TALF Expansion: The Logical Extension of Quantitative Easing

by: Economic Disconnect

All I can say is that Friday is upon us. Usually that is enough to get me ready to enter "weekend" mode but with options expiration today and more news coming out every single minute I think this weekend may be a heavy reading exercise.

Reason Number 5,987 Why the Government Should be in the Bailout Business
I have not spent any time on the AIG bonus drama due to two reasons:

  1. The bonus situation is just a ruse to draw attention away from the real issues
  2. You should not let number 1 happen

That said, I will offer my thoughts on the issue. The "outrage" expressed by the government over the paid bonuses is fake and hippo critical. Remember Senator Charles Shumer in a classic YouTube video saying that the American people did not care about the pork in the stimulus bill because it was such a small percentage of the spending? Well, the bonus percentage of the AIG bailout money is just as minuscule. Cognitive dissonance anyone?

My main issue with the whole thing is that all of this was easy to see coming down the road. This is what some people call "moral hazard". It is a thorny briar that bleeds you slowly and results in all kinds of exceptions, one time rules, and logical contortions that are silly and harmful. Consider:

  • If AIG is "too big to fail" (I am in NO way convinced of such a thing) then the firm is saved at the bare minimum of expense
  • This means reduced compensation across the board
  • Workers may not like it, but that is what happens when you get in bed with Uncle Sam, he is a dirty old man

Now as far as "contract law" and paying out the bonuses because they were guaranteed, tough. It is bad enough that AIG has to be saved (again, I am not convinced) but to also have to preserve the status quo at any expense to the taxpayer is just stupid.

The best lesson and the lesson that would have the most effect on behavior going forward would have been the liquidation of AIG. We cannot have that, so at least the employees, especially the higher ups, should have to do "time" as it is with the bare minimum of pay. A terrible mess to be sure, but this is what happens with government intervention.

TALF Expansion is the Logical Extension of Quantitative Easing
Wednesday the Fed moved into "QE" mode. Thursday another arm of Fed money flooding was detailed, and I must say this is even more disturbing than the move to buy our own debt with money created by magic. Is that possible? It sure is.

From the Fed Thursday (via Calculated Risk):

The Federal Reserve Board on Thursday announced that the set of eligible collateral for loans extended by the Term Asset-Backed Securities Loan Facility (TALF) is being expanded to include four additional categories of asset-backed securities (ABS):

ABS backed by mortgage servicing advances

ABS backed by loans or leases relating to business equipment

ABS backed by leases of vehicle fleets

ABS backed by floorplan loans

Mortgage servicing advances are loans extended by residential mortgage servicers to cover payments missed by homeowners. Accepting ABS backed by mortgage servicing advances should improve the servicers' ability to work with homeowners to prevent avoidable foreclosures. The additional new ABS categories complement the consumer and small business loan categories that were already eligible--ABS backed by auto loans (including auto floorplan loans), credit cards loans, student loans, and SBA-guaranteed small business loans.

I told you it could get worse!

Some of these items I had no idea even existed, call it financial innovation. I must say that a mortgage servicing advance that covers payments missed by homeowners sounds like an awesome area to accept as Treasury collateral while foreclosures are running at all time records! I am sure they are just mis-priced at this point in time.

I had no idea what a "floor plan loan" was, and luckily a commentator on CR pointed to this site:

• Dealers rely on floorplan financing to buy vehicles from the manufacturers. The average floorplan loan for a dealer is $ 4.9 million, and dealers collectively hold approximately $100 billion in floorplanned inventory.

• These floorplan loans are obtained from a variety of sources: captive finance companies, national banks, regional banks, credit unions, etc.

• In order to extend this credit, the floorplan lenders need capital, and they obtain it from a variety of sources as well.

• One key source of capital for the floorplan lenders is the floorplan securitization market. To access capital through this market, floorplan lenders bundle dealer floorplan loans together into what are called asset-backed securities (or ABSs) and then sell these ABSs to institutional investors.

I would point you towards the many stories that cover the virtual ocean of unsold cars at ports around the country to get an idea of what this means.

Not content to just print money and buy Treasuries, the Fed seems hellbent on making sure that the collateral backing up the treasury market is polluted and poisoned. I would argue yet again that when Ben Bernanke went on "60 minutes" last Sunday and proclaimed a probable recovery at year's end he was disingenuous at best, and outright lying at worst.

If I was trying to make a plan to destroy the US currency, credibility, and ability to place enormous debt sales I am not sure I would have come up with a plan as scorched earth as this one. It is impressive in both scope and ability to pick out the worst of the worst for treasury swapping.

While everyone is yelling at the TV and newspapers about the AIG bonuses and wonder what in the world QE is, this little tidbit packs a punch more powerful than both combined many times over. The Fed has opened the treasury to any and all collateral, becoming the master of all things subprime. I am sure the damage will be "contained".