Wednesday, January 28, 2009

Obama Channels Bush? Uh-Oh . . .

From, "FDIC May Run ‘Bad Bank’ in Obama Plan to Remove Toxic Assets":

"The Federal Deposit Insurance Corp. may manage the so-called bad bank that the Obama administration is likely to set up as it tries to break the back of the credit crisis, two people familiar with the matter said."

"Federal Reserve Chairman Ben S. Bernanke suggested on Sept. 23, when then Treasury Secretary Henry Paulson was initially considering buying bad assets, that the government should purchase them at values above the near fire-sale prices prevailing in the market."

Regarding the politics and economics of this matter, please consider reading the (somewhat lengthy) free post at Institutional Risk Analytics, "The Big Banks vs. America: A Roundtable with David Kotok and Josh Rosner".

One of the points of agreement that came out from this discussion was that President Obama is being heavily influenced by Robert Rubin, who helped guide Citigroup to its current state, and that the politics were appearing to favor the money-center banks over community banks.

Econblog Review believes in a level playing field and free-market capitalism. If money-center banks own assets that they wish to sell, they will have to accept the market price. If that price later rises, then perhaps they never should have sold. Or more to the point, they never should have voluntarily let themselves become so leveraged that they were forced to sell below what they think is fair value.

After all that the Federal Government has done to support housing and banks, why would it want to get in the business of owning complex assets? If it does, should it not make the best deal it can? That means paying "fire-sale" prices- a term that sugar-coats the situation for the companies selling the assets. After all, the term "fire sale" refers either to items or the facility in which they were store that were damaged by a fire. What happened to these securities the companies don't like any more is more predictable. They simply went down in value because the companies put them on their books at the peak of the boom. No out-of-the-blue fire occurred. That's life. These same companies used to boast about all their brilliant decisions that made money. Now it turns out that they were just gamblers, and like all compulsive gamblers, their luck ran out. Sorry, guys, bad quarter, bad year. What I want are clawbacks to be considered, not gifts so you can gamble again, always knowing that the house will let you keep your winnings but write off your losses if you lose.

Since it is clear that any "bad bank" will only exist to overpay for these assets, then to the (unknowable) extent it overpays, it will provide an unfair and unearned subsidy to the companies that currently own these assets. All of us who have lost money on real estate, stocks, boats, art, etc. have received no such subsidy. In fact, a prior Democratic Congress limited the deductibility of these losses to $3000/year, a number which has never been adjusted for inflation.

Yet now we are also looking at proposals for various tax benefits for corporate losers, in addition to the "bad bank" proposal being discussed here.

The initial Bush/Paulson/Bernanke/Reid/Pelosi/Frank/ etc. scheme for the bank bailout was more or less exactly what is being floated now. But now it is in addition to TARP funds. (By the way, Nouriel Roubini has provided a fascinating story of how a group of experts, including him, persuaded Congress to morph TARP I into TARP II and use it for equity injections into the banks.)

Under the Bush-Obama/Paulson-Geithner (in chronological order) plan, the American taxpayer will overpay for various financial products of uncertain value, and will get to own stock in the companies:

"In any new rescue efforts, the Treasury is likely to continue to require banks to hand over ownership stakes to the government as a condition of receiving aid. Programs so far have sought preferred shares and warrants, which can be converted into common stock and cashed out on the government’s request."

Excuse me. This is socialism/corporatism. From a public policy standpoint, money is money. No one cares what the name of the institution is that lends money for a mortgage. So, keeping company A alive is irrelevant to us. There are numerous truly well-capitalized financial companies/banks in the U.S. that would love to grow, and that never put B-S- assets on their books. A better approach than the apparent Obama Administration approach would be the anti-Bush, not only on Guantanamo. Be a populist, not a corporatist.

Financial companies that own financial products that they wish to sell should do so. If doing so at market value means that the company is revealed to be insolvent, then the company really is insolvent. Such a company should be put into receivership, sold piecemeal or recapitalized in such a way that taxpayers' interests come first and those of the company, its owners and those who lent it money (i.e., its bondholders) come after those of you and me. In any case, regulators already know intimately what assets (Tier 3 etc.) these companies own and approximately what they would fetch if sold in the free market. So all this is a type of kabuki dance to find politically acceptable ways to transfer taxpayer assets to those of failing financial institutions, institutions which made poor decisions but rewarded insiders beyond lavishly while they were in the process of failing.

This blog has been making the point consistently that on economic/financial affairs, the Obama Administration was one of continuity with the Bush Administration; with the most political Fed head (Dr. Bernanke) since Mr. Miller of Jimmy Carter's era in cahoots with the Administration.

Change we can believe in? On the bank bailout front, sadly not.

Copyright (C) Long Lake LLC 2009

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