The U.S. Economic Stability Plan: Glimmers of Hope Fading 27 comments
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I have been holding off on commenting about the impending, revised financial stabilization plan, content to let those such as Yves Smith express their dismay at the evolving package. I have run the gamut from dismay to anger to my current emotion, supreme disappointment. There were really only two glimmers of hope that the US could avoid a Japan-like multi-year stagnation. One was the offsetting effect of a strong global economy. Of course, we all know how that story ended. Poorly. The other was my certainty that US policymakers like NEC head Lawrence Summers and Treasury Secretary Timothy Geithner had studied the Japanese crisis up and down and realized that you needed to meet a banking crisis head-on, not with halfway measures that left the system crippled.
But today, reading CNBC’s coverage of the plan, it becomes painfully clear that we are headed full speed on a policy bullet train designed to repeat Japan’s errors. From CNBC:
The plan will be "smaller" than originally expected, said the industry source, and centered around government guarantees and insurance of troubled assets, what's called a "ring fence" concept.
Will the ring fence concept work? Consider this paragraph later in the article:
The ring fence concept has already been used with Citigroup ... and Bank of America... It involves government guarantees and insurance provisions for groups of bad assets, but they remain on the balance sheet of the institution. The bad bank concept literally removes them.
Look, just look, at the stock prices, plumbing the depths. From Bloomberg:
Bank of America Corp., the nation’s largest bank, declined to its lowest level in New York trading since 1984 on concern regulators may seize the company after a $138 billion U.S. bailout package failed to halt the slide.
I have got to say, at least from someone on the outside looking in, the US government appears to be headed down a path already proven to be a failure. Is more of a failing policy smart policy? But it gets worse:
The latest round of discussions also appear to have addressed the most controversial aspect of the big bank concept: Pricing.
Under the emerging plan, the government will buy toxic assets below the banks "carrying value," which is basically market value, but not at fire sale levels, the source said.
That approach will likely placate both taxpayer and Congressional concerns about the government over-paying for the assets. But, the source noted, it could "trigger an accounting problem for the banks,"
presumably because the institutions will have to report a loss on the transactions.
The Obama administration is now working on ideas to address that, which might entail a temporary suspension of certain accounting rules.
Classic. Absolutely classic. Is this really addressing the problem of pricing? Are we not in the same boat of “if we pay too little, the bank is undercapitalized, but if we pay too much, the taxpayer holds the bag and therefore we need to nationalize”? Obviously we are in the same boat, because the new plan may cause an “accounting problem.” Like insolvency. That is, in fact, a problem, no argument from me. Apparently, though, the Administration’s solution is a suspension of accounting rules. Translation – we are going to try to hide the problem.
As if investors won’t see through that mirage because all of you traders are clearly slow-witted. Again, Bank of America already plumbing the depths…
Why are we here? Why, months after TARP, are we still not willing to dig down in the balance sheets of troubled banks and disgorge the questionable assets once and for all? Why, with a new Administration, supposedly unfettered from the ideological positions of the last Administration? More from CNBC:
The latest developments come as Congressional support for the bad bank concept and additional financial support for the financial sector is fading.
In a news conference Wednesday afternoon, House Speaker Nancy Pelosi (D.-Calif.) said she was "not so sure" that another bailout request from the Obama administration is inevitable, reversing an a previously-held assumption.
Sen. Charles Schumer (D-NY), a senior member of the Senate Banking Committee, Tuesday joined the bad-bank skeptics, telling CNBC the approach would be "hugely expensive" and added he prefers government guarantees of such assets.
Congressional Democrats, led by House Financial Services Committee Chairman Barney Frank (D.-Mass.) have shared with the new administration their anger and disappointment over former Treasury Secretary Henry Paulson’s administration of the TARP program, which was seen as too generous to and too lenient on Wall Street firms.
The financial crisis has been so mismanaged that the public will not support package with a high price tag, a price tag that could climb into the trillions. And there is no way to even bring the issue to the public unless taxpayers effectively buy troubled banks, which can only be justified after first wiping out shareholders and bondholders. Then the bad assets could be rooted out once and for all. But this Administration appears no more willing than the last to consider temporary nationalization. They either do not want to own banks (I don’t blame them), or they are in too deep with Wall Street interests to upend the status quo.
We used to wonder aloud at the intransigence of Japanese policymakers. How could they allow their banking system to deteriorate? Why not take decisive action? Now we know: Fettered to an adherence to the status quo and an aversion to the concept of nationalization, the political will to attack the problem head-on is overwhelmed by the enormity of the financial crisis.
On a final note, the Administration still appears to selling the package with this line:
Both approaches are meant to spur new lending by banks.
And more from Bloomberg:
Earlier today, Senate Banking Committee Chairman Christopher Dodd urged the Obama administration to redesign the financial-rescue program to ensure that banks receiving aid increase lending and restrict salaries.
In the current environment, I can only imagine this is a pipe dream. The survey of loan officers shows clearly that while standards are tightening, loan demand is dropping off. Moreover, as the recession deepens and job losses mount, credit quality is deteriorating and loan losses increasing. Balance sheets are only coming under more pressure from rising credit card delinquency and expected downgrades of CMBS. Administration officials may find this hard to believe, but you cannot fix the banking system by encouraging banks to make more bad loans. And the number of opportunities to make good loans is rapidly drying up. If we sell this to the public – again – as the fix that will increase lending, there will be either massive disappointment or an effort to obfuscate balance sheets (since we are apparently ready to suspend accounting rules anyway) so that it appears government funds are being used for new lending (as if money was not fungible).
Geithner is slated to announce the new plan next Monday, February 9. Perhaps the final plan will be bolder than early reports suggest. And I can always hope that I am dead wrong and the “ring fence” concept is a spectacular success. But at this point, I am not optimistic...the Japan scenario is looming larger in my mind every day.
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This crowd that has gathered and spreads gloom and doom in tune with each other was absent the markets were peaking I believe because they are analyzing based on market booming periods. So be wary of their foresight.
I also agree that tax rebate at this point is useless where as job creation is far more productive. Companies should be encouraged strongly to cap salaries before attempting any further lay offs.
And what if it is 100% a tax cut? Big deal. So the multiplier is lower because people apply the tax cut to debt. Do we really need to supercharge the economy to inflationary levels? I think paying debt is the best thing people and businesses can do. Creating jobs that most likely will be temporary is not the best thing.
You guys should just wake up, the dirty truth is that most of Americans don't have the wealth based on the paper value which they so firmly believed they had in the first place. So no matter how the government runs for their help, they still don't have it, it just never be there ever, that Ponzi Theme is just OVER.
The only way that the government can fit that void is through money printing. The government now plays chicken with the markte one way or another, however, it just never works in the way that the government hopes for and it never will in the future. Money printing and stagflation are the only "better" solution left than a coming depression.
Very good article. It is amazing how hard it is to do the right thing when it means smashing a few friends. The economic team knows the right thing to do in the abstract, but can't face reality when they know the people personally. I have read so much about this problem and the only thing that makes sense to me is some sort of nationalization process that keeps politics out of the management process - independent boards of directors and management (a la RTC).
Bob Lunn,
Good idea: segregate the problems and address them in priority order, with careful analysis of synergies. I would suggest that "fixing" house prices is counterproductive if it delays getting them down to historically stable valuations. I have read several analyses of what this is and it seems a lot of consensus exists for stability much below current price levels, as much as 15% to 25% below the current prices (averaged nationally). Artificially propping up prices will only delay reaching stability.
Consider_this,
The problem you point out with Fannie Mae style take-over is avoided if the government simply buys the stock in insolvent banks at market prices. This is about $50B for C and BAC at the present time. This process also keeps the banks as running establishments and all CDS relationaships remain in place, as do all capital structures. The bank(s) can then be reorganized and sold back into the market as IPOs of their sound business units, with the government owned unit keeping the assets of undetermined value until they can be sold, maybe years down the road.
I will repeat my belief that government ownership must be kept separation from the operations of the bank(s).
This is the only process that makes sense to me if I look at my interests as a taxpayer/investor. All the other manipulations being discussed run the risk of the government taking risks with my (taxpayer) money in order to provide possible benefit to current management.
To all commenters,
This is an excellent comment stream. Let's keep getting some more good proposals on the table. This is not an insolvable problem, but it appears that way to us because none of us have the entire solution.
Let the chips fall where they may. Half measures are like pulling off a band-aid very slowly and gingerly. It doesn't work. You have to be decisive and stand by it if you're gonna pass any plan at all. With all the different ideologies out there it is not possible to placate everyone so someone needs to stop being afraid of being the scapegoat, make a decision, stick with it, and let it play out. If they can't do this then again, like i said before, I'm in favor of no bailout.
Finally, as an investor I may want to come in and purchase equity ownership because I believe that assets will recover if given a chance. This is how it worked in all prior times of crisis.
Bob Lunn - You have a good conceptual framework.
I think that what is happening now is the Administration trying to put something dramatic out quickly to shock the economy's heart back to beating. It's messy, expensive and awfully inefficient, but that's government. WWII was run inefficiently, too, but the good guys eventually won. Let's hope that happens here, too.
The alternative to quick action is to let the patient whither, and probably die. This may be a more satisfying and comprehensive long-term solution, but the process would undoubtedly lead to anarchy and all sorts of nasty consequences.
I'm hoping that the stimulus package is followed up by some serious reform efforts aimed at more specific areas, as you suggest.
I would look very carefully at the banking system The fundamental tasks for banks (as I see it) are to process transactions, serve as a safe storage place for deposits, and lend to people who are doing something productive and want to pay back their loans. Banks should be ultra-conservative, since their functions are too integral to the functioning of the economy.
Keep the risky activities away from the safe-keeping and infrastructure functions (sounds like Glass-Steagall).
Finally, remind people that when you put your money at risk, you might lose it all. If you can't absorb the possible loss, don't take the risk.
1) Open California, Florida, and the North East to drilling; and I mean OPEN WIDE THROTTLE! Let's put some of that $147 oil money profit to work. Oil companies can't wait to increase reserves.
2) Get rid of the senseless nuclear regulations that prevent utilities from investing in new nuclear power plants. For example, spent nuclear fuel is NOT recycled in the US. Thus utilities are left with a huge amount of radioactive waste -- a massive disposal problem. In France and elsewhere, the fuel is recycled and there is very little radioactive waste!
3) Eliminate tax credits for capital invested in foreign countries, while increasing tax credit for domestic capital investment. There is not free trade agreement that says this can't happen. Just DO IT!
4) Simplify taxes by getting rid of the income tax completely while creating a BTU tax collected by utilities.
Things like this cost no money at all but would really help speed up the economy.
I think you meant to say "They will NOT support it - they have no MONEY"
If insolvent governments could spend freely, without regard to revenue or wealth, then we would all be saluting Worldwide President Hugo Chavez
1) The pain is insurmountable (almost there)
2) The technology/financial plan are so tight that any short term solution opportunities are missed.
We can all sit here on these sites and play hypothetical quarterback or get busy together. Out of all of you in the last six months, only two picked up the phone or emailed me. Out of hundreds of phone calls or emails to you, there are only five that are lending any asset at all. I do respect the 30 now part of the think tank that are loosely collaberating lending valuable intellectual capacity. Do you my fellow investors and business think I do not have anything better to do? I own and manage two companies. And while not cash starved because I understand the business cycle and gather endless data (actually this IS my businesses in Health and Higher Ed) I either act so we all have a better country to again once reinvest or I just talk about it. What type are you?
Stop the Government, Wall Street, and the Fed from stealing your money.
It is ludicrous to think that this Obama $900 billion dollar plan will do anything, because the Fed has already stolen $8 trillion and is hasn`t fixed anything.
This is a great country, but I think the only way to get back on our feet is to let things crash back down to reasonable levels and learn to manufacture again.
Here's my recipe for dealing with the "crisis" du jour. It can be summed up as an equation: Spend less + Save more = Prosperity
1. Let bad banks fail; their depositors will gravitate toward healthier institutions.
2. Let inefficient firms fail; their customers and employees are needed by smaller, more nimble competitors. Zombie companies "tie up" labor and capital that is needed by newcomers.
3. Provide incentives for citizens to pay down debt; for 3 tax years, allow taxpayers to take an above-the-line deduction for every dollar of personal and mortgage debt that they pay down. This will create an incentive for households to de-leverage.
4. Suspend the enforcement of regulations --- labor, environmental, and economic --- for eight years. The regulatory environment in the United States, even if well-intentioned, is a barrier to entry for both foreign and domestic firms. Anything that increases the cost of doing business simply places America at a comparative disadvantage with other nations.
One thing that seems obvious to me is that the root cause of our current meltdown is that everybody, consumers and banks alike, got way over extended with debt. It strikes me as folly, at best ( the oft quoted definition that insanity consists of continuing to do the same thing and expecting different results always springs to mind in this context), to attempt to borrow our way out of a credit bubble crisis. It seems rather like trying to reinflate the bubble.
Proposals are in no short supply. But the fact remains that no matter what "stimulus" or "bailout" is proposed for the economy and/or financials, they all require that we borrow now and either keep borrowing or massively tax later to pay for it. That process risks worse consequences in the future in order to avoid present pain.
One of the only proposals out there that seems to me to require neither additional (if delayed) taxation or borrowing, is that proposed above by Mr. Sebastian and (without evident understanding or rationale) labled "fraud" by Probbo: returning to the discounted income stream valuation of certain assets.
Mark to market, where the kind of economic turmoil we're in deprives us of any rational market at all, is not an appropriate valuation methodology. Mark to market was implimented in the supposed interest of greater "transparency". One might ask, if it disguises performing or partially performing assets as worhtless, just what increase in transparency has been achieved? Discounted income stream accounting valuations have been around for a long time and are surely in no way a "fraudulent", so long as there is no misrepresentation of the content or actual performace level of the asset at hand. If impaired but still partially performing assets are clearly and fully itemized, would we not, in fact, be increasing transparency while more appropriately valuing those assets and mightn't we not also be fostering an actual public market for such things?
What would it cost to try? I find it difficult, if not impossible, to see how it could possibly make our too-big-to-fail bank situation any worse. It may not be a "cure", but I can definitely see where it could help stabilize the situation and give us more time to work through these "toxic" assets in an orderly and market oriented fashion. And, somewhere along the road, prohibit the trading of these arcane opaque derivative instruments either OTC and/or off balance sheet by "public trust" entities like banks.
Why not try the least cost, least inflationary, least risky to the taxpayer notion before we go further down a road that, so far, has shown little evidence of moving us forward? Mr. Sebastian has some first hand experience here, as do many of the others whose voices have echoed his suggestion. I, for one, am with them.
We need to stop dancing around the issue, because obviously, slowly bleeding our system of its viability isn't doing us any good.
Rip off the band-aid, and close down what banks need to be closed. The healthy ones won't be able to emerge from this when there's this much detritus around them.
On Feb 06 12:00 PM clam75 wrote:
> Most people on this thread are looking at the current recession and
> seeing a "problem" to be solved. The Austrian school of economics
> --- of which I'm an adherent --- shifts the paradigm: the recession
> is not a "problem" but the market trying to cure and correct the
> bubble that was created by the Fed's policies. In short, there is
> no "problem." A recession or depression is like a fever during a
> cold; the economy is attempting to purge itself of the bad debt and
> uncompetitive firms that exist. The government is attempting to
> stop this purging and, as a result, we have zombie financial institutions
> and living dead automakers still waddling around.
>
> Here's my recipe for dealing with the "crisis" du jour. It can be
> summed up as an equation: Spend less + Save more = Prosperity<br/>
>
> 1. Let bad banks fail; their depositors will gravitate toward healthier
> institutions.
>
> 2. Let inefficient firms fail; their customers and employees are
> needed by smaller, more nimble competitors. Zombie companies "tie
> up" labor and capital that is needed by newcomers.
>
> 3. Provide incentives for citizens to pay down debt; for 3 tax years,
> allow taxpayers to take an above-the-line deduction for every dollar
> of personal and mortgage debt that they pay down. This will create
> an incentive for households to de-leverage.
>
> 4. Suspend the enforcement of regulations --- labor, environmental,
> and economic --- for eight years. The regulatory environment in
> the United States, even if well-intentioned, is a barrier to entry
> for both foreign and domestic firms. Anything that increases the
> cost of doing business simply places America at a comparative disadvantage
> with other nations.