below the value (in this case, value being based on the cash flows of the securitized assets) because there so few willing and able buyers in the marketplace. If the price of a bundled of mortgage securities has dropped by 90%, that doesn’t mean 90% of underlying mortgages are in default.
March 6th, 2009 at 12:14 pm
This is a terrific post. I completely agree.
March 6th, 2009 at 12:15 pm
Not at all. The private sector has refused to price the assets out of fear and lack of knowledge. This a scenario in which the prices then default lower and lower. Kinda like trying to measure the temperature of a ‘hot potato’: you don’t want to hold on to it for fear of getting burned thus you only know it as ‘hot’.
Ultimately, Geithner isn’t too far off: derivate instruments whose ultimate value rests in a fairly determinable value of an object ought to be able to be priced well. (in the case of the CDO’s in question this is called a ‘house’. Others call it a ‘home’. Some people just call it ‘real estate’.)
But the private sector just doesn’t seem to want to touch the assets. Period. Maybe this is just a waiting game: the largest players in the market are either gone (Lehman, Bear Stearns), in the process of nationalization (Fannie/Freddie, AIG, Citi) or swallowed up (Merril Lynch, Wachovia) by others. That’s a lot of seismic disturbance for one market to take in the space of only a few months… There’s a whole lot of assets (good, bad, toxic or otherwise) that’s going to be tied up in unravelling litigation resulting from bankruptcies, mergers, nationalization and other activities mostly involving lawyers…
March 6th, 2009 at 12:19 pm
Matt, you say: “The only alternative would be to default on the national debt. Then you can do whatever you need to do, relaunch whatever you need to relaunch, and whatever comes out of the cleansing process will both be and be known to be a “good bank.” I don’t understand how that follows at all. I think you need to explain your reasoning more. How is the only alternative to bank nationalization defaulting on the national debt? And how would defaulting the debt increase our range of options?
March 6th, 2009 at 12:21 pm
A third alternative:
(1) government creates a new corporation.
(2) banks put their toxic securities into this new corporation and get ownership shares in return (based on some formula TBD).
(3) All of the toxic assets and their cash flows are analyzed and disclosed. The corporate shares are publicly traded.
Thus, we replace the current situation where toxic assets are marked so far down because there is no market, destroying the banks’ balance sheets, and instead the toxic assets as whole have a clear market value.
March 6th, 2009 at 12:25 pm
I see DTM, Oberon, and petr have beaten me to the points I wanted to make.
This post illustrates a lack of familiarity with financial markets that makes Matt’s commentary on the topic highly suspect. He’s really out of his depth.
One additional point:
Even once you accept the “big shitpile” theory of the case, there’s still uncertainty around how big and how shitty the pile really is.
There are two parts to this. One, which I think Matt is addressing, is that the assets are not very transparent, which makes it inherently difficult to understand the “right” valuation and the risk of further losses.
The second part however, is that it is not yet determined “how big and how shitty” the pile really is. If the banks continue to sink, unemployment remains high, and confidence remains low, more people will default on mortgages and credit cards and the assets will continue to decline in value. If a “giveaway” fixes the banks, however, then the assets will be more valuable and -voila- it’s no longer a giveaway! There’s a strong feedback loop involved and a significant part of “how big” the problem is has to do with how the government goes about fixing it.
March 6th, 2009 at 12:31 pm
The public won’t tolerate pouring countless more billions into the banks while they’re still privately owned. These banks fucked up big time and their bondholders & shareholders should be wiped out. Otherwise, Obama’s just asking for trouble.
March 6th, 2009 at 12:35 pm
TOMJ is right: “Start new banks with lots of capital, make loans.”
This is about the power elite, not about some financial rationality. It was obvious from the time TARP emerged, like some warped demon, from the brain of Paulsen and Bernanke, that instead of calmly looking at the financial services sector and realizing, it was the real bubble, and it had popped, we’ve opted to prop up the speculative economy. But it busted back with Lehman.
We should have capitalized a public bank. The objection is that such banks operate on political, not economic motivations. The objection is, of courrse, totally stupid. As we can see from TARP, from the rescue of AIT, etc., there is no boundary line between political and economic. What that objection amounts to is saying, chasing short term high yield is the most efficient way to allocate capital. Well, toss that idea in the garbage.
I doubt, in actuality, the U.S. will do what TOMj suggests. Cultures committed to suicidal ideologies don’t uncommmit when reality strikes. They commmit harder. The Aztecs could have defeated Cortes, but they couldn’t defeat the fact that they couldn’t understand Cortes. Having lost contact with a progressive heritage going through Teddy Roosevelt all the way back to 19th century populists – who would have seen what was happening in a heartbeat – we are doomed to hug and lug this corpse around until we are sufficiently poisoned. Since both the dems, living in their neo-liberal ideology, and the GOP, living in Randia, can’t understand what happened, we will see the bank mess take the economy down. How far down is the question.
It was easy to see this coming, of course. When Obama hired Larry Summers, architect of the mortgage fiasco – without Summers, I have a hard time believing Clinton would have signed off on the Gramm deregulation of the mortgage industry – we set our course on disaster.
March 6th, 2009 at 12:37 pm
AIG, not AIT.
March 6th, 2009 at 12:37 pm
To answer Notorious P.A.T.’s question, I get the impression they believe nationalization will ultimately be required from their refusal to talk straight about what they’re doing. They’re obviously holding something up their sleeves, and what else could it be? A secret desire to reward current management and shareholders? Sorry, I don’t buy it.
As for max’s assertion that the cost of waiting is lots of harm to people losing their jobs, I’m dubious. If a 3 or 6 month holding pattern followed by effective nationalization solves the political challenge, and if it leads to a robust recovery, I think the short period of higher unemployment and lower stock prices will be worth it. As to his point that all the money we’ve spent so far will have no value if we nationalize, I’m not expert enough to judge. But that doesn’t seem logical to me. Is it really up in smoke? Really won’t reduce the ultimate cost to taxpayers? Any one else have a different take?
March 6th, 2009 at 12:39 pm
Consider a bunch of guys selling meatball sandwiches from carts. Some of them have purchased tainted beef and made some of their meatballs with it. How much is a meatball sandwich worth?
I don’t need a meatball sandwich so badly that I’ll pay even a penny for one of those.
If you know that the sandwich is ok, it’s relative value shoots up.
If you can tell a good meatball from a bad one, you can buy the sandwich and toss the bad meatball.
If you know a cart has nothing but untainted meatballs, the value of the whole cartload goes up dramatically.
When you think all of the tainted meat is gone, people will buy sandwiches again. Many will have a bit of tainted meat, but only enough to make them queasy, not dead.
If all food is tainted meatballs, we eat the guys who own the carts.
March 6th, 2009 at 12:42 pm
I don’t notice anyone dealing with the foreign policy aspect of all this. Are we playing with our food, when otherwise we might just liquidate the banks, because those creditors who are foreign governments expect us to honor the debt we exported; or else?
March 6th, 2009 at 12:46 pm
Banks that ‘fucked up big time’:
Lehman Bros: bankrupt, management now unemployed.
Bear Stearns: Bought for pennies on the dollar by JP Morgan (via the Fed). Previous management now unemployed
Meryll Lynch: Bought for pennies on the dollar by BofA. Previous management now unemployed.
Wachovia: Bought for pennies on the dollar by Wells Fargo. Previous management now unemployed.
Citigroup: In the process of being nationalized. Management on the way out the door.
Goldman Sach: Has given up ‘investment bank’ status.
(Not) banks that have ‘fucked up big time’:
AIG: Nationalized. Previous management unemployed
Fannie/Freddie: Nationalized. Previous management unemployed.
If you could draw a map of ‘ground zero’ for this crisis it would encompass all these banks/not banks whose management (i.e. the actual critters who did the deals) are now either unemployed or on their way out the door.
Not every bank is to blame here. And, for real and for sure, a very goodly portion of those did decidedly share in the blame have decidedly been removed from the ability to do it again.
March 6th, 2009 at 12:57 pm
@5 and @6
What Geithner has said about the current undervaluing of the toxic assets is that it is primarily the result of the freezing of the credit markets – that is, a problem of liquidity. It’s not just an issue of difficulty estimating NPV and expected cash flows, etc. It’s that there may be folks out there who would be swooping these assets up as we speak, but they can not because the credit markets are broken and they can’t get the financing. This was the essence of what he said on This American Life last weekend.
So DTM is right that Geithner is trying to “create a market” for them right now – because there currently is not one, for reasons apart from the problems of valuation of the underlying assets.
March 6th, 2009 at 12:58 pm
Thanks for the reality check, petr. My view is that the Obama administraion is afraid of another Lehman Brothers detonation. Aren’t they currently doing “stress tests”? Didn’t Obama just do a “health care summit”?
Obama knows what happened with Japan. Geithner was in Japan when it happened.
Time to go with the Swedish model!
http://en.wikipedia.org/wiki/Elin_Nordegren
March 6th, 2009 at 1:01 pm
DTM – I think you missed the point. The Big Shitpile Corporation (”BSC”) idea does not make the banks and other institutions sell toxic assets for “whatever they can get”. Rather, they get shares in BSC, and those shares are publicly traded just like General Motors (well, bad example). The market for $100M+ CDOs may be broken because of lack of qualified buyers, lack of knowledge, etc. But we would easily have a market for the millions of shares of BSC, where any person or institution could buy shares and knowledge more widely disseminated. The initial bank shareholders of BSC could sell some or all their shares in the open market for cash, or keep them on their books at the market value.
If the problem is that the toxic assets are truly worthless, rather than a broken market, then BSC doesn’t solve much. But at least it would cost taxpayers next to nothing to try it.
March 6th, 2009 at 1:02 pm
Re petr’s comment “And, for real and for sure, a very goodly portion of those did decidedly share in the blame have decidedly been removed from the ability to do it again.”
—————-
Somewhere, Herb Greenberg is cracking up laughing.
So where did all the money go, petr? If there is a big shitpile of toxic waste, then presumably someone SOLD that big
shitpile of toxic waste in the past. What money did they receive and where did it go?
March 6th, 2009 at 1:06 pm
Just a note that the price of Citi is being propped up at just above $1.00 so that the NYSE does not have to issue a de-listing notice.
March 6th, 2009 at 1:20 pm
Re DTM at 29: “The objection is that such banks operate on political, not economic motivations.
That is one of the objections, and it is a serious one because in order for this to be a reasonable measure for the taxpayers, such a bank would have to attract lots of private capital.
Yet another problem is that any significant delay or other inefficiency in the movement of deposits from private banks into this public bank could have serious negative consequences for the broader economy. And so on.”
————–
Let’s see — the only reason the Five Big Bad Banks are open is because the US government has issued $TRILLIONS in FDIC guarantees to halt runs on the banks.
But if the US government set up a new National Bank with a clean balance sheet, depositors would hesitate to move capital from Citibank or Bank of America over to that new government -backed bank.
Yeah, right. Indicate you are going to withdraw fairy godmother’s FDIC’s protection for the Five Big Banks and watch that tsunami wave of money come pouring into the National Bank.
When you have had to commit $10 TRILLION of US taxpayer money to keep the financial sector from collapsing over its own mistakes, isn’t objecting to banks “operating on political motivations” skirting dangerously close to almost Republican hypocrisy?
March 6th, 2009 at 1:21 pm
It’s really very simple. Banks and broker/dealers know these assets aren’t mispriced now, they were mispriced when they sold them. They also know their downside risk on the pools of toxic assets they own makes makes them effectively insolvent. In otherwords, banks like Citi may have viable businesses that are generally performing well. Those businesses have value. Unfortunately for Citi, their exposure to CDO’s, SIV’s CMO’s and CDS’s is measured in the hundreds of billions. They can never earn their way out of this hole. Wall Street knows this already and so does Geithner. They are trying to avoid seeing the 800 lbs gorilla. This is why we can’t get past this problem. Wall Street titans who’s job it was to manage their firms for the long term, failed to do so. They basically ran their firms into the ground. They are the problem and the smart money is never going to rush back into the business until these places fully realize their losses. It’s easy to do. Citi and AIG declare bankrupcy, shareholders get wiped out, the Government sells off their assets and the bonder holders and counterparties get pennies on the dollar. It’s not pretty but we have to get here eventually. All of this can be done without a penny of taxpayer money. There will be plenty of buyers for the assets at Citi and AIG. They will restart these businesses under new management and we’ll begin to recover. Right now, we can’t recover.
March 6th, 2009 at 1:25 pm
DTM, well, on the manpower issue, I hear that there are a lot of cheap bankers out there.
More seriously, I think you are right about the capitalization. But there is a solution to that. The real reason I think the TARP creature came about was political – the “shadow” U.S. social insurance sector is invested in the market. The pensions, the 401(k) set. Any national bank set up could easily make a deal of guaranteeing a much lower return, but a secure return, for the course of the bank’s existence, or until it is privatized. You can solve the double problem in one stroke. And produce a bank that, for the moment, has the cash to stuff into the enterprise system – one big enough to actually manage, say, the bankruptcy of the auto industry, one big enough to fund the revamping of America’s power system, etc., etc. The housing bubble came about as a solution, one should always remember. There are no bubbles or solutions on the horizon. They have to be created.
March 6th, 2009 at 1:26 pm
Re DTM’s comment at 29: “But that isn’t the only objection. Another problem is the fact that banks need a lot of staff and infrastructure that don’t just appear out of thin air.”
————-
NYSE indicates that you can buy CITI’s “staff and infrastructure” for $5.6 Billion.
That’s with $Tens of Billions of US government backing. Withdraw that and it’s yours for a cup of Starbucks coffee.
Too bad the Executive Branch isn’t corporate management — the US taxpayers could have sued the WHite House by now for $Trillions over its failure to meet its fiduciary duty to the taxpayers.
March 6th, 2009 at 1:34 pm
This isn’t phsyics, Einstein… Wealth (which is not the same as money) can be created and destroyed pretty easily. 99.99% of what we’re talking about existed on paper only. Money, which isn’t the same as paper, is just an instrument here.
Nor am I implying that there isn’t something stinky here. But the smell, isn’t the same thing as lack of value. In the end we’re all dead and our corpse will stink. Then someone sticks us in the ground and we push up pretty daisies and fertilize mighty oak trees.
So, Einstein, this isn’t physics. There’s no conservation of wealth law. Nor is this chemistry, where ‘toxic’ has a very specific mean dependent entirely on the compositional makeup of a compound. Toxic, here, is a mix of transparency, courage, infrastructure and network effects and where the antidote is knowledge.
March 6th, 2009 at 1:38 pm
If government didn’t intend to pay more than they’re worth on the market, why would they bother? The market, by definition, will pay what they’re worth on the market.
I am broadly anti-bailout but I think this is a bum rap, against both Paulson and Geithner: the whole point of government involvement is to buy something that nobody else will buy for a given price. This is, despite what the government says for public consumption, a feature rather than a bug.
March 6th, 2009 at 1:39 pm
petr,
I think I’d be ok with unemployment if the man handed me a check for $209 mil on my way out the door.
-joe
March 6th, 2009 at 1:44 pm
Re petr’s comment “Wealth (which is not the same as money) can be created and destroyed pretty easily.”
———-
Well, when it’s destroyed this easily then someone’s been a rube. And the usual fix for that is to find a bigger rube –e.g., the US government. Or should I say, the Democratic voters?
March 6th, 2009 at 1:46 pm
By the way, anyone seen Hank Paulson collecting unemployment and shopping at Goodwill lately?
How about George Bush? Bill Clinton? Robert Rubin? Alan Greenspan?
March 6th, 2009 at 1:47 pm
DTM,
“Are you ignoring the guarantee to depositors?”
Retail customer’s deposits are guaranteed up to whatever limit the FDIC sets. They won’t be effected. The money we’ve already sunk into these firms in return for preferred shares or common shares will be lost. What I should have said is no more taxpayer money is needed.
March 6th, 2009 at 1:55 pm
“Too bad the Executive Branch isn’t corporate management — the US taxpayers could have sued the WHite House by now for $Trillions over its failure to meet its fiduciary duty to the taxpayers.”
And then there’s the bullshit of keeping those same taxpayers in the dark. As in refusing to reveal AIG counter parties (the beneficiaries of the AIG bailout), the Fed refusing to say who it’s helping, etc. Say, where did that Obama promise of “transparency” go?
March 6th, 2009 at 2:30 pm
All well and good in it’s own context. You’ll note, I hope, that I made no moral arguments regarding punishment and/or reward. I merely pointed out the extent to which those making decisions in August of 2008 were no longer making decisions in January of 2009.
Before we grab our torches and pitchforks and demand a beheading we ought, if only out of courtesy, see who it is that’s already been beheaded, no?
Personally, if I were to make a judgement on reward and/or punishment I’d note the size and extent of severance packages (golden parachutes…) and decry that they are wrong.
But, seen through the lens of economic recovery, it’s enough for me to see that a lot of the formerly important players aren’t so important any more.
March 6th, 2009 at 3:13 pm
Eliminating the mark-to-market rule would be an immediate good step in helping extend the life of some of these banks. Also, it would produce a huge rally on Wall St., which is why Obama will never do it.
March 6th, 2009 at 3:14 pm
DTM, thinking further of your objection – that it takes time to structure a recovery bank – I’m wondering why that wasn’t an insurmountable objection to Tarp. After all, it would seem that disbursig 700 billion dollars in a unique financial vehicle would itself be time consuming. Yet the wizards of the Fed not only pitched in, but they created two semi-legal off-the books entities,Maiden Lane and Maiden Lane 2, like magic, to help them relieve AIG.
In normal times, there might be something to the accusation that a state funded bank will lead to corrupt and inefficient practices. But the corrupt and inefficient practices, at the moment, are all in the private financial sector. We are seeing the Government pick up a tab for a vast feast that has already been eaten and digested by the plutocrats. In other words, no money for anything new, anything productive, anything that will actually help the vast mass of Americans, Chinese, Europeans, africans, etc.
TPM has been doing a good job of going through the amazingly sleezy Fed and Treasure setup, and what they are uncovering boggles the mind. This is the very appropriate end of Bushist crony capitalism and Clinton’s triangulation – the era of big government is over. Indeed. The era of naked predation has begun.
It also seems to me that you underestimate the hunger out there, among money managers, for a safe investment. I would guess that, given the opportunity, capital would flock to a taxpayer funded bank, and from that flocking would come the money that would be a vital second panel of the stimulus. Why government should rely wholly on direct funding for the stimulus, but is forbidden by taboos going back to King Tut from considering a recovery bank, puzzles me.
March 6th, 2009 at 3:18 pm
There are other alternatives.
Steve Forbes, who I don’t particularly like, had an excellent op-ed in the Wall Street Journal today on mark-to-market accounting. He points out, rather astutely, that the Roosevelt administration in 1938 got rid of mark-to-market account because they concluded that it was further dragging down the banks.
I’m quite certain, that after yesterday’s fiasco, that some of you will immediately chime in and say that Steve Forbes is a right-wing wingnut who’s one of the people that made this all happen. That’s fine…
As for those of you on the left that are genuinely interested in good analysis (that you don’t have to agree with), I imagine that you’ll take a look. Some of us are open minded…For the rest of you, feel free to fire away on the personal attacks.
March 6th, 2009 at 3:20 pm
ps – talking about corrupt practices – the TPM note yesterday on AIG contained this bit, which I think should definitely go viral. It isn’t that conservatives are wrong about the economy – they seem to have openly conspired to destroy capitalism and leave nothing in its place.
“Respectfully, you guys are totally misunderstanding something crucial in the AIG bailout: Derivatives claims are not stayed in bankruptcy. (Yet another brilliant innovation from the 2005 bankruptcy reform legislation.)
If AIG were to go down, derivatives counterparties would be able to seize cash/collateral while other creditors and claimants would have to stand by and wait. Depending on how aggressive the insurance regulators in the hundreds of jurisdictions AIG operates have been, the subsidiaries might or might not have enough cash to stay afloat. If policyholders at AIG and other insurance companies started to cancel/cash in policies, there would definitely not be enough cash to pay them. Insurers would be forced to liquidate portfolios of equities and bonds into a collapsing market.
In other words, I don’t think the fear was so much about the counterparties as about the smoking heap of rubble they would leave in their wake.
Additionally, naming AIG’s counterparties without knowing/naming those counterparties’ counterparties and clients would be at best useless, and very likely dangerous. Let’s say Geithner acknowledges that Big French Bank is a significant AIG counterparty. (Likely, but I have no direct knowledge.) BFB then issues a statement confirming this, but stating it was structuring deals for its clients, who bear all the risk on the deals, and who it can’t name due to confidentiality clauses. Since everyone knows BFB specialized in setting up derivatives transactions for state-affiliated banks in Central and Eastern Europe, these already wobbly institutions start to face runs. In some cases this leads to actual riots in the streets, especially since the governments there don’t have the reserves to help out. If you’re Tim Geithner, do you risk it? Or do you grit your teeth and let a bunch of senators call you a scumbag for a few more hours?”
The bankruptcy bill was obviously meant to institute debt peonage, but that it also instituted Hedges uber alles – my god. How stupid can our rulers get?
March 6th, 2009 at 3:21 pm
And by the way…On the question yesterday of what Fan and Fred did with the loans that they purchased…They sold them back into the market with a guarantee that they’d be honored.
Can’t imagine that any bank out there would look the other way on a deal like that.
March 6th, 2009 at 3:39 pm
At the base of this problem is the value of housing. Housing has a historic relationship to income, and from that it can be seen that housing prices have to fall a bit more to reach a sustainable relationship to income.
But then you have MBSs (mortgage-backed securities), ABSs (asset-backed securities) and CDOs (collateralized debt obligations) that were sold on the basis of the underlying value of home mortgages (and other assets). These were “engineered” in such a way that junk could be sold like AAA bonds. Thus this stuff is fantastically over priced.
On top of that, you have CDSs (credit default swaps), which are just bets made by people without sufficient money. CDSs were illegal from the beginning of the 20th century and were never explicitly made legal. They have no underlying real value and are just obligations between various financial entities. They have a notional value of something like $40 trillion.
The bubble has burst, but unlike the dot.com bubble, the government is basically trying to re-inflate that bubble.
It is a hopeless task and we can go broke trying to do it.
Unlike Bush, Obama can’t claim to be a fool; so if this continues, we will know that Obama is corrupt.
March 6th, 2009 at 3:55 pm
Re roger’s comment ““Respectfully, you guys are totally misunderstanding something crucial in the AIG bailout: Derivatives claims are not stayed in bankruptcy. (Yet another brilliant innovation from the 2005 bankruptcy reform legislation.) ”
—————
Couldn’t nancy and barry pass a law on Monday changing that?
March 6th, 2009 at 3:55 pm
This may well destroy the country as we know it — because the voters are going to decide that Washington DC can not longer be trusted with our credit card — and a Constitutional Convention is going to drawn up to revise the system of US government. Starting with destroying much of the federal government as it now exists. Including that malign pack of incompetent, corrupt shitheads known as the US Congress.
March 6th, 2009 at 5:47 pm
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March 6th, 2009 at 8:53 pm
We have this thing called the internet. And we have this thing called post offices. If the US decided to do selective service tomorrow, you think it would have trouble opening offices? i don’t really see this as an environment in which people with financial experience are going to be batting off the offers, and turning up their nose at a bank that doesn’t pay them premium compensation. I would figure you are talking three months in the start up stage, if the government wanted to do this. It is the political obstacles that would be more difficult. But I think quite easily overcome.
I don’t think you are making a serious objection here. I think the objection is more philosophical – the uncomfortableness with a government bank. But I think that discomfort will melt if the government does have a vehicle that can directly inject money into the commercial system, instead of indirectly, through broken banks.
March 6th, 2009 at 9:13 pm
If a bank is nationalized, only the shareholders need be replaced. All the management could be retained, including the board.
In fact, Citi is defacto nationalized right now. The problem is that the government doesn’t exercise its authority and clean out the bad debt.
March 7th, 2009 at 1:01 am
It’s easy to do. Citi and AIG declare bankrupcy, shareholders get wiped out, the Government sells off their assets and the bonder holders and counterparties get pennies on the dollar. It’s not pretty but we have to get here eventually.
This is the most ill-informed comment of the thread. It’s quite obvious — even a reading of Krugman informs one of this — that the government doesn’t dare allow holders of US bank debt to suffer the consequences of lending to deadbeats. I think the only question on this score is whether or not the taxpayers receive equity in exchange for the additional $500 billion/%1.5 trillion required.
March 7th, 2009 at 7:47 am
Banking will not recover until taxpayers take away the guarantees (except FDIC). The more banking [housing, medical, defense, ...] the federals take on, the more micro-management of the economy that is required by Congress.
Congress has about reached its limit. without structural reform of Congress, it cannot act as the socialist of last resort. Congress’s method of operation is to muddle through with two year funding cycles until the next selection. Not nearly the sample space we need.
As it is now, AIG, the Freddies and Fannies, Medical Insurance, automobile manufacturing, and even food now require month by month updating of their government accounts. Congress will break down under the burden.