The original TARP idea was to hold reverse auctions for mortgage-backed securities. The government would hold them to maturity or resell them. Whatever one thinks of this plan, it puts relatively little burden on government decisionmakers. However, one criticism of the plan was that government agents would not be able to set the price correctly, whether through the auction mechanism or in some other way, and therefore end up underpaying (in which case the plan would not work) or overpaying (enriching greedy investment bankers).
It is now clear that Treasury will take a more aggressive approach. Not only will it buy commercial paper; it will buy equity in banks. It may well be that liquidating the market in MBS’s would not have been adequate, and more aggressive measures are needed. But if one has doubts about the ability or incentives of government agents to price correctly MBS’s, then one ought to have even more doubts about the new agenda. To buy commercial paper, you need to distinguish among the various companies that offer it, and pay no more than its value, which requires a good knowledge of the balance sheet and operations of the seller, not to mention the market in which it operates and the health of the economy and financial system. Sure, it’s short-term and therefore safer than other forms of debt, but it still needs to be priced correctly in light of its risk. To buy equity, you need to make similar judgments. And to exercise one’s rights responsibly, one needs to monitor the company, its market, and the economy, and exercise any rights one has – in the case of equity, to control the operations of the company. Good luck!
As the financial system collapses, the banks are increasingly becoming ventriloquist’s dummies for the government. They remain as shells but the government calls the shots. In the case of the commercial paper market, the fiction is not even being maintained: firms borrow directly from the government. People call this process “restoring confidence” in the financial system; but it really just replaces one financial system (a more-or-less private one) with another (a government-run system). It’s as if a hurricane hit a city and the national guard took over food distribution. We don’t say that the government is restoring confidence in the private food distribution system; we say that it is operating the food distribution system, and will do so until the private system recovers on its own.
Related Posts (on one page):
- Bailout Analogy:
- Plan B (C?).
Nothing, and I mean nothing, in the TARP legislation said anything about any reverse auctions. The original plan was to prevent a stock market collapse. Didn't you see Nancy Pelosi's press conference?
I intend to take over your economy and run it into the ground.
Congratuations suckers!
Signed,
Hank
Just remember.. whats bad news for the people is always GREAT news for the government.
Here, though I'd change "will do so until the private system recovers on its own" to "will continue to do so." The chances of the people in charge of this ever saying "Oh, look! The financial markets recovered all on their own! We can stop now" are prohibitively slim, no?
How will private banks recover if the government is the 800lb gorilla in the same market?
And the government, in the interest of recovering the economy, underprices the private banks?
This is close, but it's a flawed analysis. The banks are incresingly becoming ventriloqueist's dummies of the Fed ... a private bank.
The Fed isn't the government. For example ... President Bush could not prevent Mr. Paulson from spending $700 billion buying equity in banks.
President Bush is the government. We held an election of which he was a participant.
Nobody elected the Fed, because the Fed is a private company regulated by the government, but a private company nonetheless.
What I don't find in your post is any suggestion of an alternative solution. Bitching from the peanut gallery is fun, but not terribly productive.
The reference to a work of Ayn Rand is amusing. Here is her most famous living disciple on the crisis:
The naivete is astonishing. Or maybe not.
Is there a good doctor around here, I 'd like to exercise my right.
You make the call Eric.
While I recall the statement about Healthcare being a "right", I don't recall any promises that it will be high quality Healthcare or that you will be entitled to see a "good doctor". In fact, I don't recall any statement even indicating that you should expect treatment by a M.D., D.O., Physician's Assistant, Nurse Practioner, or any form of allopathic medical treatment. Iowa gave BHO his first big boost and Sen. Harkin (D. Iowa) is one of the major proponents of federal support and promotion of "Complementary and Alternative Medicine." Sounds like you need an adjustment. That will exercise your right.
Right, it doesn't matter whether what we do will actually work, or even if it makes things worse, we must do something. This is something. Therefore we must do this.
Well, to be sure, on a self-professed libertarian blog I'm not seeing anybody advocate for not doing anything. Strange, that.
Absolutely it is. The process the regulations and the regulators encouraged created the specifics of the problem.
To the extent deficiencies in human nature caused the problem, govt won't fix it--it is an expression of the deficiencies.
Yours, TDP, ml, msl, &pfpp
That's where stupid loans turned from a problem for individual lending entities to a problem for the entire financial system.
Nick
But you also wrote:
How does the Paulson program put relatively little burden on the government? As many people had discussed before, Paulson claimed that a mysterious reverse auction would work, but the reality is that the treasury would have to review each MBS product--and the army of accounts would be under pressure to not overvalue the instrument.
The argument behind equity purchases is that they would be fewer, larger transactions with more individuals reviewing each bank's balance sheet and the terms of each deal--which under the provisions of the TARP must be disclosed specifically an individually to Congress, the Fed Board of Directors, and the TARP Committee.
And, justareader, "reverse auctions" are expressly mentioned in the legislation, and I believe in the original House bill as well as in the Senate bill that became law.
At the next debate, somebody should ask the candidates whether that's a right too.
If the gov't buys GE's commercial paper is that signal that GE's stock is a good buy or that it's a bad buy. If Warrent Buffett buys it, then people think it's a good buy.
When the gov't buys this stuff is it going to have to disclose its reasons for doing so? I.e., we're buying GE's commercial paper because GE is really struggling and is poorly run but everyone be calm and don't dump your stock in GE?
Nice touch.
Link? (Sorry, I'm not a trusting person).
And Obama wants to do the same.
I think the analysis on what the government is doing assumes that they know the problem. They aren't really addressing the problem they are fighting the hottest fires. Paulson talked of banks that will close in the future. He was sure of that. This is now the derivative problem that everyone feared. Check out the Comptrollers report Here: http://www.occ.treas.gov/ftp/release/2008-115a.pdf
97 Trillion in notational value on the books for JPM alone. This does not mean anything itself because it is like trying to figure out how much insurance you have on a car by only looking at the car(but its even less accurate than that). The problem is a few other banks namely BAC have tons of derivative contracts out there as well. No one knows the triggering events for these contracts, no one knows the total amount this exposes the banks too and no one knows how much counter party risk is attributed to each bank.
Anyone wonder why JPM was allowed to eat Lehman? The counter-risk that Lehman posed to JPM could have ended it all (at least that was the fear) or not - problem is no one knows.
I really like this site but someone desperately needs to address the underlying issues. If I am wrong about the derivative thing please God provide me something showing me that I am wrong.
I think it's a good idea. If executives can spend bailout money on spa visits ([i]vide[/i] AIG), then the little guy ought to have some relief too.
Also shouldn't have used the term to begin with, because the proposal is for restructuring, not for total forgiveness.
And the one thing stupider than spending $700b on mortgage-backed securities would be allowing the loans in the portfolio to remain non-performing or defaulted so that (a) Treasury loses any prospect of an economic recovery on resale, and (b) Uncle
SuckerSam winds up being the country's biggest residential landlord.I wonder why banks weren't lending each other cash?
Now here is the scary point. According to the Comptrollers office Lehman's Derivative play was the 25th largest in the country! What would be the payout if the number 1 or 2 derivative player were collapse?
This isn't the site for those kinds of issues, most of the macroeconomic analysis posted here comes from kibitzers and amateurs on the subject, PLR not excepted.
Glass-Steagal prohobited banks from selling insurance (credit default swaps) and from owning stock (mortage-backed securities).
This is the regulation which prevents the banks from needing a rating agency to tell it what to safely invest in in the first damn place.
I first read this as "kibbutzers" and thought "Really?"
None of which rules would have improved the solvency of Bear Stearns, Lehman, or AIG, since none of them is a bank. Conversely, it is bad mortgage loans, not credit default swaps, which have put WaMu and Wachovia out of business.
And mortgage-backed securities are not stock. Words have meanings, and it isn't allowed to just label tails as legs to improve your argument.
So are you saying that is what the pitiful poor and uninsured people will be getting under an Obama presidency? an "adjustment"?
The institutions that failed might not have if all the other banks weren't fearing the impending derivatives implosion. The thing is no one knows for sure. To say you can KNOW that WaMu and others failed solely because of MBS presumes A-L-O-T. While I like the tail as a leg argument, I am not sure if you can summarize the failure of three multi-billion institutions in two sentences.
In the case of publicly traded companies, financial statements are available online. Heck, even privately owned companies have to file income tax returns. That is a one-step task to determine the very basics like profits and losses. This seems a lot less iffy than buying MBS for which the identity of the borrowers in a particular security, much less income and expenses of the borrowers, aren't even known. Commercial lending has been going on, apparently successfully, for decades. MBS has been going on, with little scrutiny, for about a decade AIUI.
I can understand folks having heartburn that .gov getting into the CP lending game is competition to commercial banks. But its a pretty tough sell, I think, to claim that CP lending is as risky for Uncle Sam as MBS purchases.
If you have a comment about spelling, typos, or format errors, please e-mail the poster directly rather than posting a comment.
Comment Policy: We reserve the right to edit or delete comments, and in extreme cases to ban commenters, at our discretion. Comments must be relevant and civil (and, especially, free of name-calling). We think of comment threads like dinner parties at our homes. If you make the party unpleasant for us or for others, we'd rather you went elsewhere. We're happy to see a wide range of viewpoints, but we want all of them to be expressed as politely as possible.
We realize that such a comment policy can never be evenly enforced, because we can't possibly monitor every comment equally well. Hundreds of comments are posted every day here, and we don't read them all. Those we read, we read with different degrees of attention, and in different moods. We try to be fair, but we make no promises.
And remember, it's a big Internet. If you think we were mistaken in removing your post (or, in extreme cases, in removing you) -- or if you prefer a more free-for-all approach -- there are surely plenty of ways you can still get your views out.