The Toxic Assets Plan - Yes, It's a Subsidy 31 comments
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By James Kwak
According to The New York Times and The Wall Street Journal, the Treasury Department is set to announce its plan for troubled assets early next week. It will include three components. The details aren’t clear since these are anticipatory news stories, but it will be something like this (combining bits of information from the two stories):
- The FDIC will create a new entity to buy troubled loans, with the government contributing up to 80% of the capital and the remainder coming from the private sector. The Fed or the FDIC would then provide non-recourse loans* for up to 85% of the total funding (NYT), or guarantees against falling asset values (WSJ), which more or less amount to the same thing.
- Treasury will create multiple new investment funds to buy troubled securities, with Treasury contributing 50% of the capital and the rest coming from the private sector. It’s not clear from the news stories, but I think it’s highly likely that these funds will also benefit from either non-recourse loans or asset guarantees.
- The Term Asset-Backed Securities Loan Facility (TALF) is a program under which the Fed was already planning to buy up to $1 trillion of newly-issued, asset-backed securities** (backed by car loans, credit card receivables, mortgages, etc.). The idea was to stimulate new lending in these categories. This program will be expanded to allow the Fed to buy “legacy” assets - those issued prior to the crisis. This enables the Fed to buy toxic assets off of bank balance sheets.
Instead of coming up with one plan to buy troubled assets, it looks like the government has come up with three. (As Calculated Risk said, however, "More approaches doesn’t make a better plan” [emphasis in original].) For now, I think the concerns I expressed last month still hold. If we take as given that the government will only negotiate at arm’s length with the banks (meaning the banks can decide at what price they are willing to sell the assets), then the most important thing is for the plan to work. But it’s not clear if the degree of subsidy offered will be enough to close the gap between what investors are willing to pay and what banks are willing to sell at. Having multiple buyers and using cheap Fed financing will increase the willingness-to-pay for these assets, but we won’t know a priori if it will exceed the reserve price of the sellers.
In the best-case scenario: a) the government’s willingness to bear most of the risk encourages private investors to bid enough to get the banks to sell; b) the economy recovers and the assets increase in price from the prices paid; c) the investment funds pay back the Fed (which makes a small spread between the interest rate and the Fed’s low cost of money); and d) the government gets some of the upside through its capital investments. (I think the main purpose of that government capital is to deflect the criticism that all of the upside belongs to the private sector.) In the worst-case scenario, the market stays stuck because the banks have unrealistic reserve prices. Perhaps the idea is that, in that case, the TALF will allow the government to (over)pay whatever it takes to bail out the banks.
Most encouragingly, the headline in the Times was “Toxic Asset Plan Foresees Big Subsidies for Investors,” indicating that the mainstream media have figured out the game. (By contrast, the Times headline announcing the bank-friendly terms of the Capital Assistance Program was “Government Offers Details of Bank Stress Test.”) I may soon be out of a job. (Wait a sec, no one is paying me for this . . .)
* A non-recourse loan is made for a particular asset or set of assets. If the borrower fails to pay off the loan, the most the lender can get is the asset (he cannot go after the borrower’s other assets or income streams), so the borrower’s loss is capped at the amount he pays himself. Mortgage loans are non-recourse loans where the borrower’s loss is capped by his down payment.
** Technically, the Fed would loan money to financial institutions and take asset-backed securities as collateral. However, these would be non-recourse loans, so the financial institution could pay off the loan simply by ceding the collateral to the Fed. (It seems to me that because these are loans, if the assets appreciate in value, the financial institutions could choose to pay back the loans and take the collateral back, thereby getting all the upside, but I’m not certain about that.) The TALF will be capitalized by some money (10-20% of the total) coming from Treasury, which will absorb the first losses.
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Let's face it, the taxpayer is and will continue to step up and pump more equity into the banks until the bleeding stops and things turnaround. But at least in that case, the taxpayer gets the benefit of the eventual reflation of these dud assets. In Geithner's deal, he merely privatizes gains and socializes losses. Just horrible.
I wish you people will stop calling the government risk. The only one here at risck is the tax payer! It is not the governments money!
Yes , like a previous commentor , I voted for Obama . His " change " I now clearly see as rhetoric . This is truly about bailing out the wealthy bank stock + bond holders . The ordinary person will get crushed ! This has been planned , called " one world order ". The masses will be slaves . Wait till you see what the " carbon tax " will do to prices on heating fuel + energy ! One more " huge tax " on the masses .People , wake up !
(1) troubled banks / institutions to avoid huge MTM losses every quarter - since losses will be effectively ammortised over next 10 years
(2) reduce the need for troubled firms to seek additional capital and thus diluting shareholder value
(3) stabilise house prices by breaking the vicious cycle of MTM losses - reduced stock prices - additional capital mobilisation - reduced stock prices - negative market sentiment - lower house prices - MTM losses ....
(4) Government could earn money as insurance premium rather than spending trillions of tax payers money upfront without a clear correction plan from the troubled firms
(5) put an incentive for the troubled firms to clean up their own mess over next 10 years rather than simply bailing them out and transferring the risk entirely to the government
Difficult times sometimes need different solutions -- simply throwing money to fill a ballooning hole is not going to be effective - we need to stop the hole from growing and then shrink the hole in the least painful way for all people ....
Yes this is a gamble with public funds on very shady debt instruments that probably never should have been written. The banks always seem to win when it's them versus the taxpayer.
Yep. Why isn't buffet buying up this stuff for 1/2 it's "real" value.
Sad fact is we now live in a oligarchy. The rich are bailed out under they guise of "rescuing the economy". The only upside would be if the rich are then asked to pay for it by a 70% tax rate over $1M. I might put my pitchfork away if I'm not going to be asked to bail out some $10M net worth person that had an AIG CDS insured wealth management fund at Goldman.
Yep. They will bid as high as they can get away with. Buy calls and equity in Citibank, then proceed to tunnel 100's of billions of taxpayer money in to Citibank using the 3% investment. Then they will let the private/public SIV burn, and end up with all the taxpayer cash.
all they have to do is "rescind MARK TO MKT" and THEY WE'LL HAVE "SICK ASSETS" LIKE MOST LOCAL BANKS...BUT THEY WILL NOT BE IN IMMEDIATE DANGER OF GOING BANKRUPT...and THE TAXPAYER WILL NOT NEED TO BAIL THEM OUT...
THE TRILLION WOULD BE BETTER SPENT IN A "GIANT TAX REFUND" TO REFLATE THE "CONSUMER ECONOMY" not paydown the "big financial banks" WHO ARE THE ONLY ONES IN IMMEDIATE DANGER OF BANKRUPTCY...
read the details of my "mark to mkt" post below to see more detail!
...Here's how to get started FIXING THE ECONOMY QUICKLY with REALITY POTENTIAL!
PART I
1.Rescind “Mark to Market” accounting. Mark to Market Accounting is mostly used by BIG INVESTMENT BANKS TO VALUE the DERIVATIVE PORTION of their ASSETS (like CDO'S, etc.) This means this kind of asset IN BAD TIMES is highly DELEVERAGED and might be worth .10 cents on the dollar in the speculating global financial markets. However, in reality the underlying home mortgage might be worth .60 cents on the dollar in the REAL WORLD MARKET of people actually pricing a home purchase. So, rescinding MARK TO MARKET ACCOUNTING would immediately allow big banks to GREATLY INCREASE THEIR ASSET VALUES on their books. The result is THESE BIG BANKS would no longer be in DESPERATE FINANCIAL CIRCUMSTANCES...and WOULD NOT NEED MUCH GOVERNMENT/TAXPAYER ASSISTANCE.
These LARGE INVESTMENT BANKS would SURPRISINGLY prefer to STAY WITH “MARK TO MARKET” ACCOUNTING... WHY? Because the government has promised not to “let them go under” and so they get “TENS OF BILLIONS” in YOUR TAX DOLLARS...because of an “accounting oversight!” THEY ONLY NEED MONEY BECAUSE OF THIS RULE!
BUT WHY WOULD THEY PREFER TO HAVE “MARK TO MARKET” RULES CONTINUE. Because if THEIR ASSETS ARE IMMEDIATELY revalued upward, those assets would be jelled to MORE STABLE REAL WORLD VALUES in a one-time accounting rule change. Now, these big investment banks like to gamble (like with derivatives, etc. on the global mkts) and IF THEIR ASSET VALUES WERE LESS FLUID...THEY WOULD NOT BE ABLE TO MAKE “HUGE GAINS” in the event of a sustained recovery because of LEVERAGED SPECULATION in the FUTURES MKTS.
So, they want to GO BACK TO THE CRAPS TABLES, AND THE GOV POLICIES ARE FUNDING THEM SO THAT THEY CAN DO THIS.
On the other hand, if their asset values are “less fluid” by rescinding “mark to market” accounting their assets will go up and they will be out of financial trouble for NOW...but as Real Estate declines and foreclosures continue (MOSTLY DUE TO JOB LOSS), those SAME ASSET VALUES will GO DOWN (but slowly) making them ultimately a LESS ATTRACTIVE INVESTMENT...as they will not be attractive to speculators on the derivatives markets, because THEIR ASSETS ARE NOT VERY FLUID. So, what's really at stake here IS NOT BIG INVESTMENT BANKS GOING OUT OF BUSINESS ...but Washington worried about declines in the STOCK PRICES of these BIG INSTITUTIONS (remember the gov can keep them alive even with “mark to mkt,” so, obviously they can keep them alive a couple years down the road, as their stock prices continue to deteriorate...
The banks prefer to have the chance of RETURNING TO HIGHLY LEVERAGED BIG TIME GAINS IN THE THE FUTURES MKTS. Meaning they want to GO BACK TO BUBBLE PROFITS!
Rescinding “mark to mkt” would force them to only have the potential to make modest conservative profits, and they and their buddies don't want that. They got to much greed for that!
Just, Washington protecting their “buddies” on Wall St. is how this looks to me. Not, everyone in Washington, though. Look at who supports “mark to marketing” and who is AGAINST IT. Those against “mark to market” and in favor of rescinding it ARE THE GOOD GUYS in my opinion!
PART II
OK, supposing we RESCIND “MARK TO MARKET!” WHAT HAPPENS?
Well, the first thing THE BIG INVESTMENT FINANCIAL INSTITUTIONS suddenly are not in SUCH BAD FINANCIAL SHAPE. THEY NO LONGER NEED MUCH GOVERNMENT ASSISTANCE!
Now, those HUNDREDS OF BILLIONS OF TAXPAYER DOLLARS CAN “GO BACK TO THE TAXPAYER” (NOT WALL ST.) TO FUND A RECOVERY PLAN WITH SOME REAL POTENTIAL AND IMMEDIATE RELIEF for the INDIVIDUAL TAXPAYER, those who have lost their jobs, and those who are in danger of losing their jobs.
HERE'S HOW IT WOULD GO:
AN IMMEDIATE LARGE TAX REFUND FOR CALENDAR YEAR 2008 TO ALL INDIVIDUALS IN THE NEIGHBORHOOD OF 50%!!! (LADDERED A BIT MORE TO THOSE AT LOWER INCOME LEVELS)
BUT: THE TAX REFUND WOULD BE GIVEN IN THE FORM OF TREASURY COUPONS with specific purchase designations and TIME LIMITS. These refunds would not be able to be used for SAVINGS, etc.
for example: a coupon might be good for 20% credit toward the purchase of a new car, and/or have the option of being used to pay down your Credit Cards. You would not be able to pay off your Credit Cards in a lump sum, but might be allowed to double your minimum monthly payment. You could also use some to pay down your mortgage, and this would be variable depending on whether you had, for example, lost your job. The idea is the Income Tax Refund Coupons HAVE TO BE USED IN CERTAIN WAYS WITHIN CERTAIN PERIODS OF TIME. The details to do such a thing are not very complicated (I could do it in less that a week, so I'm sure the Gov can.)
Essentially, this results in a HUGE IMMEDIATE INFLOW OF CASH INTO ALMOST ALL BIZ AND SECTORS OF THE ECONOMY BY ALMOST ALL TAXPAYERS, THEREBY SHORING UP MOST OF THE CONSUMER ECONOMY TO FURTHER STEM DOWNSIZING AND JOBLOSS IN MOST BUSINESSES AND SECTORS.
THIS IS NOT “PIE IN THE SKY” INFRASTRUCTURE PLANS that require MUCH STUDY, AND RETRAINING OF THE WORKFORCE.
WE NEED QUICK HELP...THE BOAT OF THE ECONOMY IS SINKING FAST...WE CAN'T SPEND OUT TIME/MONEY REDESIGNING THE NEXT BOAT...THE ONE “WE ARE IN” IS SINKING AND TAKING ON MORE WATER AS WE DEBATE, ETC.!!!
So, forget Wall St. and THINK ABOUT “MAINSTREET!” ...AND NOW!
The big financials are GOING TO LOSE ANYWAY, MARK TO MARKET OR NOT, THE WORLD ECONOMY WILL CONTINUE TO DECLINE, AS WELL AS REAL ESTATE AND JOB LOSS, THE DAYS OF THE BIG FINANCIALS AND HIGH PROFIT SPECULATION ON DERIVATIVES IS FINISHED, OVER, KAPUT, THEIR ASSETS WILL ONLY CONTINUALLY DECLINE – QUICKLY UNDER “MARK TO MKT” RULES OR SLOWLY IF YOU RESCIND “MARK TO MKT!'
... KEEP THEM ALIVE OF COURSE, but DON'T STAKE THEM FOR MORE GAMBLING!
BUT, IF WE RESCIND “MARK TO MKT” THE ECONOMY HAS SOME CHANCE TO START COMING BACK FOR REAL BY FUNDING THE CONSUMER, INSTEAD OF WALL ST!
FLASHROB
Do we want the government owning a huge part of the secutized loan market? Don't you think that you would be in danger of every senator and congressman now coming under pressure to save the home-owners, credit-card holders, loan-holders in his/her district to get a break on their liabilities; because after all the taxpayer now "owns" all of these contracts. This would ensure that this paper truly becomes worthless and would be the mpother of all messes.
The RTC worked because the instutions involved were a much smaller peice of the economy. To follow your plan, IMHO, is asking to have a France type government actor and would be under enormous pressure. We will then long for the efficient but sometimes cold private market, but it will not be easy to put the genie back in the bottle.
You seem very fired-up about things. A lot of people are probably like me and are going to totally skip over what you post when they see all of the CAPS you put into the text.
Next round, maybe try pimping it down a notch or two, bro.
> jack