AIG and the Hindered Haircut

by Dollars and Sense

Timothy Geithner, Ben Bernanke, and Henry Paulson (remember him?) are being grilled today on Capitol Hill as part of investigations of the AIG bailout by the House Committee on Oversight and Government Reform, headed by Edolphus Towns. (I thought we'd done a post a while back that included a good quote from Towns--something about bankers and corruption. But all I could find was this post, with a quote from Towns about BoA's awesome pecans. But I like how he is dogging the bankers and their government backers.)

Here's the NYTimes's latest article on the hearings.

For background on the AIG bailout, please see the article by Marty Wolfson in our Sept/Oct issue, The AIG Bailout Revisited.

There's also a really good article in the Financial Times called The Hindered Haircut; hat-tip to erstwhile D&S megablogger Larry P. (we still get the occasional post, but not like the old days, alas...). The authors ask: why haircuts for Security Capital Insurance counterparties, but not for AIG counterparties? Could it be that AIG's main counterparty was Goldman Sachs?

Finance: The hindered haircut

By Henny Sender, Gillian Tett and Francesco Guerrera | January 26 2010 22:49

It was mid-2008 and a little-noticed wrangle was taking place that will be of particular interest to the US congressional committee that is on Wednesday due to grill Tim Geithner, US Treasury secretary, over the rescue two months later of AIG, America's biggest insurer.

On one side of the earlier negotiations stood a group of banks that included Merrill Lynch of the US and France's Société Générale. On the other: Security Capital Assurance (SCA), a Bermuda-based bond insurer that had run into difficulties as the US subprime mortgage market imploded. At stake was how much money the banks should receive on insurance contracts that SCA provided for complex pools of mortgage securities known as collateralised debt obligations, or CDOs.

Among other reasons, the banks had bought the insurance—called credit default swaps, or CDSs—to protect themselves against a panic just like the one sweeping the markets at that time. But SCA lacked sufficient capital to pay the claims in full and the banks feared that if the insurer went under, they would receive nothing.

Something had to give. After heated talks, Merrill agreed that July to cancel its CDS contracts for a pay-out of 14 cents on the dollar—a severe "haircut", in market parlance. The other banks also reduced their original claims. At the conclusion of talks that dragged on until May 2009, not a single lender was paid in full.

That is potentially awkward for Mr Geithner, who before joining the administration of President Barack Obama was president of the Federal Reserve Bank of New York, the most important regional component of the US central banking system. What Congress, and perhaps historians, will have to decide is: did the government, through collusion or mistakes, take billions of dollars from the taxpayers' purse and put them into the coffers of some of the world's largest banks without forcing them to accept much lower payments? Why, in other words, did the counterparties of AIG wind up with so better a deal than those of SCA did—some of which were the same banks?

His inquisitors on the House of Representatives oversight committee will want to take him back to the apocalyptic month when the world's financial system came close to meltdown. September 2008 brought not only the collapse of Lehman Brothers on Wall Street but a flurry of rescues that included staving off bankruptcy at AIG. It is the terms of the AIG bail-out that members of the congressional committee will want to examine, amid growing concern that not only might the taxpayer have been made to foot a higher bill than necessary but that details of a deal done in secret are to be kept under wraps for a decade.

The hearing comes as Mr Obama, after a fraught first year, prepares to deliver his first State of the Union address to a joint session of Congress tonight. It follows a week when not only did the Democrats lose their Senate super-majority, making it more difficult to pass legislation, but Mr Geithner's own position appeared to grow less secure. It was not to him but to Paul Volcker, a former Federal Reserve Board chairman, that the president turned for a blueprint on how to curb future banking industry excesses.

Crucial, therefore, will be the Treasury secretary's account of the most turbulent few days during his time at the stern stone edifice between Liberty Street and Maiden Lane, from which the New York Fed keeps watch over the financial district of downtown Manhattan.

"By not granting the transparency they are basically conspiring to not inform either Congress or the public so that they could, in fact, go about their business in secrecy and the public would not be wise until 2018 when these counterparties are due to become public," says Darrell Issa, a Republican representative who has pushed Congress to investigate the AIG payments. The question is whether the efforts amounted "to nothing less than a backdoor bail-out of AIG's creditors, including Goldman Sachs, Merrill Lynch, Société Générale and Deutsche Bank".

Mr Geithner's supporters say he was part of a team that responded pragmatically to prevent the collapse of the global financial system. But criticism of payments made to AIG—seen variously as a deliberate attempt to funnel public money to creaking banks or a negligent failure to safeguard the public interest—has been fuelled by e-mails showing New York Fed officials attempting to keep details of the transaction from the public.

It emerged this week that the New York Fed is under investigation by Neil Barofsky, the inspector-general overseeing the administration's Troubled Asset Relief Programme, over its disclosure of documents relating to the bail-out of AIG and its counterparties. Mr Barofsky is deciding whether it failed to disclose information about the episode to the Securities and Exchange Commission and his own office.

The issue is emblematic of the controversies that have followed the unprecedented federal response to a crisis in which complex financial products that were nearly impossible to value threatened to drag down the world's biggest banks—and with them the global economy.

Like SCA, AIG had provided credit insurance on CDOs that were falling in value and it, too, found itself facing a group of banks looking for compensation. Under agreements with its counterparties, AIG had to post collateral as the value of the CDOs it insured fell. AIG had pledged some $35bn but was still struggling.

As was the case with SCA, something had to give—only this time around, neither the banks nor the insurer would end up doing the giving. Instead, the New York Fed arrived bearing an early Christmas present for the banks. Fearing that the collateral calls on the CDSs were quickly sapping the $85bn (€60bn, £53bn) it had agreed to lend AIG to nurse it through the crisis, Mr Geithner's operation opened secret negotiations with the banks and agreed to buy underlying CDOs with a face value of $62bn from them.

Read the rest of the article (it's long-ish, but worth it for the basic background info).

Labels: AIG, Ben Bernanke, Goldman Sachs, haircuts, Henry Paulson, Timothy Geithner

 

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1/27/2010 02:06:00 PM 0 comments

 

Two Items on Foreclosures

by Dollars and Sense

The New York Times business section has an interesting article about the limited success of the "Making Home Affordable Program," which was intended to encourage (but not require!) banks to work with homeowners on facing foreclosure to lower their monthly payments. (The copy of the Times that arrived on my doorstep gave this headline to the article: "In Trial Phase, Mortgage Bills Fall for 500,000." The online version of the article has the cheerier "Treasury Hails Milestone in Home Loan Modifications.")

The upshot: half a million families have gotten loan modifications, though they often faced "bureaucratic bungling, ceaseless frustration and confusion." This is only 40% of the 1.2 million eligible. And some companies have been better than others about modifying the mortgages. Wells Fargo and BoA have only modified 62,989 and 94,918, respectively, which is only 20% and 11% of those companies eligible mortgages, respectively. Bad BoA! Bad WF! (Has anyone heard anything good about these companies lately? Oh yeah, Ken Lewis resigned.) Still, "economists said the program was still not big enough to prevent many millions of Americans from losing their homes before the books are closed on the Great Recession." Check out the full article.

Meanwhile, Slate's blog The Big Money, is advising homeowners facing foreclosure to consider "strategic default," the fancy name for walking away from your mortgage (and your home). It's ok, they assure us. I'm having trouble disagreeing.

Go Ahead, Walk Away

There is nothing immoral about ditching your mortgage.

By Mark Gimein | October 8, 2009

A solid two years into the housing bust, the national foreclosure wave doesn't show the least signs of abating. Banks that had called a foreclosure moratorium are now back to the business of taking back properties, and the foreclosure numbers are again at record highs. As the foreclosures rise, so too does the criticism of "walkaways" who hand the keys to their drastically devalued houses back to the bank.

Last month a study from the credit reporting agency Experian and consulting outfit Oliver Wyman estimated that close to a fifth of troubled mortgages involved borrowers who were "strategically" defaulting—walking away from mortgages they could pay but decided not to because they owed more than their houses were worth. Self-assigned guardians of financial ethics see the willingness of borrowers to abandon their mortgage debts as a sign of the "erosion of social and moral standards." The aim of these critics is to shame debtors into sticking with their mortgages. That's something debtors should take with a grain of salt. There are many good reasons to keep paying your mortgage and avoid the black mark of foreclosure, but the immorality of sticking the bank with a loss isn't one of them.

Some observers, like Zubin Jelveh of the New Republic, have taken issue with the Experian-Wyman study's methods, arguing that it was too broad in defining "strategic" default. But unlike some other reports that play up the number of deadbeat debtors, this study uses a fairly narrow and defensible definition to arrive at its conclusion that 18 percent of mortgage defaults are "strategic." (Experian showed the report to The Big Money, but asked that it not be posted.) The study focuses on borrowers who, once they hit 60 days late, roll straight through to foreclosure without ever making another payment and manage to stay current on all their credit cards.

These are pretty good signs that someone could try harder to pay the mortgage—an idea supported by the fact that the borrowers who fit the model often had higher credit scores (and so probably more financial knowledge) and tend to live in states such as California, in which banks can't keep pursuing them for more money after taking their houses.

So let's say the Experian/Wyman study is right in its assessment that there are a fair number of strategic defaulters. Those who use this study and others like it to argue that the foreclosure problem is one of moral failure among borrowers are still wrong. Borrowers who walk away from mortgages calculating that they're better off taking the risk of not paying aren't abusing the system. They're using it the way it's designed to be used.

Read the rest of the post.

Labels: Bank of America, foreclosures, mortgage meltdown, Timothy Geithner, Wells Fargo

 

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10/09/2009 03:57:00 PM 0 comments

 

Some Takes on the Regulatory Overhaul

by Dollars and Sense

Here are some assessments of the Obama administration's overhaul of financial regulation:

In his front-page New York Times article on Wednesday (upgraded from the left-hand column of the business section), Joe Nocera finds "only a hint of Roosevelt" in what Obama described as "a sweeping overhaul of the financial regulatory system, a transformation on a scale not seen since the reforms that followed the Great Depression."

Michael Greenberger of the University of Maryland comments on the new regulations in an interview on WBAL Radio, AM 1090 (Baltimore) on Wednesday (it opens up directly into Quicktime audio, but the interview comes through just fine).

And Greenberger contributed to this piece from Reuters (also from Wednesday).

There's a new sheriff in town, and the freewheeling era of the credit-default swap is about to fade into the sunset. As part of the overhaul of financial regulation to be announced by the administration today, Treasury Secretary Timothy Geithner has signaled that he plans to corral these troublesome trades. When it comes to instruments like credit-default swaps and that whole class of derivatives blamed for battering the economy, everyone is speaking the language of change. Unfortunately, everyone also has a different idea of what that means. Populist outrage is running high, both branches of Congress have bills percolating that would impose strict governance on trading, and the Commodity Futures Trading Commission wants to solidify its relevance in a climate of political uncertainty. There are a lot of different opinions—and divergent agendas—on how to manage these fiscal problem children.

Part of the problem is that even administration officials are divided on how to handle derivatives. The two main camps are exchange trading and clearinghouse oversight. In a May 13 letter, Geithner called for unregulated derivatives trading to occur via one or more central clearinghouses. He stopped short of mandating that all such business must be conducted on an exchange, allowing that some customized derivatives contracts could still happen over the counter (that is, privately). Senate agriculture committee Chairman Tom Harkin, D-Iowa, went further and called for a mandate to have all derivatives treated as futures contracts and traded on an exchange. Gary Gensler, President Obama's nominee to head the CFTC, has sought to split the difference, telling the agricultural committee in a speech on June 4 that derivatives should be regulated by his commission as strictly as exchange-traded instruments, although he didn't say they have to be traded on an exchange.

Before we go too much further, it's important to keep in mind that both Harkin and Gensler have vested interests in how this turns out. A cynic might consider Gensler's eagerness to craft a broad new role for the CFTC disingenuous given the widespread speculation earlier this year that the administration might close the agency and fold its duties into a beefed-up SEC. For his part, Harkin might also be guilty of self-interest. The agricultural committee is the CFTC's bureaucratic "parent." While their motivations may be upright and more oversight would be great, it can't hurt that such changes would solidify the relevance of each man's respective Beltway fiefdom.

So let's take a look at the question of clearinghouse vs. exchange. While both cover some similar turf, there are also big differences that would affect their performance and, possibly, their ability to weed out abuses. Firstly, the two entities aren't mutually exclusive. Exchanges generally include clearinghouses, but a clearinghouse can also exist as a standalone entity. A clearinghouse functions as a kind of fiscal referee. It makes sure participants aren't too deeply indebted and make good on their contracts and records price information. An exchange would do much the same.

Exchanges offer one clear advantage in terms of transparency, though. A clearinghouse gathers and publicizes pricing data only after transactions take place. But an exchange would create what the experts term "price discovery." It would do for the derivatives market what e-commerce did for the retail landscape. If you wanted to buy a set of patio furniture in the pre-Google (GOOG) years, you would just go to the store and pay whatever the tag read. Now, with a few keywords and clicks, you can comparison shop among dozens of merchants.

Banks abhor regulation in general and exchange-trading requirements in particular. If given any say at all (and their lobbyists are insuring they probably will be), they'd prefer a clearinghouse option with healthy exceptions—some would say loopholes—for custom-built credit instruments. What banks really want to avoid is mandatory exchange trading because they pocket the difference between the asking price and the offered price in an opaque market. This difference would still be present in exchange-traded products, but it would be much smaller because everyone would be able to see the going rate, so bid amounts would be much closer to sellers' asking prices.

The price transparency afforded by exchange trading has another advantage not directly related to the trades themselves. With prices out in the open, everyone from private-sector analysts to academics to policymakers will be able to see fluctuations as they happen and possibly catch the next bubble before it mushrooms out of control. In short, having more pairs of eyes is a good thing. Like getting a friend to proofread your résumé on a macro scale.

If exchange trading is required, banks would also lose the opportunity to make money off customized offerings, a relatively small niche that pulls in larger returns—a revenue source they're loathe to relinquish. All exchange trading takes place using standardized contracts, which takes pricey customization out of the equation. Banks argue that the degree of customization necessary for more complex derivatives is too great for them to shoehorn these contracts into a standard format. But critics are quick to point out that banks can and do charge a lot more for creating a custom contract, making their protest a bit suspect, especially since some relatively complex "standard" instruments already exist.

Banks also argue that forcing every trade onto an exchange will stifle innovation. That's certainly possible. And it also might not be a bad thing. When JPMorgan (JPM) invented credit-default swaps back in the '90s, it could package and sell them directly to clients—clients who probably didn't really understand just what this new toy they were purchasing could do. In 2000, when the Commodity Futures Modernization Act explicitly excluded CDS from regulation, the move was widely viewed as one of resignation. The market for swaps and related derivatives had grown into a thicket of economic kudzu so quickly that regulators decided to leave it be rather than hack through it. Given what CDS have given the world in recent years, it could be argued that a little vetting on the front end might have given market participants a better understanding of the inherent risks before they got in over their heads.

Some people worry that the clearinghouse option—which the banks view as the lesser of two evils—doesn't carry enough regulatory clout to prevent risky trading. As this New York Times article points out in great detail, a clearinghouse could wind up being owned by the banks it's meant to regulate. Fox, henhouse, and so forth. ICE U.S. Trust, widely seen as the front-runner clearinghouse, is 50 percent owned by some of the biggest banks in the business. Critics worry that if the home team is also the umpire, it'll permit generous exceptions to disclosure requirements.

Interestingly, this isn't the first time the United States has considered a centralized oversight vehicle for these kinds of instruments. Back in 1984, long before subprime mortgages and credit-default swaps hit the scene, Fannie Mae proposed a "national mortgage exchange" to regulate the complex universe of mortgage-backed securities that could, in the words of one official, "slid[e] into chaos." The agency pledged $10 million to start up the exchange but scuttled the idea a few years later after deciding that the private sector had stepped up its efforts to keep mortgage-related trading running smoothly. The powers that be should keep this in mind as they weigh who to trust with this complex arena.

Explainer thanks Michael Greenberger of the University of Maryland, Gary Kopff of Everest Management Inc. (formerly of Fannie Mae), Kevin McPartland of the Tabb Group, and Ann Rutledge of R&R Consulting.

Hat-tip to Lynn Fries for these links (though I'd seen the Nocera piece in my morning paper).

Labels: financial crisis, financial regulation, Joe Nocera, Timothy Geithner

 

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6/19/2009 01:45:00 PM 0 comments

 

Geithner Couldn't Sell Home (NY Post)

by Dollars and Sense

From today's New York Post (and AP):

The real estate market's troubles are hitting close to home for Treasury Secretary Timothy Geithner.

After reducing the price on his house in a tony New York City suburb to less than he paid for it, Geithner still couldn't sell and recently rented it out instead, according to real estate agents familiar with the deal.

Geithner put his five-bedroom Tudor near leafy Larchmont on the market for $1.635 million in February, after heading to Washington for his job as the nation's top economic official.

A few weeks after the asking price was dropped to $1.575 million, the home was rented for $7,500 a month on May 21, said the agents, Scott Stiefvater of Stiefvater Real Estate and Debbie Meiliken of Keller Williams Realty New York.

Neither was directly involved in the rental; the name of the broker and agency that arranged it were not immediately available.

Records show Geithner and his wife, Carole Sonnenfeld Geithner, paid $1.602 million for the home in 2004.

Labels: real estate market, Renters, Timothy Geithner

 

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6/03/2009 10:15:00 AM 0 comments

 

'Sham' Bailouts Help Speculators

by Dollars and Sense

Naked Capitalism has a couple of nice posts about comments made by Michael Patterson, head of a private equity firm, to the Telegraph that reflect very poorly on TARP. Here is the story from the Telegraph (which has since been yanked from their site, apparently because Patterson objected to it; it is preserved at zerohedge.blogspot.com):

US 'sham' bank bail-outs enrich speculators, says buy-out chief Mark Patterson

The US Treasury's effort to stabilise the banking system through the TARP programme is a hopelessly ill-conceived policy that enriches speculators at public expense, according to the buy-out firm supposed to be pioneering the joint public-private bank rescues.

"The taxpayers ought to know that we are in effect receiving a subsidy. They put in 40pc of the money but get little of the equity upside," said Mark Patterson, chairman of MatlinPatterson Advisers.

The comments are likely to infuriate Tim Geithner, the US Treasury Secretary, because MatlinPatterson took advantage of the TARP's matching funds to buy Flagstar Bancorp in Michigan. His confession appears to validate concerns that the bail-out strategy is geared towards Wall Street.

Under the convoluted deal agreed earlier this year, MatlinPatterson has come to own 80pc of the shares while the US government has ended up with under 10pc.

Mr Patterson said the US Treasury is out of its depth and seems to be trying to put off drastic action by pretending that the banking system is still viable.

"It's a sham. The banks are insolvent. The US government is trying to sedate the public because they are down to the last $100bn (£66bn) of the $700bn TARP funds. They think they're doing this for the greater good of society," he said, speaking at the Qatar Global Investment Forum.

Mr Patterson said it would be better for the US to bite the bullet as Britain has done, accepting that crippled lenders must be nationalised. "At least the British are not hiding the bail-out," he said.

MatlinPatterson said private equity and hedge funds were deluding themselves in hoping to go back to business as usual after the trauma of the last 18 months.

"This is not a normal recession and there will be no V-shaped recovery. The crisis has destroyed leveraged companies. We're going to see a catastrophic increase in the number of LBO's (leveraged buyouts) going into default because they're knee-deep in debt and no solution exists since they can't refinance," he said.

"Alfa hedge funds have been making their money by gambling with excessive leverage, so the knife that cuts off leverage is going to cut off their heads as well," he said.

Like many bears, Mr Patterson expects the great crunch to end in deliberate inflation, deemed a lesser evil than outright depression.

"The US government has thrown 29pc of GDP at this crisis compared to 8pc in the early 1930s. The Fed's balance sheet has risen from $900bn to $2.7 trillion to bail out the system. America has to do it because the only way out is to debase the currency, but that is going to lead to some very high inflation three years down the road," he said.

Matlin Patterson, however, has missed the Spring rebound, the most powerful rise in equities in over 70 years. "We shorted the equity rally because we thought it was lunatic. We've kept adding positions seven times, and we're still holding," he said. Ouch!

Here's what Yves Smith at Naked Capitalism had to say about the piece:

The TARP elicited a firestorm of criticism at its inception, and at various points of its short existence, particularly the repeated injections into "too big to fail" Citigroup and Bank of America, plus the charade of Paulson forcing TARP funds onto banks who were eager to take them once the terms were revealed. Now, however, conventional wisdom on the program might be summarized as, "it's flawed, but still better than doing nothing."

That of course is a false polarity. Having the TARP, particularly given the amount of funds committed, precluded quite a few other courses of action. And the TARP was part of a strategy to avoid resolving sick banks, when the history of banking crises shows that speedy action to clean up dud banks and restructure or write off bad debt (both of the bank and to the bank) is the fastest course to economic recovery.

So far, the beneficiaries of the handouts equity injections have complained only about the Obama Adminstation's occasional efforts to act like a substantial shareholder and exercise some influence over the companies' affaris. We are the first to acknowledge that these too often have involved matters of appearance (executive pay) as opposed to substance (risk taking on the taxpayer dime for the benefit of shareholders and employees).

But now we have a salvo from an unexpected source: an investor who used TARP funds to buy a bank, and thinks taxpayers are getting ripped off. Mark Patterson, of MartnPatterson Advisers, used TARP matching funds to buy a Michigan bank. This by no means was a large transaction, but the point is that someone that one would expect to praise the process (after all, he benefitted from its largesse) is a pointed critic.

And this more recent post (from a larger project she has of showing how the business press airbrushes negative economic news):

We posted last night on a Telegraph story, in which one Michael Patterson, head of a private equity firm that used TARP funds to buy a Michigan bank, said some less than positive things about it at an conference.

If you go to the link to the story now, guess what? The Telegraph has yanked it.

Tyler Durden had the presence of mind to put up the entire piece on his blog. Patterson has been issuing requests for retraction, claiming "factual errors" and the Telly complied. Patterson has had his "representatives" which I assume means attorneys, send a copy of the letter that Patterson sent to the Telegraph effectively disclaiming the entire content of the artice. . Durden has said he is willing to correct any factual errors (as opposed to deep sixing the entire story).

Patterson spoke at the Qatar Investment Forum. He has no reason to expect confidentiality; the remarks were made in a public forum with no restrictions placed on the attendees. Durden is soliciting input from fellow panelists and attendees as to what Patterson really said.

—cs

Labels: Naked Capitalism, private equity, TARP program, Telegraph, Timothy Geithner, Yves Smith

 

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5/15/2009 02:50:00 PM 0 comments

 

The Global Financial Community

by Dollars and Sense

An excellent article by Prabhat Patnaik on networkideas.org, the website of International Development Economics Associates, starts off with Lenin and goes on to talk about the role that the IMF and the World Bank play to create a "group of core ideologues" to exert "peer pressure" on elites to adopt a belief system that is friendly to global finance capital. This helps to explain why Obama picked the economic advisers he did:

How people like Summers, Geithner and Rubin come to occupy such important political positions within the U.S. system is pretty obvious. American Presidential elections require massive amounts of money, a good chunk of which invariably comes from Wall Street. The story doing the rounds for a while was that Obama had got most of his funds from small donations of $100 each garnered through the internet; but this was complete nonsense. Obama like others before him had also tapped Wall Street and the appointment of the trio, who had organized Wall Street finance for him, was a quid pro quo. The elevation of members of the global financial community to run the American economy therefore should cause no surprise.

I love the light tough of his title. Anyhow, here's the beginning of the article, which is well worth reading. Hat-tip to LF.

The Global Financial Community

By Prabhat Patnaik

Lenin in Imperialism had talked about a financial oligarchy presiding over vast amounts of money capital through its control over banks and using this capital for diverse purposes, such as industry; speculation; real estate business; and buying bonds, including of foreign governments. The finance capital that Lenin was talking about belonged to particular powerful nations; correspondingly, the oligarchies he was referring to were national financial oligarchies. He talked for instance of French, German, British and American financial oligarchies. But in the current epoch of ''globalization'' when finance capital itself is international in character, the controllers of this international finance capital constitute a global financial oligarchy. This global financial oligarchy requires for its functioning an army of spokesmen, mediapersons, professors, bureaucrats, technocrats and politicians located in different countries.

The creation of this army is a complex enterprise, in which one can discern at least three distinct processes. Two are fairly straightforward. If a country has got drawn into the vortex of globalized finance by opening its doors to the free movement of finance capital, then willy-nilly even well-meaning bureaucrats, politicians, and professors will demand, in the national interest, a bowing to the caprices of the global financial oligarchy, since not doing so will cost the country dear through debilitating and destabilizing capital flights. The task in short is automatically accomplished to a large extent once a country has got trapped into opening its doors to financial flows.

The second process is the exercise of peer pressure. Finance Ministers, Governors of Central Banks, top financial bureaucrats belonging to different countries, when they meet, tend increasingly to constitute what the distinguished Argentine economist Arturo O'Connell has described as an ''epistemic community''. They begin increasingly to speak the same language, share the same world view, and subscribe to the same prejudices, the same ''humbug of finance'' (to use Joan Robinson's telling phrase). Those who do not are under tremendous peer pressure to fall in line; and most eventually do. Peer pressure may be buttressed by the more mundane temptations that Lenin had described, ranging from straightforward bribes to lucrative offers of post-retirement employment, but, whatever the method used, conformism to the ''humbug'' that globalized finance dishes out as true economics becomes a mark of ''respectability''.

But even peer pressure requires that there should be a group of core ideologues of finance capital who exert and manipulate this pressure. The ''peers'' themselves are not free-floating individuals but have to be goaded into sharing a belief-system. There has to be therefore a set of key intellectuals, ideologues, thinkers and strategists that promote this belief system, shape and broadcast the ideology of finance capital, and generally look after the interests of globalized finance. They are not necessarily capitalists or magnates; but they are close to the financial magnates, and usually share the ''spoils''. The financial oligarchy proper, consisting of these magnates, together with these key ideologues and publicists of finance capital, can be called the ''global financial community''. The function of this global financial community is to promote and perpetuate the hegemony of international finance capital. And here the most critical issue concerns the relationship of this global financial community to the politics of particular countries.

To say that the World Bank and the IMF are the main breeding ground for these key figures who are part of the global financial community and mediate the relation between particular countries and globalized finance is to state the obvious. True, the Fund and the Bank are not the only institutions; there are sundry business schools and departments of economics, of business administration, and of finance in prestigious Anglo-Saxon universities. But even for the products of the latter institutions, the Fund and the Bank often act as "finishing schools."

Read the rest of the article.

Labels: IMF, imperialism, larry Summers, Lenin, Prabhat Patnaik, Timothy Geithner, World Bank

 

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5/14/2009 12:19:00 PM 0 comments

 

'Geithner' on SNL

by Dollars and Sense

Nice critique of the stress tests, and of both Geithner and the 19 banks that took it, in this past Saturday's SNL opener; recounted by Sudeep Reddy at the WSJ's Real Time Economics blog:



Saturday Night Live opened with Geithner (played by Will Forte) sitting behind his desk reviewing banks' submissions for "Part 2″ of the stress tests—a written exam taken by all 19 bank CEOs.

He explains that Treasury initially planned to give each bank a grade of 1 to 100. "But then we decided that that might unfairly stigmatize banks who scored low on the tests because they followed reckless lending practices, or were otherwise not good at banking.'

They changed to a simple pass/fail system, then to a pass/pass*—"this seemed less judgmental and more inclusive.'

"Eventually, at the banks' suggestion, we dropped the asterisk and went with a pass/pass system. Tonight, I am proud to say that after the written tests were examined, every one of the 19 banks scored a pass. Congratulations, banks.'

He explains that none of the banks answered all 50 questions correctly, and most got less than half right. "One bank in particular—Citigroup—seemed to think the whole thing was just a big joke.'

On screen we see its answers to questions 13 through 15: "Geithner Sucks!'

"I was deeply disappointed with Citigroup's attitude towards this entire project,' the Treasury secretary explains. "Frankly, if Citigroup weren't too big to fail, I would've failed them. That's how disgusted I was.'

Among the other questions and answers:

* Number 11: For every 10 million in commercial loans outstanding, a bank should have …

"The answer we were looking for was 10% cash on hand.'

J.P. Morgan Chase wrote: Knicks Tickets
Wells Fargo wrote: Gulfstream jet
Citigroup wrote: Geithner Sucks!

* Number 23: If federal bank examiners determine your bank to be under-capitalized, the bank's board of directors should …

Goldman Sachs wrote: Flee the Country
State Street of Boston said: Shred documents
Capital One said: Eliminate eyewitnesses

The Geithner stand-in explains, "GMAC apparently answered ‘taxpayer bailout' to every one of the 50 questions. Although that did turn out to be the right answer to 30 of them.'

Labels: bank stress testing, Citigroup, SNL, stress tests, Timothy Geithner

 

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5/12/2009 11:43:00 AM 0 comments

 

Wall Street Digs In

by Dollars and Sense

Good online piece from Newsweek from a while ago (April 10th). The subtitle is confusing, though: clearly Obama is getting the message (from Wall St.)!

Wall Street Digs In

The old system refuses to change. Is Obama getting the message?

Michael Hirsh | Newsweek Web Exclusive

Not long ago, a group of skeptical Democratic senators met at the White House with President Obama, his chief economic adviser, Larry Summers, and Treasury Secretary Tim Geithner. The six senators—most of them centrists, joined by one left-leaning independent, Vermont's Bernie Sanders—said that while they supported Obama, they were worried. The financial reform policies the president was pursuing were not going far enough, they told him, and the people Obama was choosing as his regulators were not going to change things fundamentally enough. His appointed officials and nominees were products of the very system that brought us all this economic grief; they would tinker with the system but in the end leave Wall Street, and its practices, mostly intact, the senators suggested politely. In addition to Sanders, the senators at the meeting were Maria Cantwell, Byron Dorgan, Dianne Feinstein, Carl Levin and Jim Webb.

That March 23 gathering, the details of which have gone largely unreported until now, was just a minor flare-up in a larger battle for the future—one that may already be lost. With the financial markets seeming to stabilize in recent weeks, major Wall Street players are digging in against fundamental changes. And while it clearly wants to install serious supervision, the Obama administration—along with other key authorities like the New York Fed—appears willing to stand back while Wall Street resurrects much of the ultracomplex global trading system that helped lead to the worst financial collapse since the Depression.

At issue is whether trading in credit default swaps and other derivatives—and the giant, too-big-to-fail firms that traded them—will be allowed to dominate the financial landscape again once the crisis passes. As things look now, that is likely to happen. And the firms may soon be recapitalized and have a lot more sway in Washington—all of it courtesy of their supporters in the Obama administration. With its Public-Private Investment Program set to bid up and buy toxic assets, the administration is handing these companies another giant federal subsidy. But this time the money will come through the back door, bypassing Congress, mainly via FDIC loans. No one is quite sure how the program will work yet, but it's very likely going to make a lot of the same Wall Street houses much richer at taxpayer expense. Meanwhile, the big banks that still need help will almost certainly get another large infusion once the stress tests are completed by the end of the month.

The financial industry isn't leaving anything to chance, however. One sign of a newly assertive Wall Street emerged recently when a bevy of bailed-out firms, including Citigroup, JPMorgan and Goldman Sachs, formed a new lobby calling itself the Coalition for Business Finance Reform. Its goal: to stand against heavy regulation of "over-the-counter" derivatives, in other words customized contracts that are traded off an exchange. Companies like these kinds of contracts, which are agreed to privately between firms, because they allow them to tailor a hedge perfectly against a firm-specific risk for a certain time period. But in order to preserve its right to negotiate these cheaper private contracts, Wall Street is apparently willing to argue for the same lack of public transparency and to permit the systemic risk that led to the crash.

Geithner's financial regulation plan, announced April 2, does address some of these concerns. The Treasury chief wants all standardized over-the-counter trading of derivatives to go through an industry clearinghouse, which will give the government more oversight. Geithner said he wants to require "systemically important" firms to reserve more capital. He also wants to rein in "customized" derivatives contracts—those agreed to privately between firms. Whereas once these trades went totally unregulated, Geithner would require that they be "reported to trade repositories and be subject to robust standards" for documenting and collateralizing, among other new rules.

But it's unlikely this will do much to change Wall Street. Geithner's new rules would allow the over-the-counter market to boom again, orchestrated by global giants that will continue to be "too big to fail" (they may have to be rescued again someday, in other words). And most of it will still occur largely out of sight of regulated exchanges. The response favored by the administration, the Federal Reserve and even many in Congress is to create a new all-knowing "systemic risk regulator" with as-yet-undetermined powers. Is such a person sitting at 30,000 feet really going to be able to keep up with all this onrushing complexity, especially as over-the-counter trading resumes in quiet places around the world? It is a triumph of hope over experience to think so.

Meanwhile, up in Manhattan, the New York Fed has been conducting meetings on future regulation with a group of major Street insiders and their traditional regulators. At the most recent meeting, on April 1, they agreed on creating central clearinghouses for trading and "trade-information warehouses" that will track market data far better than before. But they have resisted anything more dramatic, like requiring all trading to occur on publicly recognized exchanges. Geithner has also put his stock in clearinghouses; he says he only wants to "encourage greater use of exchange-traded instruments." That has placed Geithner at odds with another Democratic senator, Tom Harkin of Iowa, chair of the agriculture committee, who wants all futures contracts traded on exchange. "The senator feels that what he's offering in his bill does include more integrity and transparency than the current Geithner plan," a Harkin spokesman told me.

Officials at the firms who took part in the New York Fed meeting and at the Fed maintain that there is little difference between clearinghouses and formal exchanges; both are regulated and both are industry-run, they say. But that misses a major point, says Michael Greenberger, a former top official at the Commodity Futures Trading Commission who has been a critic of the administration's reform efforts. Exchange trading gives the government authority over fraud and manipulation and emergency powers to stop trading, he says, and it creates the kind of public transparency that isn't possible in a privately run clearinghouse.

The White House and Treasury Department did not immediately respond to my requests for comment on these issues or on the March 23 meeting (beyond confirming that it took place). But it's noteworthy that more than a month and a half passed before Obama agreed to the meeting, which was prompted by a letter that Dorgan sent in early February. The senators were invited after one of the group, Sanders, put a hold on the nomination of Gary Gensler, Obama's nominee to be head of the Commodity Futures Trading Commission. In an interview, Sanders said he opposes the nomination because Gensler has spent much of his career in Washington working for Wall Street's interests. Gensler, in testimony, has said he has learned from his past mistakes. "At this moment in our history, we need an independent leader who will help create a new culture in the financial marketplace," Sanders said.

Instead, the old culture is reasserting itself with a vengeance. All of which runs up against the advice now being dispensed by many of the experts who were most prescient about the crash and its causes—the outsiders, in other words, as opposed to the insiders who are still running the show. Among the outsiders is Nassim Nicholas Taleb, the trader and professor who wrote "The Black Swan: The Impact of the Highly Improbable." Taleb wrote in the Financial Times this week that a fundamental new approach is needed. Not only should firms be prevented from growing too big to fail, "complex derivatives need to be banned because nobody understands them and few are rational enough to know it," he said. Yet even as we are still picking up the debris, we seem to be ready to embrace that world once again.

Read the original article.

Labels: bailout, Credit Default Swaps, derivatives, financial crisis, Timothy Geithner, Wall Street

 

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4/23/2009 01:59:00 PM 0 comments

 

Insolvent Banks and Imaginary Firesale?

by Dollars and Sense

An interesting article on an interesting academic paper, and at least one blog post expressing reservations about the paper's conclusions. First, the article (I like "crap assets" as an alternative to "toxic assets": far preferable to the ridiculous "legacy assets"):

Geithner Wrong, Crap Assets Correctly Priced, Say Harvard And Princeton Profs

John Carney | The Business Insider | Apr. 6, 2009

The government's official view that toxic assets are incorrectly priced due to illiquidity "fire sales" is wrong, a new study by Harvard and Princeton finance professors suggests.

... The striking conclusion is that the low prices of toxic assets actually reflect the fundamentals, rather than being driven by an illiquidity discount.

"The analysis of this paper suggests that recent credit market prices are actually highly consistent with fundamentals. A structural framework confirms that bonds and credit derivatives should have experienced a significant repricing in 2008 as the economic outlook darkened and volatility increased. The analysis also confirms that severe mispricing existed in the structured credit tranches prior to the crisis and that a large part of the dramatic rise in spreads has been the elimination of this mispricing."

This contrasts sharply with the analysis that underlies most of the financial rescue programs launched by the Federal Reserve and the Treasury Department. The white paper released to support the Private-Public Investment Partnerships, the program that seeks to encourage private firms to buy toxic assets with government subsidized loans, took the opposite point of view.

"Troubled real estate-related assets comprised of legacy loans and securities, are at the center of the problems currently impacting the U.S. financial system...The resulting need to reduce risk triggered a wide-scale deleveraging in these markets and led to fire sales," the Treasury and the Fed claimed.

Many prominent economists--including such diverse types as Anna Schwartz and Paul Krugman--have taken with this official view, saying the government was mistaking a solvency crisis for a liquidity crisis. This latest paper effectively demolishes the "fire sale" view. It draws three important conclusions.

* Many banks are now insolvent. "...many major US banks are now legitimately insolvent. This insolvency can no longer be viewed as an artifact of bank assets being marked to artificially depressed prices coming out of an illiquid market. It means that bank assets are being fairly priced at valuations that sum to less than bank liabilities."

* Supporting markets in toxic assets has no purpose other than transfering money from taxpayers to banks. "...any taxpayer dollars allocated to supporting these markets will simply transfer wealth to the current owners of these securities."

* We're making it worse. "...policies that attempt to prevent a widespread mark-down in the value of credit-sensitive assets are likely to only delay—and perhaps even worsen—the day of reckoning."

In short, the government cannot save the banks by improving liquidity or changing mark to market rules because the problem isn't illiquidity or accounting. The problem is that highly leveraged financial firms own assets that are worth far less than they thought they would be, and the firms are insolvent as a result. This is why the latest bailout plans secretly give huge subsidies to banks--because the only way to keep the insolvent zombies afloat is to transfer billions of dollars to banks, bank stockholders, and bank creditors. The alternative--allowing the insolvent banks to fail, seizing the assets, wiping out shareholders, giving bond holders a serious haircut--is still not on the official agenda.

Next, the interesting paragraphs from the academic paper (which appears to be online only in pdf form--I had to do some reformatting/retyping; this might be the first place where a good chunk of it appears in searchable html form, though I could be wrong):

Policymakers are rapidly moving towards using TARP money to purchase toxic assets—primarily tranches of collateralized debt obligations (CDOs)—from banks, with the aim of supporting secondary markets and increasing bank lending. The key premise of current policies is that the prices for these assets have become artificially depressed by banks and other investors trying to unload their holdings in an illiquid market, such that they no longer reflect their true hold-to-maturity value. By purchasing or insuring a large quantity of bank assets, the government can restore liquidity to credit markets and solvency to the banking sector.

The analysis of this paper suggests that recent credit market prices are actually highly consistent with fundamentals. A structural framework confirms that bonds and credit derivatives should have experienced a significant repricing in 2008 as the economic outlook darkened and volatility increased. The analysis also confirms that severe mispricing existed in the structured credit tranches prior to the crisis and that a large part of the dramatic rise in spreads has been the elimination of this mispricing.

If prices currently coming out of credit markets are actually correct, and not reflecting fire sales, this has several important implications. First, correct prices in the secondary market for these assets essentially imply that many major US banks are now legitimately insolvent. This insolvency can no longer be viewed as an artifact of bank assets being marked to artificially depressed prices coming out of an illiquid market. It means that bank assets are being fairly priced at valuations that sum to less than bank liabilities. In turn, any positive valuation assigned by shareholders to their equity claim arises solely from their anticipation of value transfer from firm debtholders or resource transfers from US taxpayers.

Second, if current market prices are fair, any taxpayer dollars allocated to supporting these markets will simply transfer wealth to the current owners of these securities. To the extent that these assets reside in banks that are now insolvent, the owners are essentially the bondholders of these banks. The reason their bonds are currently trading far below par is that the assets backing up their claim are just not worth enough (nor expected to become worth enough when their bonds mature) to repay them. And so while they will be cheered by any government overpayment for the toxic assets backing up their claims, their happiness will be at the taxpayers' expense since—to the extent that current prices are fair—they will be receiving more than fair value for their investments. Similarly, using government resources to support these markets by insuring assets against further losses amounts to providing insurance at premia that are significantly below what is fair for the risks that the US taxpayer will now bear.

Third, the market for securitized claims is not going to operate the same way it did in the past. Investors in these assets are setting prices in the secondary market that reflect both the high expected losses of the securities and the highly systematic nature of these expected losses. And while the pricing of these securities is dramatically different from the way it was a year or two ago, this is because it was wrong then, not now. Efforts to restart this market are focused on resuming the flawed pricing of the past, when there was no charge for risk and investors relied on the accuracy of ratings. Investors have learned from their mistakes and now seem to be pricing these securities in accordance with their true risks.

Read the full paper.

Finally, a sharply dissenting view from the blog Economics of Contempt; his point is that the paper's analysis is not of mortgage-backed securities, yet it claims to draw conclusions about them:

The introduction states:

On March 23, 2009, the Treasury announced that the TALF plan will commit up to $1 trillion to purchase legacy structured credit products. The government's view is that a disappearance of liquidity has caused credit market prices to no longer reflect fundamentals. ... The main objective of this paper is to determine whether …fire sales are required to explain prices currently observed in credit markets.

Sounds like the paper is going to examine the prices of the toxic assets that the Treasury is planning to buy, right?

Wrong. Instead, the authors examine investment grade corporate credit risk, using the CDX.NA.IG index. But ABS and CDOs backed by investment grade corporate bonds are not eligible for either the TALF or the PPIP. In other words, investment grade corporate bonds aren't considered "toxic assets."

The authors conclude that market prices of investment grade corporate credit risk are accurate—which isn't surprising, seeing as the CDX.NA.IG is the most liquid contract in the CDS market. Amazingly, however, the authors use this to conclude that the Treasury's plan to buy up the banks' toxic assets is misguided ...

Are they serious? The Treasury is arguing that the prices for mortgage-related securities are artificially depressed because of illiquidity and fire sales. No one is arguing that investment grade corporates are underpriced due to illiquidity and fire sales. That's why ABS and CDOs backed by investment grade corporates aren't eligible for the TALF or the PPIP. The fact that prices for tranches of CDOs backed by investment grade corporates are accurate is completely irrelevant to whether prices for mortgage-related securities are accurate.

Read the full blog post (though I've given you most of it).

The criticism seems sound, but what's interesting is the very suggestion that the "firesale" scenario is imaginary. If they are right (even if the blogger is right that their evidence doesn't support their conclusion), then the bailout represents a huge transfer of wealth from ordinary folks (I hate the term "taxpayers") to shareholders and bondholders. If anyone has a better grip on this than I do, please leave enlightening comments.

Labels: bailout, financial crisis, PPiP, TALF, TARP program, Timothy Geithner, toxic assets

 

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4/07/2009 11:45:00 AM 0 comments

 

Obama Econ Team's Flawed Cosmology (AHuff)

by Dollars and Sense

From HuffPo:

The Obama Economic Team's Flawed Cosmology: Still Believing the Universe Revolves Around the Banks

Arianna Huffington | Posted April 6, 2009 | 10:10 PM (EST)

A series of recent meetings with members of Barack Obama's economic team (including running into Larry Summers on my way to an appointment in the West Wing, leading to a spirited back-and-forth that made me feel like I was back at Cambridge, debating the smartest kid in the class), left me with a pair of indelible impressions:

1) These are all good people, many of them brilliant, working incredibly hard with the best of intentions to solve the country's financial crisis.

2) They are operating on the basis of an outdated cosmology that places banks at the center of the economic universe.

Talking about our financial crisis with them is like beaming back to the 2nd century and discussing astronomy with Ptolemy. Just as Ptolemy was convinced we live in a geocentric universe -- and made the math work to "prove" his flawed theories -- Obama's senior economic team is convinced we live in a bank-centric universe, and keeps offering its versions of "epicycles" and "eccentric circles" to rationalize their approach to the bailout. And because, like Ptolemy, they are really smart, they are really good at rationalizing.

It's easy to get lost debating the complexity of each new iteration of each new bailout, but the devil here is not in the details -- but in the obsolete cosmology.

If you believe the universe is revolving around the earth -- when, in fact, it isn't -- all the good intentions in the world, and all the endless nights spent coming up with plans like Tim Geithner's Public-Private Investment Program will be for naught.

The successive bailout plans have been frustrating to many observers (yours truly included), but when you realize how fully the economic team is mired in a bank-centric universe, all the moves suddenly make perfect sense.

Here is one example. Everybody agrees on the paramount importance of freeing up credit for individuals and businesses. In a bank-centric universe, the solution was a bailout plan giving hundreds of billions to banks. It failed because, instead of using the money to make loans, the banks "are keeping it in the bank because their balance sheets had gotten so bad," as the president himself acknowledged on Jay Leno. As a result, the administration, again according to the president, had to "set up a securitized market for student loans and auto loans outside of the banking system" in order to "get credit flowing again."

But think of all the time we wasted while the first scheme predictably failed. And how much better off we'd now be if we had provided credit directly through credit unions or small healthy community banks or, as happened during the Depression, through a new entity like the Reconstruction Finance Corporation.

Luckily, there is a plethora of economic Galileos out there who recognize that the old bank-centric cosmology is just plain wrong. But while Joseph Stiglitz, Simon Johnson, Jeffrey Sachs, Nassim Taleb, Niall Ferguson, Paul Krugman, etc. are not being imprisoned for life for their heretical views -- they are also not being listened to. Which is really surprising for an administration that has prided itself on a "team of rivals" approach.

Read the rest of the article.

Labels: Arianna Huffington, bailout, banking crisis, Barack Obama, financial crisis, Galileo, Lawrence Summers, Ptolemy, Timothy Geithner

 

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4/07/2009 11:22:00 AM 0 comments

 

Elizabeth Warren: Sack Bank Execs

by Dollars and Sense

Elizabeth Warren, who has been on top of this crisis since way back, is also calling for shareholders' equity to be wiped out. Too bad she's only the TARP watchdog and not in charge entirely. I like especially where she says she doesn't want to be too hard on Geithner, but essentially calls his approach "preposterous." We wish she'd say what she really thinks!

US watchdog calls for bank executives to be sacked

James Doran | Sunday 5 April 2009

Elizabeth Warren, chief watchdog of America's $700bn (£472bn) bank bailout plan, will this week call for the removal of top executives from Citigroup, AIG and other institutions that have received government funds in a damning report that will question the administration's approach to saving the financial system from collapse.

Warren, a Harvard law professor and chair of the congressional oversight committee monitoring the government's Troubled Asset Relief Program (Tarp), is also set to call for shareholders in those institutions to be "wiped out". "It is crucial for these things to happen," she said. "Japan tried to avoid them and just offered subsidy with little or no consequences for management or equity investors, and this is why Japan suffered a lost decade." She declined to give more detail but confirmed that she would refer to insurance group AIG, which has received $173bn in bailout money, and banking giant Citigroup, which has had $45bn in funds and more than $316bn of loan guarantees.

Warren also believes there are "dangers inherent" in the approach taken by treasury secretary Tim Geithner, who she says has offered "open-ended subsidies" to some of the world's biggest financial institutions without adequately weighing potential pitfalls. "We want to ensure that the treasury gives the public an alternative approach," she said, adding that she was worried that banks would not recover while they were being fed subsidies. "When are they going to say, enough?" she said.

She said she did not want to be too hard on Geithner but that he must address the issues in the report. "The very notion that anyone would infuse money into a financially troubled entity without demanding changes in management is preposterous."

The report will also look at how earlier crises were overcome - the Swedish and Japanese problems of the 1990s, the US savings and loan crisis of the 1980s and the 30s Depression. "Three things had to happen," Warren said. "Firstly, the banks must have confidence that the valuation of the troubled assets in question is accurate; then the management of the institutions receiving subsidies from the government must be replaced; and thirdly, the equity investors are always wiped out."

Labels: bailout, Elizabeth Warren, financial crisis, TARP program, Timothy Geithner

 

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4/06/2009 02:41:00 PM 0 comments

 

Successful bank rescue still far away (Martin Wolf)

by Dollars and Sense

Interesting piece by Martin Wolf of the Financial Times.

By Martin Wolf | March 24 2009 19:24

I am becoming ever more worried. I never expected much from the Europeans or the Japanese. But I did expect the US, under a popular new president, to be more decisive than it has been. Instead, the Congress is indulging in a populist frenzy; and the administration is hoping for the best.

If anybody doubts the dangers, they need only read the latest analysis from the International Monetary Fund. It expects world output to shrink by between 0.5 per cent and 1 per cent this year and the economies of the advanced countries to shrink by between 3 and 3.5 per cent. This is unquestionably the worst global economic crisis since the 1930s.

One must judge plans for stimulating demand and rescuing banking systems against this grim background. Inevitably, the focus is on the US, epicentre of the crisis and the world's largest economy. But here explosive hostility to the financial sector has emerged. Congress is discussing penal retrospective taxation of bonuses not just for the sinking insurance giant, AIG, but for all recipients of government money under the troubled assets relief programme (Tarp) and Andrew Cuomo, New York State attorney-general, seeks to name recipients of bonuses at assisted companies. This, of course, is an invitation to a lynching.

Yet it is clear why this is happening: the crisis has broken the American social contract: people were free to succeed and to fail, unassisted. Now, in the name of systemic risk, bail-outs have poured staggering sums into the failed institutions that brought the economy down. The congressional response is a disaster. If enacted these ideas would lead to an exodus of qualified employees from US banks, undermine willingness to expand credit, destroy confidence in deals struck with the government and threaten the rule of law. I presume legislators expect the president to save them from their folly. That such ideas can even be entertained is a clear sign of the rage that exists.

This is also the background for the "public/private partnership investment programme" announced on Monday by the US Treasury secretary, Tim Geithner. In the Treasury's words, "using $75bn to $100bn in Tarp capital and capital from private investors, the public/private investment programme will generate $500bn in purchasing power to buy legacy assets—with the potential to expand to $1 trillion over time". Under the scheme, the government provides virtually all the finance and bears almost all the risk, but it uses the private sector to price the assets. In return, private investors obtain rewards—perhaps generous rewards—based on their performance, via equity participation, alongside the Treasury.

I think of this as the "vulture fund relief scheme". But will it work? That depends on what one means by "work". This is not a true market mechanism, because the government is subsidising the risk-bearing. Prices may not prove low enough to entice buyers or high enough to satisfy sellers. Yet the scheme may improve the dire state of banks' trading books. This cannot be a bad thing, can it? Well, yes, it can, if it gets in the way of more fundamental solutions, because almost nobody—certainly not the Treasury—thinks this scheme will end the chronic under-capitalisation of US finance. Indeed, it might make clearer how much further the assets held on longer-term banking books need to be written down.

Read the rest of the article.

Labels: bailout, financial crisis, Martin Wolf, Timothy Geithner

 

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3/25/2009 12:47:00 PM 0 comments

 

Hey Paul Krugman (A Song, A Plea)

by Dollars and Sense

Catchy tune from YouTube. Hat-tip to Bryan S.

Labels: bailout, financial crisis, Paul Krugman, Timothy Geithner, YouTube

 

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3/25/2009 09:41:00 AM 1 comments

 

U.S. Seeks Expanded Power to Seize Firms

by Dollars and Sense

From the Washington Post. The plot thickens. Sure sounds to me like they're thinking Geithner's plan won't work and they'll have to nationalize after all. The "we've got to move quickly" line (2nd-to-last paragraph) is getting a little old.

U.S. Seeks Expanded Power to Seize Firms

Goal Is to Limit Risk to Broader Economy

By Binyamin Appelbaum and David Cho
Washington Post Staff Writers
Tuesday, March 24, 2009; A01

The Obama administration is considering asking Congress to give the Treasury secretary unprecedented powers to initiate the seizure of non-bank financial companies, such as large insurers, investment firms and hedge funds, whose collapse would damage the broader economy, according to an administration document.

The government at present has the authority to seize only banks.

Giving the Treasury secretary authority over a broader range of companies would mark a significant shift from the existing model of financial regulation, which relies on independent agencies that are shielded from the political process. The Treasury secretary, a member of the president's Cabinet, would exercise the new powers in consultation with the White House, the Federal Reserve and other regulators, according to the document.

The administration plans to send legislation to Capitol Hill this week. Sources cautioned that the details, including the Treasury's role, are still in flux.

Treasury Secretary Timothy F. Geithner is set to argue for the new powers at a hearing today on Capitol Hill about the furor over bonuses paid to executives at American International Group, which the government has propped up with about $180 billion in federal aid. Administration officials have said that the proposed authority would have allowed them to seize AIG last fall and wind down its operations at less cost to taxpayers.

The administration's proposal contains two pieces. First, it would empower a government agency to take on the new role of systemic risk regulator with broad oversight of any and all financial firms whose failure could disrupt the broader economy. The Federal Reserve is widely considered to be the leading candidate for this assignment. But some critics warn that this could conflict with the Fed's other responsibilities, particularly its control over monetary policy.

The government also would assume the authority to seize such firms if they totter toward failure.

Besides seizing a company outright, the document states, the Treasury Secretary could use a range of tools to prevent its collapse, such as guaranteeing losses, buying assets or taking a partial ownership stake. Such authority also would allow the government to break contracts, such as the agreements to pay $165 million in bonuses to employees of AIG's most troubled unit.

The Treasury secretary could act only after consulting with the president and getting a recommendation from two-thirds of the Federal Reserve Board, according to the plan.

Geithner plans to lay out the administration's broader strategy for overhauling financial regulation at another hearing on Thursday.

The authority to seize non-bank financial firms has emerged as a priority for the administration after the failure of investment house Lehman Brothers, which was not a traditional bank, and the troubled rescue of AIG.

"We're very late in doing this, but we've got to move quickly to try and do this because, again, it's a necessary thing for any government to have a broader range of tools for dealing with these kinds of things, so you can protect the economy from the kind of risks posed by institutions that get to the point where they're systemic," Geithner said last night at a forum held by the Wall Street Journal.

The powers would parallel the government's existing authority over banks, which are exercised by banking regulatory agencies in conjunction with the Federal Deposit Insurance Corp. Geithner has cited that structure as the model for the government's plans.

Labels: bailout, banking system, financial crisis, Timothy Geithner

 

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3/24/2009 04:34:00 PM 0 comments

 

Down the dark path (Delasantellis on Geithner)

by Dollars and Sense

Hat-tip to Larry P. for this; he says "it's by far the best thing I've read on this travesty."

I am in absolutely no possession of any historical evidence that 16th-century English jailers employed modern stand-up comedians to bring a bit of levity to their inheritantly bleak workspaces, but what if they had? What if, as the clock ticked down in the Tower of London before the execution of Sir Thomas More ordered by King Henry VIII in July 1535, a comic, in the style of the late Rodney Dangerfield, was brought in to do stand-up?

"Hey, everybody looks great here. Anybody here Papists? Don't worry, your secret's safe with me—I haven't even paid the withholding tax on my foodtaster yet. I just flew in from the Isle of Man, and boy, are my arms tired—you know what I mean? Hey, prison guards! I never knew why they called you guys Beefeaters until I saw your wives outside the gates!"

Turning to the condemned man. "Hey, Tommy, I got good news for you. You're not going to be drawn and quartered tomorrow."

"Pray tell sir, do not jest!"

"I'm serious. Big H's gonna cut your head off instead!"

That's a little bit like the situation with the newly revealed, final US Treasury Secretary Timothy Geithner toxic asset recovery bank program. It may work. It may not. Whatever happens with its effectiveness, one thing is certain. US taxpayers are definitely going to be getting the chop, maybe you could even say they're getting it in the chops, as a result of its implementation and administration.

Read the rest of the article.

Labels: bailout, financial crisis, Henry VIII, Julian delasantellis, Rodney Dangerfield, Sir Thomas More, Timothy Geithner, toxic assets

 

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3/24/2009 04:28:00 PM 0 comments

 

Market Up Krugman Down

by Dollars and Sense

The Dow Jones Industrials soared nearly 500 points today (about 6%) on news of the Geithner plan to buy up toxic bank assets. The stocks of troubled banks did particularly well, Citibank up 17%, Bank of America 18%, JPMorgan Chase up 18%, and Wells Fargo up 17%.

As usual, if Wall Street is happy about a bailout plan, taxpayers should be worried.

From Krugman:

Tim Geithner, the Treasury secretary, has persuaded President Obama to recycle Bush administration policy - specifically, the "cash for trash" plan proposed, then abandoned, six months ago by then-Treasury Secretary Henry Paulson.

This is more than disappointing. In fact, it fills me with a sense of despair.

After all, we've just been through the firestorm over the A.I.G. bonuses, during which administration officials claimed that they knew nothing, couldn’t do anything, and anyway it was someone else's fault. Meanwhile, the administration has failed to quell the public's doubts about what banks are doing with taxpayer money.

And now Mr. Obama has apparently settled on a financial plan that, in essence, assumes that banks are fundamentally sound and that bankers know what they’re doing.

Read the rest of the column here.

In short, it won't work, it will enrich private investors at public expense, and it will close the door to other solutions that could work.

Labels: bailout, Dow Jones Industrial Average, financial crisis bailout, Paul Krugman, Timothy Geithner, toxic assets

 

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3/23/2009 03:14:00 PM 0 comments

 

Obama Plans To Avoid Repeat of Crisis

by Dollars and Sense

From Bloomberg:

Obama to Outline Regulation Changes to Avoid Repeat of Crisis

By Hans Nichols

March 22 (Bloomberg) The Obama administration will this week outline regulatory changes aimed at avoiding a repeat of the financial crisis that's crippled the banking system and pushed the U.S. into the deepest recession since 1982.

The proposals will address the risks that remain in financial regulation, an administration official said, including the need for an agency to have the power to resolve a breakdown at a major financial institution. Federal Reserve Chairman Ben S. Bernanke two weeks ago called for regulators to be given the authority to seize such firms, in the way the Federal Deposit Insurance Corp. already has for deposit-taking institutions.

Officials favor giving the Fed greater responsibility for managing risk across the financial system as was proposed almost a year ago by former Treasury secretary Henry Paulson, support for which is waning in Congress. President Barack Obama may also subject executive pay to greater scrutiny, the New York Times reported. An administration official denied that curbing compensation will be a major focus of the regulatory plan.

"There’s still a need for a systemic-risk regulator," Representative Barney Frank, the Massachusetts Democrat who chairs the House Financial Services Committee, said on March 20. "The argument for the Fed alone has lost a lot of political support. I think that’s now got to be re-looked at."

Treasury Secretary Timothy Geithner will testify before Frank's committee on March 26 as Obama prepares to travel to London for a summit of the Group of 20 industrial and developing nations.

G-20 Summit

Obama has said that the meeting must deal with how to prevent further crises like the current financial meltdown that began almost two years ago with the collapse of the market for subprime mortgages.

American banks have suffered more than $800 billion in writedowns and credit losses since then. The credit contraction that followed dragged first the U.S., and then Europe and Japan, into recession. A surge in unemployment and collapse in house prices has added to bad loans and further discouraged banks from lending.

The crisis also pushed the U.S. government into pouring hundreds of billions of dollars into financial institutions, including Citigroup Inc., Bank of America Corp. and American International Group Inc.

Like the White House, Congress is trying to overhaul U.S. financial regulations and agencies that lawmakers have faulted for lax oversight. Frank, who is playing a lead role in the redesign, has been pushing to expand the Fed's authority.

Read the rest of the article

Labels: bailout, banking regulation, Barack Obama, barney frank, financial crisis, Timothy Geithner

 

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3/22/2009 12:02:00 PM 0 comments

 

Proposed Plan To Deal With Toxic Assets

by Dollars and Sense

From The Wall Street Journal:

MARCH 21, 2009

U.S. Sets Plan for Toxic Assets
Wall Street Journal
By DEBORAH SOLOMON

WASHINGTON -- The federal government will announce as soon as Monday a three-pronged plan to rid the financial system of toxic assets, betting that investors will be attracted to the combination of discount prices and government assistance.

But the framework, designed to expand existing programs and create new ones, relies heavily on participation from private-sector investors. They've been the target of a virulent anti-Wall Street backlash from Washington in the wake of the American International Group Inc. bonus furor. As a result, many investors have expressed concern about doing business with the government in this climate--potentially casting a cloud over the program's prospects.

The administration plans to contribute between $75 billion and $100 billion in new capital to the effort, although that amount could expand down the road.

The plan, which has been eagerly awaited by jittery investors, includes creating an entity, backed by the Federal Deposit Insurance Corp., to purchase and hold loans. In addition, the Treasury Department intends to expand a Federal Reserve facility to include older, so-called "legacy" assets. Currently, the program, known as the Term Asset-Backed Securities Loan Facility, or TALF, was set up to buy newly issued securities backing all manner of consumer and small-business loans. But some of the most toxic assets are securities created in 2005 and 2006, which the TALF will now be able to absorb.

Finally, the government is moving ahead with plans, sketched out by Treasury Secretary Timothy Geithner last month, to establish public-private investment funds to purchase mortgage-backed and other securities. These funds would be run by private investment managers but be financed with a combination of private money and capital from the government, which would share in any profit or loss.

All told, the three efforts are designed to unglue markets that have seized up as investors have stood on the sidelines. One big problem is that many of these assets no longer trade, which means it's very hard to put a price on them. Banks are unwilling to sell at too low a price, and investors are unwilling to take the risk.

Read the rest of the article

Labels: bailout, financial crisis, TALF, Timothy Geithner, toxic assets, US Treasury

 

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3/22/2009 10:17:00 AM 0 comments

 

The Virtues of Public Anger, and Need for More

by Dollars and Sense

Great piece by Glenn Greenwald at Salon.com; hat-tip to Ben C. Ben wrote me: "This article is pretty damn good. I predict that your proposed new title for D&S, 'Jump You Fuckers,' will be conventional wisdom by Sept/Oct."

The virtues of public anger and the need for more

Glenn Greenwald | Salon | Saturday March 21, 2009 09:08 EDT

With lightning speed and lockstep unanimity, opinion-making elites jointly embraced and are now delivering the same message about the public rage triggered this week by the AIG bonus scandal:   This scandal is insignificant.  It's just a distraction.  And, most important of all, public anger is unhelpful and must be contained or, failing that, ignored.

This anti-anger consensus among our political elites is exactly wrong.  The public rage we're finally seeing is long, long overdue, and appears to be the only force with both the ability and will to impose meaningful checks on continued kleptocratic pillaging and deep-seated corruption in virtually every branch of our establishment institutions.  The worst possible thing that could happen now is for this collective rage to subside and for the public to return to its long-standing state of blissful ignorance over what the establishment is actually doing.

It makes perfect sense that those who are satisfied with the prevailing order -- because it rewards them in numerous ways -- are desperate to pacify public fury.  Thus we find unanimous decrees that public calm (i.e., quiet) be restored.  It's a universal dynamic that elites want to keep the masses in a state of silent, disengaged submission, all the better if the masses stay convinced that the elites have their best interests at heart and their welfare is therefore advanced by allowing elites -- the Experts -- to work in peace on our pressing problems, undisrupted and "undistracted" by the need to placate primitive public sentiments.

While that framework is arguably reasonable where the establishment class is competent, honest, and restrained, what we have had -- and have -- is exactly the opposite:  a political class and financial elite that is rotted to the core and running amok.  We've had far too little public rage given the magnitude of this rot, not an excess of rage.  What has been missing more than anything else is this:  fear on the part of the political and financial class of the public which they have been systematically defrauding and destroying.

* * * * *

These endless lectures from sober, rational pundits about the relative quantitative insignificance of the AIG bonuses are condescending straw men.  Nobody thinks that $165 million in bonuses for the people who destroyed AIG is what has caused the financial crisis.  Nobody thinks that recouping those bonuses or having prevented them in the first place would solve or even mitigate systemic collapse.  The amounts are miniscule in the context of the broader economic issues.  Everyone is aware of that; nobody needs to have that pointed out.  As Armando astutely observed, the attempt now to dismiss the anger over the AIG bonuses as the by-product of simple-minded ignorance and/or ideological rigidity (class warfare!  crass populism!) is quite similar to how anti-war arguments were stigmatized before the attack on Iraq :   ignore the screeching pacifists and let the sober Experts make the decisions, for they know best.

The AIG scandal is significant and has resonated so powerfully because it is a microscope that enables the public to see what and who has wreaked the destruction that threatens their security and future and, most important of all, to realize that these practices haven't ended and the perpetrators haven't been punished.  The opposite is true:  those who caused the crisis continue to exert control over what happens and continue to have huge amounts of public money transferred in order to enrich them.

Eliot Spitzer is absolutely right that, even at AIG, there are far larger scandals than the bonuses, such as the undiscounted compensation of AIG's counter-parties such as Goldman Sachs (and just by the way:  it is indescribably symbolic that Spitzer has been punished and disgraced for his acts of consensual adult sex while the targets of his prescient Wall St. investigations, who basically destroyed the world economy, remain protected and empowered). But the bonus scandal is illustrative of why the crisis happened, who caused it to happen, and the ongoing political dominance of the perpetrators.  It is, as Robert Reich put it, "a nightmarish metaphor for the Obama Administration's problems administering the bailout of Wall Street."

The financial crisis has merely unmasked the corruption and rot in our establishment institutions that are staggering in magnitude and reach.  Just as the Iraq War was not the by-product of wrongdoing by a few stray bad political and media actors but instead was reflective of our broken institutions generally, the financial crisis is a fundamental indictment on the way the country functions and of its ruling class.  What would be unhealthy is if there weren't substantial amounts of public rage in the face of these revelations. 

Read the rest of the article.

Labels: AIG, anger, bailout, financial crisis, Glenn Greenwald, populism, ruling class, Timothy Geithner, Wall Street, Wall Street bonuses

 

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3/22/2009 08:27:00 AM 0 comments

 

Krugman: The Zombies Have Won

by Dollars and Sense

Geithner's plan has been announced. Late on a Friday when nobody will notice, right? Never a good sign.

Basically, it's heads the banks win, tails we lose. Actually, heads we lose too.

From Paul Krugman's blog:

The Geithner plan has now been leaked in detail. It’s exactly the plan that was widely analyzed — and found wanting - a couple of weeks ago. The zombie ideas have won.

The Obama administration is now completely wedded to the idea that there’s nothing fundamentally wrong with the financial system — that what we’re facing is the equivalent of a run on an essentially sound bank. As Tim Duy put it, there are no bad assets, only misunderstood assets. And if we get investors to understand that toxic waste is really, truly worth much more than anyone is willing to pay for it, all our problems will be solved.

To this end the plan proposes to create funds in which private investors put in a small amount of their own money, and in return get large, non-recourse loans from the taxpayer, with which to buy bad - I mean misunderstood - assets. This is supposed to lead to fair prices because the funds will engage in competitive bidding.

But it's immediately obvious, if you think about it, that these funds will have skewed incentives. In effect, Treasury will be creating - deliberately! - the functional equivalent of Texas S&Ls in the 1980s: financial operations with very little capital but lots of government-guaranteed liabilities. For the private investors, this is an open invitation to play heads I win, tails the taxpayers lose. So sure, these investors will be ready to pay high prices for toxic waste. After all, the stuff might be worth something; and if it isn’t, that’s someone else's problem.

Or to put it another way, Treasury has decided that what we have is nothing but a confidence problem, which it proposes to cure by creating massive moral hazard.

This plan will produce big gains for banks that didn't actually need any help; it will, however, do little to reassure the public about banks that are seriously undercapitalized. And I fear that when the plan fails, as it almost surely will, the administration will have shot its bolt: it won’t be able to come back to Congress for a plan that might actually work.

What an awful mess.

And from Yves Smith:

If the money committed to this program is less than the book value of the assets the banks want to unload (or the banks are worried about that possibility), the banks have an incentive to try to ditch their worst dreck first.

In addition, it has been said in comments more than once that the banks own some paper that is truly worthless. This program won't solve that problem.

Rest of Smith's analysis here.

Labels: bailout, financial crisis bailout, Timothy Geithner, toxic assets, Treasury Department

 

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3/21/2009 05:45:00 PM 0 comments