The effort to get the second half of the TARP approved (or more accurately, not force Obushma to nix a Congressional turndown) is all feeling a bit Groundhog Day-ish, without the backdrop of a Lehman collapse and AIG implosion to add a sense of urgency and high drama.
The officialdom is again using its access to the media to make its case, as as before, countervailing views are not getting much airplay.
For the record, I am not opposed to the idea of recapitalizing banks, In fact, this blog was talking about the Swedish model long before it was popular to do so. However, the TARP falls so short in so many respects that it is hard to justify the official support for it, save that having started with a bad plan, it is now too hard and time consuming to come up with a better one.
Welcome to democracy in America, or what passes for it.
Some of the problems have been beaten into the ground in the media and are now at least getting lip service from politicians, namely, the lack of accountability, the lack of meaningful limits on pay. I happened to catch a bit of CNN today, and the announcer was waxing surprisingly eloquent on the fact that the new Citi-Morgan Stanley Smith Barney JV might set aside as much as $3 billion for retention bonuses. He enumerated how much each bank had gotten in bailout money and pointed out that it had to be funding the bonus pool. That is a sea change.
However, the version 1.0 of the TARP, “let’s buy troubled assets,” which failed to see the light of day for good reason, is now being trotted forth.
The right way to do this is to recognize losses, which requires realistic pricing of dud assets. Then the powers that be need to make a determination if the bank can be saved or not. Some banks will no doubt be such goners that they should be liquidated or merged. Dud assets get spun out to a liquidation vehicle which is separately capitalized.
However this model assumes nationalization, which is frankly what is called for here. Little and medium sized banks, in roach hotel fashion, go to the FDIC and they don’t come out, at least in not in their previous form. But our regime for dealing with big troubled banks stinks. We keep incumbent management in place, we don’t make shareholders (and bondholders, which may selectively be appropriate) take their lumps, and we come up with goofy ideas like “buy troubled assets” as a workaround.
Why is that such a bad idea? It is a hidden subsidy. There is NO point in buying bad assets at market value (you don’t need the Feds to do that). The entire point of the exercise is to pay an above market price to recapitalize the banks. But this has the effect of disguising the amount of the recap AND preventing the taxpayer from getting any upside. In a nationalization case, the taxpayers pony up the dough, but they get all the bennies when the bank is later sold. And in Sweden, the government showed a profit on the exercise.
Oh, and the side benefit of the TARP: other banks can use the phony above market prices paid by the TARP for valuing similar assets. This is straight out of Japan, where banks kept dodgy loans on their books for years at above market prices. Banks that have too much of that garbage will dump it on the Treasury, but banks with less than terminal amounts will get to value them at fantasy levels.
If you are worried about lack of accountability, you should hate the TARP. The Fed and Treasury have stonewalled on disclosure on the TARP and the Fed’s alphabet soup of special facilities. The TARP by design will muff how much of the amount paid is fair value versus subsidy. And how can one EVER evaluate the effectiveness of this program if there is no notion of what was spent on bank recapitalization? This is a banana republic exercise, by design.
But you see merely “this is ugly but necessary” in the media. Now the officialdom has gotten smart enough to acknowledge that this is distasteful, but you still see the press effectively running with government spin. While the dissent is acknowledged, look at the prominence given to the official line and the lack of discussion of the problem of how to price the bad assets.
From the Wall Street Journal:
Top Federal Reserve officials said Tuesday that the incoming Obama administration must pump more money into ailing financial institutions and might need to take bad assets off the hands of banks, a stance that injected the central bank into a tense political debate.
President-elect Barack Obama visited Capitol Hill Tuesday to lobby Senate Democrats for the remaining funds in the financial-rescue plan passed in October, amid deep concerns among lawmakers about the program’s effectiveness. Lawmakers are pushing for new conditions as well as substantial new spending to prevent foreclosures, while some would like to scrap the program altogether….
Fed Chairman Ben Bernanke made a push Tuesday for a new effort to help banks get bad loans off their balance sheets, the TARP’s original purpose. In a speech at the London School of Economics, he warned that while TARP funds helped prevent a global financial meltdown last year, bad assets continue to clog the balance sheets of financial institutions. Fixing that problem, he said, is paramount….
Donald Kohn, the Fed’s vice chairman, delivered a similar message in testimony before the House Financial Services Committee Tuesday. Both men also talked about the need to aid homeowners, but their emphasis was on securing the workings of the banking system.
Lawmakers have been highly critical of the TARP, arguing that taxpayer funds haven’t led to more bank lending as planned and that the Bush administration failed to use the funds as it promised it would, such as to advance programs to prevent mortgage foreclosures.
During Tuesday’s meeting, Mr. Obama’s pitch for release of the bailout funds framed the issue as something that could help define “our ability to govern together,” said Connecticut Sen. Joseph Lieberman, an independent who caucuses with the Democrats. Lawrence Summers, a top Obama economic aide, made his own pitch to members of the Senate Finance Committee Tuesday.
The request for the remaining TARP money has set in motion action on a resolution of disapproval, which could block the funds’ release. The Obama team and top Democratic congressional leaders have little hope of defeating the resolution in the House, where wariness of the program runs high. But they hope to derail it in the Senate. A vote on the issue could come by week’s end….
Bad loans are now rising as the weak economy drives more borrowers into default. The presence of bad loans on banks’ balance sheets “significantly increases uncertainty about the underlying value of these institutions, and may inhibit both private investment and new lending,” Mr. Bernanke said Tuesday.
He laid out three approaches to get bad assets off banks’ books. One is to buy them outright. Another is to provide federal guarantees under which the government would agree, for a fee, to absorb losses if these assets fall further in value. A third is to help set up “bad banks,” which would purchase bad assets from financial institutions in exchange for cash or equity in the bad bank.
Bernanke’s analysis is dishonest. Banks ALWAYS clamp down on lending in recessions. Some of it is due to the cortisol-generating effect of looking at all those loan losses from the last cycle (cortisol is a stress hormone and studies of traders have found that when they lose money, they make lots of cortisol, and cortisol makes one risk averse. Maybe we need a designer pil for lenders rather than the TARP, if you buy Bernanke’s logic, Much cheaper).
But there are completely valid reason for banks to curtail lending. First, they lent to people they shouldn’t have, they learned their lesson and won’t do that for maybe five years until they forget how stupid it was. Second, the economy is getting worse, Until there are signs of a bottom, risk aversion is completely rational. A fair percentage of borrowers will suffer lower incomes (or job loss) and will become deadbeats. Being stringent is the only sensible course of action now.
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I will add one more point.
To avoid inflation the money has to come out of the system when the capitalists get over themselves. The simplest way to that is to sell them back the bank.
Yves – “The right way to do this is to recognize losses, which requires realistic pricing of dud assets.”
And from my senator quoting her letter to Sen Dodd – Chair of Senate Banking, etc Comm.
Alternatives to mark-to-market accounting. The economic stabilization legislation passed in October requires the SEC to develop a report within 90 days regarding the impact of mark-to-market accounting on the current economic crisis. I agree that methods to value troubled or illiquid assets must be further examined, and I hope this report will provide reasonable alternatives to mark-to-market accounting in order to improve transparency in financial markets. The recent SEC guidance that permits a firm’s internal assumptions, or expected cash flows, to be used in measuring the fair value of an illiquid or troubled asset is also a positive step forward. However, clear standards and uniform criteria must be outlined for what risk premiums should be built into such internal assumptions in order to ensure that assets are properly valued.
Obushma?
Have you got a copyright on that? :-)
John b,
I can’t take credit. Reader dearieme came up with it.
I was taken by the irony of this sentence from Bernanke’s speech from which the WSJ quote came: “History demonstrates conclusively that a modern economy cannot grow if its financial system is not operating effectively”.
How true!
It’s nice to see Mr Bernanke talking about regulatory reform in the speech, but then he says: “As we proceed with regulatory reform, however, we must take care not to take actions that forfeit the economic benefits of financial innovation and market discipline”. An interesting viewpoint, since just about everybody would give their eyeteeth right now if they could indeed “forfeit the … benefits of financial innovation”! But I particularly liked the “market discipline” bit. I thought it’s pretty good for Bernanke to say this with (presumably) a straight face while the Federal Reserve is moving Heaven and Earth to make sure that banks in particular are excused the consequences of their actions. Discipline?
As much as I resist falling into the arms of the doom and gloomsters, I must admit having lost confidence with the Keynesian dogma that the only way out of this hole is dig deeper.
I think we’re closing on the point where it will be fair rebuttal to the canard “but it would be much worse if we didn’t (spend all the dough under the TARP)” to simply say, “How?”
Credit market indicia notwithstanding (and I would be interested in hearing the analysis of whether the tightening TED spread and lower LIBOR rates are simply as much due to demand destruction as to the whirring of helicopters), things are looking pretty damn grim. If the smart money bails during this earning season, I think we may have a close up view of 1932.
R in NY
“Welcome to democracy in America, or what passes for it” – with respect to the tarp plan.
Chris Whalen did some nice investigative research addressed his comment in a Feb 1993 missive “Gone Fishing.” In it he identifies former fed governor Gerry Corrigan as the author and promoter of the “”too big to fail” and “systemic risk” concepts back in the early 1980’s and 1990’s. These are the concepts that supplanted America’s capitalist birthright with socialism or welfare for the rich. It is a good but lengthy read, some key excerpts:
Corrigan is a classic interventionist who sees the seemingly random workings of a truly free market as dangerously unpredictable. The intellectual author and sponsor of such uniquely modernist financial terms such as “too big to fail,” which refers to the unwritten government policy to bail out the depositors of big banks, and “systemic risk,”
At a July 1, 1991 conference on restructuring financial markets, Corrigan said that relying entirely on market forces actually posed a risk to the world financial system. “There is a tendency to think that market forces must be good,” he opined, and said also that the “challenge” for regulators will be how to “balance free market forces” with the “dictates of stability in the financial structure.”
Corrigan worked very hard to ensure that stability, regardless of the secondary impact on markets or the long-term cost…Gerald Corrigan cleaned up the messes left behind by the big banks and politicians in Washington, and tried to keep a bad situation from getting any worse.
From the first day he took over as head of the New York Fed in 1985, Corrigan’s chief priority was “managing” the LDC debt crisis and in
particular its devastating effects on the New York money center banks. Even in the late 1980s, when most scholars and government officials admitted that loans to countries like Brazil, Argentina and Mexico would have to be written off, as J.P. Morgan did in 1989, Corrigan continued to push for new lending to indebted countries in an effort to bolster the fiction that loans made earlier could still be carried at par or book value, 100 cents on the dollar.
“Anything approaching a ‘forced’ write down of even a part of the debt — no matter how well dressed up — seems to me to run the risks of inevitably and fatally crushing the prospects for fresh money financing that is so central to growth prospects of the troubled LDCs and to the ultimate restoration of their credit standing,” Corrigan wrote in the New York Fed quarterly review in 1988. “A debt strategy that cannot hold out the hope of renewed debtor access to market sources of external finance is no strategy at all.”
But in addition to pressing for new loans to LDC countries, Corrigan worked hard at home to manage the debt crisis, bending accounting rules, delaying and even intervening in the closing of bank examinations, resisting regulatory initiatives such as market value accounting for banks’ investment securities portfolios and initially promoting the growth of the interbank loans, swaps and other designer “derivative” assets now traded for short-term profit in the growing secondary market. In particular, Corrigan played a leading role in affording regulatory forbearance to a number of large banks with fatal levels of exposure to heavily indebted countries in Latin America. But no member of the New York Clearing House has received more special treatment than Citibank, the lead bank of the $216 billion total asset Citicorp organization
Several of the nation’s largest commercial banks, which are headquartered in Corrigan’s second Fed district, are or until recently have been by any rational, market-oriented measure insolvent and should have been closed or merged away years ago. Concern about the threat to the financial markets of “systemic risk” is used to keep big banks alive, and also as a broad justification for all types of market intervention.
Rational observers would agree that the collapse of a major banking institution is not a desirable outcome, but the larger, more fundamental issue is whether any private bank, large or small, should be subject to the discipline of the marketplace. In the case of Citibank, Chase and numerous other smaller institutions, Corrigan, like Volcker before him, answered this question with a resounding “no.” The corporativist tendencies of this extra-legal arrangement amounts to the privatization of profits and the socialization of losses.
In the case of the conflict between monetary accommodation for big money center banks and complaining about the explosive growth of derivative products, for example, or warning about banking capital levels while allowing regulatory forbearance and financial accommodation for brain dead money center institutions, Corrigan’s positions are riven with logical inconsistencies and interventionist prescriptives that, as the Salomon scandal also illustrates, fail to address the underlying problems
Since beginning his work under Volcker in 1976, Corrigan has met and at least temporarily resolved each foreign and domestic crisis with various types of short-term expedients designed to maintain financial and frequently political stability. The rarefied atmosphere of crisis management leaves small time for recourse to first principles.
Read the entire script here http://www.rcwhalen.com/pdf/fishing.pdf
After reading Whalen’s 1993 missive, I can only say this about our policymakers of today at the Fed and US treasury: “They are all Corrigan’s now!” What a pathetic bunch of offspring. Reminds me of psychologist Alice Miller’s book on parents transmitting their own bad behaviors/ normative but flawed and harmful thinking habits–called “For your own good” — onto their children.
It’s a family affair….you see it in the blood, blood’s thicker than mud…You can’t cry, ’cause you’ll look broke down, But you’re cryin’ anyway ’cause you’re all broke down!
gordon, good catch on Bernanke quote:
“however, we must take care not to take actions that forfeit…market discipline.”
WTF, who does Ben believe he is talking to? Does he believe that his audience is so duped and mystified by events that we can clearly see that every action they have taken has forfeited precisely that, market discipline.
As per Whalen’s excerpts above, forgoing-feiting market discipline was an explicit Fed policy that favored the “dictates of stability in the financial structure” over market discipline.
This makes me sick, because I am sick and tired of this crap still being allowed to go on:
“the announcer was waxing surprisingly eloquent on the fact that the new Citi-Morgan Stanley Smith Barney JV might set aside as much as $3 billion for retention bonuses. He enumerated how much each bank had gotten in bailout money and pointed out that it had to be funding the bonus pool. That is asea change.”
It is time for a good old-fashioned banking holiday to start Obama’s first 100 days, send in the bank examiners, identify and purge the rot and open the biatches back up again, cleansed of their toxins and management teams too poisoned to think of anything but their goddam bonuses! This is 2009 for Christ-sakes already! Bonuses should be tombstoned ~ R.I.P. 2008
Exactly ~
Yves
“The right way to do this is to recognize losses, which requires realistic pricing of dud assets. Then the powers that be need to make a determination if the bank can be saved or not. Some banks will no doubt be such goners that they should be liquidated or merged. Dud assets get spun out to a liquidation vehicle which is separately capitalized.
However this model assumes nationalization, which is frankly what is called for here. Little and medium sized banks, in roach hotel fashion, go to the FDIC and they don’t come out, at least in not in their previous form. But our regime for dealing with big troubled banks stinks. We keep incumbent management in place, we don’t make shareholders (and bondholders, which may selectively be appropriate) take their lumps, and we come up with goofy ideas like “buy troubled assets” as a workaround.”
~~~~~
Yves is one of the few economists around that will even talk about the problem … that takes chutzpah … the powers that be are up to fleecing the American tax payer of hundreds of billions and probably trillions.
The trouble I see is the enormity of the problem assets. We are talking hundreds of trillions and just a fraction of a loss amounts to trillions! Why should we tax payers be put on the hook for such sums?
In order to get the financial markets moving again transparency then confidence then trust must be restored. Which is why we need a Bank Holiday or Swedish Plan.
Nothing but more fear-mongering here:
“Bad loans are now rising as the weak economy drives more borrowers into default. The presence of bad loans on banks’ balance sheets “significantly increases uncertainty about the underlying value of these institutions, and may inhibit both private investment and new lending,” Mr. Bernanke said Tuesday.
Ben, I am okay with increasing the uncertainty about the underlying value of these institutions. Actually Ben, we are pretty darn certain of the value of these institutions without sending in bank examiners. The examiners would simply confirm what everyone already knows Ben, they are freaking zombies. And Ben, you and Hank and your cadre of other policymakers and legislators are the only ones afraid to admit it.
The American people can deal with a lot of shit Ben, if you and Hank would just deal with the root of the problems in a straightforward rather than sideways manner.
Ben Bernanke is just doing his job. He is the Chairman of the Federal Reserve. The Federal reserve is a private corporation whose majority shareholders are … Wall Street Banks!
It is the duty of the head of any corporation to put the shareholders interests first and foremost … Bernanke is doing just that, putting his shareholders, the Member Banks, ahead of the government and the public even though they brought this on them selves.
‘A fair percentage of borrowers will suffer lower incomes (or job loss) and will become deadbeats’
Please explain last clause in this quote.
A deadbeat is someone who does not pay back his debts.
Even as an ex-economist, I find the plethora of arguments going in all directions to be confusing.
I think it because too many statements by people are negative ones attacking a particular aspect of a proposal. Fair enough, we very much need critiques.
But the ‘what I would do if I rules the world’ content is absent in most cases.
Would everyone please end their piece by saying exactly what they would do (as holistic as possible) and what the outcome would be for the economic system , short and long term.
If they don’t set their critique against an overall approach, it cannot be properly judged.
From Hotairmail
“Bernanke made a speech at the London School of Economics”.
That’s a joke. What do they know?
The LSE was just an audience.
The speech should be read by one and all. The new monetary policy is set out terminologically and would seem to be best described as, in addition to a Fed Funds near zero ,
‘credit easing’ , (my words) achieved by selective intervention to lower spreads in certain credit markets without sterilisation.
He is effectively saying that the build-up of banks’ excess reserves is a bi-product of the need to keep the short end of the yield curve near zero.
‘Quantitative Easing’ is now misleading and in my view should not be used except in reference to Japan.
He seems to assume that the excess reserves will fade as credit easing is reduced(in most cases automatically).
It would helpful to say the least if some experts can take a view on what if any impact the excess reserves will have on bank lending.
We are on a strange planet without a compass(or GPS) as no models to my knowledge include a full modelling of the financial sector and its linkages to the real economy and certainly not one whose parameters have been tested on any period like this.
Roubini’s gut feel (and a few others) seems to be the best we have!! Latest below from his RGE for info.
——————–
Navigating the First Global Economic Recession
With the industrial world already in outright recession and the emerging world navigating towards a hard landing (growth well below potential) we expect global growth to be flat (around -0.5%) in 2009. This will be the worst global recession in decades as the fallout of the most severe financial crisis since the Great Depression took a toll first on the U.S. and then – via a variety of channels of recoupling – on the rest of the global economy.
We forecast that the United States economy is only half way through a recession that started in December 2007 and will be the longest and most severe in the post war period. U.S. GDP will continue to contract throughout all of 2009 for a cumulative output loss of 5%.
One last look at 2008 will reveal a very weak fourth quarter with GDP growth contracting about -6%, in the wake of a sharp fall in personal consumption and private domestic investment. We see the real GDP growth contraction playing out through the year as follows: Q1 2009 -5%; Q2 2009 -4%; Q3 2009. -2.5%; Q4 2009 -1%, adding up to a yearly real GDP growth of -3.4% for the U.S. in 2009; our forecast is much worse than the current consensus forecast seeing a growth recovery in the second half of 2009; we also predict significantly weak growth recovery – well below potential – in 2010. Canada entered recession at the end of 2008, and the outlook for 2009 is likely to be worse, with the economy contracting by an estimated 1.5-2% for the year.
In 2009, Latin American countries will face a significant slowdown in economic growth. A combination of negative external shocks will slow down regional GDP growth to 0.8% in 2009. Under our scenario, all countries in the region will experience significant deceleration of economic activity in 2009. We expect Argentina and Mexico to shift into negative growth territory on a year-over-year basis. For the region as a whole, recovery will likely begin between the first and second quarters of 2010.
The latest cyclical upswing in the Eurozone (incl. large four Germany, France, Italy, Spain) was largely driven by a temporary but powerful boost to domestic investment from disappearing risk premia in the aftermath of the adoption of the single currency, and by external demand from a buoyant world economy. Both demand sources fizzled out by the second half of 2008, leaving the Eurozone as a whole and its largest members exposed to diverging deleveraging patterns in the face of suboptimal EMU-wide automatic fiscal stabilizer mechanisms. The latest record low readings of leading and sentiment indicators point to a severe recession ahead in 2009 that shapes up to be worse than the 1992/93 crisis. For the Eurozone we expect a below consensus y/y contraction in real GDP of around –2.5%, with negative growth in each of the four quarters of the year.
The United Kingdom economy is poised to shrink in 2009. Our forecast of a -2.3% growth in real GDP is below consensus as we do not expect a recovery in the second half of the year. Despite the relative resilience of consumer spending, investment should continue to collapse and the housing sector is yet to reach a bottom.
The Nordics, whose growth has outpaced other developed economies in recent years, are poised for much slower growth in 2009 and most likely an outright recession in most of the countries in this region. After growing faster than the world for the past decade as convergence occurs, Eastern Europe is set to slow abruptly in 2009. Countries with the largest current-account deficits—notably Estonia, Latvia, Lithuania, Romania, Bulgaria — are the most exposed to sharp corrections. Estonia and Latvia are already in the midst of sharp recessions, and Latvia turned to the IMF for help in December to avert crisis. The risk of an outright financial crisis is high in a number of countries in this region.
The combination of global credit headwinds and lower oil prices have dampened growth prospects in the Commonwealth of Independent States (CIS) (ex-Russia) with growth expected to slow to about 2% in 2009, with Ukraine and Kazakhstan being hardest hit by the crisis. With oil prices remaining well below half of the 2008 level, we expect Russian output to contract by 2.5-3% in 2009 as manufacturing contracts and Russia’s inflow-fueled consumption slows sharply.
Given its reliance on exports and capital flows to fuel growth Asia faces a gloomy 2009 amidst a G-7 recession. We expect Asia ex-Japan’s growth to slow down sharply to 3.8% in 2009. Hong Kong, Singapore and Taiwan will remain in recession through H1 2009, which might extend into Q3 2009 while the ASEAN economies will slow significantly from the 2004-07 growth trends. We believe China will experience a hard landing in 2009, with growth unlikely to exceed 5%, a sharp slowdown from the 10% average of the last 5 years. The reversal of capital flows and high credit cost will pull down India’s growth significantly to around 5% in 2009 from an estimated 6% in 2008.
Japan’s domestic demand continues to be an unreliable growth driver, and its export machine – the growth engine of recent years – is stalling given the global contraction and a stronger yen. Consequently, we foresee real GDP growth contracting 2.5% in 2009 after almost flat growth for 2008 as a whole.
Australia’s recession will likely end in 2009 after starting in Q4 2008. Average annual GDP growth in 2009 will be flat to sluggish (0-1%) after registering an estimated 1.6% in 2008. New Zealand may have a tougher time than Australia during the global recession, with GDP expected to contract 1% in 2009 after growing around 1% in 2008.
Given that the global recession will reduce demand for Middle East and North Africa’s resource and non-resource exports, and the global liquidity crunch will reduce capital inflows, growth is expected to slow to an average of 3% in 2009 from almost 6% in 2008.
GCC countries will witness a significant dip in their hydrocarbon receipts, terms of trade, and current account surplus positions in 2009. Average real GDP growth in the GCC may slow to 2.5% in 2009. Israel’s growth is expected to slow significantly in 2009 to around 1% and we would not rule out a contraction.
Sub-Saharan Africa’s growth will slow to around 3.5% in 2009 from an average pace of 5% over the last decade as the reduction in global demand will reduce exports and capital inflows, including development assistance. Growth in South Africa in 2009 is set to slow to around 1% with several quarters of negative growth as mining output contracts.
Commodity prices, which already fell sharply in the second half of 2008, will face further price pressure in 2009. We estimate an average WTI oil price of $30-40 a barrel in 2009, as the fall in demand continues to outstrip supply cuts and production delays.
There are a number of ways you can paint a wall. You can take a pot of paint and a brush and inch by inch cover it with paint. You can use a broad brush or roller or you can just keep throwing buckets of paint at the wall in the hope that eventually the whole wall gets covered. I know which method the TARP reminds me of.
Thoughts on what individual banks should prudently do, namely to stop leading to the insolvent and prepare for others to become insolvent as they loose their jobs, misses an important driving force behind banking. Banking is about making profit and you cannot make profit from a dead economy, so the game changes from banks lending, to skimming a profit from tax payers and pensions lending money. The problem is that the banks are finding it hard to find anyone with money left to lend to the insolvent or coming insolvent.
Conspiracy theorists may wonder why the rush for the funds, did Ben go anywhere else on his trip to London. Was the UK bailout announcement timing mean’t to cover up more than the dreadful trade gap figures. Perhaps S&P downgrades the UK or even the US ? Ireland has decided to cut back significantly on government spending after being threaten with a downgrade and UK and European bailouts have been decidedly muted perhaps to prevent such actions. Some how I doubt it, but I think ratings agencies are likely to be in the thick of the action.
Yves said: “However this model assumes nationalization, which is frankly what is called for here.”
Absolutely. And it is coming. A couple more straws need to be placed on the camel’s back before it gives way and the powers that be realize there is no alternative.
I’m guessing two things will happen – the collapse of the FHLB system, requiring another gargantuan bailout, followed by requests for more TARP money by Citi, BoA, and perhaps one other big one. Then all shoes will have dropped, and there will be no choice but to nationalize the banking system and set up mechanisms to get rid of bad assets and bad banks so that a new, stronger system can emerge.
Yves,
ANOTHER great post today, although I sense your readers' enthusiasm for your [correct] prescription of the need to nationalize banks and write off the bad debts is lukewarm, possibly because it is philosophically troubling to many of them.
For me, the reason Bernanke, Paulson & Bush have not gone down that route is that it smacks of socialism [and a perceived denial of capitalism] for which they would be drawn & quartered by all conservative politicians. The available evidence [Reinhart & Rogoff] is so compelling that the Swedish solution is the best way to go, there has to be some deep philosophical reasons for not going down that route.
So while adherence to the ['barbaric?'] gold standard hurt the UK and other economies in the 20's & 30's, today it's adherence to some other equally out of date economic philosophies, that keeps us from doing the proper things to work through this crisis as quickly as possible.
I agree with ruetheday – bank nationalization is coming. The TARP money alone does not even cover the amount of off-balance sheet SIVs that Citi has, and that’s before we even consider how much bailout money BAC, JPM, WFC and others will need due to higher loan defaults in this weakening economic environment.
Also, should the banks ask for more bailout money as expected, I can’t wait to see the theatrics play out in front of Congress. If Congress can take the auto companies through the ringer with all the blue collar jobs at stake, I can only imagine what they’ll do to a much of Wall Street fat cats when they’ve got them in the limelight squirming for money. It wouldn’t play well with most constituents to let them get off easy.
Yves-
I’m curious why you think it will only be ‘selectively appropriate’ for bondholders to take their lumps when we eventually get around to nationalising insolvent banks. What is the justification for taxpayers bailing out bondholders at full value? It seems to me that the size of the losses at many large banks will overwhelm shareholder equity, and will require either significant haircuts for bondholders or significant outlays from the federal government.
This seems to me to be the reason that Bernanke et al do not want to consider the Swedish model yet; to do so will either require truly massive federal outlays that cannot be disguised as ‘loans’, or losses to bondholders that will lead to significantly higher interest rates going forward.
Good discussion once again.
U.S. Congr. & Senate form of governance (and archaic political judicial system) are hopelessly broken.
Seems obvious Paulson & crowd have been given too much time and taxpayer dollars to bail out their buddies firms.
independent