Tuesday, February 10, 2009
However, there is little to suggest that pre-privatization (temporary nationalization, then privatization) of troubled banks is the wrong approach, coupled with strict limitations on executive pay. That is why it is extremely disturbing to read this (which seems to confirm my fears):
In the end, Mr. Geithner largely prevailed in opposing tougher conditions on financial institutions that were sought by presidential aides, including David Axelrod, a senior adviser to the president, according to administration and Congressional officials.
Mr. Geithner, who will announce the broad outlines of the plan on Tuesday, successfully fought against more severe limits on executive pay for companies receiving government aid.
He resisted those who wanted to dictate how banks would spend their rescue money. And he prevailed over top administration aides who wanted to replace bank executives and wipe out shareholders at institutions receiving aid.
Because of the internal debate, some of the most contentious issues remain unresolved.
My homey Yves Smith gets the mic:
...[H]ere we have another scowling Treasury secretary, with a bit more hair than his predecessor, serving up the same fatally flawed approach as before: let's just throw money at the banks and hope they get better. This is tantamount to using antibiotics to treat gangrene. You waste good medicine and the progression of the rot threatens to kill the patient.
In fact, the state of affairs may be even worse that I thought. I had grumbled about the fact that the earlier leaks of this plan, like the MLEC and the TARP, seemed little more than a sketch, when its success or failure founder on key details.
The elephant in the room is how do we solve the heretofore insurmountable problem that the market price of the bad assets is well below what the banks are willing to sell them for? Paulson was unable to find a way to finesse the problem to get private investors to pick up even a cherry-picked portion of the junk in the MLEC incarnation; in TARP, he (presumably) planned to have Uncle Sam buy the paper at a price the banks would find acceptable but somehow camouflage the subsidy. He abandoned that course of action quickly, perhaps because the magnitude of the payment over market prices would be so large as to be politically explosive were the bagholder taxpayer ever to find out.
There is no evidence in the various elements leaked that this impediment has been overcome, which raises the real possibility of a Paulson-like seemingly bold advance followed by an equally hasty retreat. Inviting investors in with you on the buy side does not address the issue of the pricing gap, unless the deal with the investors is intended to help obfuscate the overpayment to the banks.
Note I have no objection to equity infusions if accompanied by sufficient ownership, controls, and a methodology for the goners, say taking over or putting into receivership. No private equity investor would put 20% into a company without getting lots of goodies, such as veto rights, antidilution provisions, a board seat, etc.
Now in fairness, Geithner may treat the banks more consistently than Paulson & Co. did. But that is cold cheer if the basic approach is still fatally flawed.
In fact, the present course is the worst of all possible worlds. AIG has demonstrated that a player deemed to by systemically important has a blank check. Not only did they get additional dough with few questions asked, they got improved terms on their initial loans. Let me stress, for those not familiar with the ways of deal-land: if you ask investors for money and maintain it is enough to achieve X (get you to break even, get your first product launched) and then come back not having done what you said you promised, the next round is on MUCH more punitive terms. Having a party that badly underestimated its needs come back, get more dough, and get relief on its inital loan is from an alternative reality.
In addition, AIG had given large numbers of staff very large retention bonuses. This is when the loans per employee are $1.4 million. Now the retention bonuses may very selectively be warranted, but they have been handed out like candy, and AIG is know for generous pay, so even if extra comp might have been necessary, query whether at this level. Given the less than rosy hiring conditions in the insurance industry, a lot of these payments appear flat out unnecessary and were thus effectively looting right under the government's nose.
Thus, the banks get funding on an open-ended basis, with no requirement to write down or sell the dreck. And even if some miraculously does get unloaded via this process, we wonder how far it will get to really cleaning up the banks. Ken Rogoff estimates US credit losses at $2.0 trillion; this plan appears likely to fall far short of that, which means we still have a lot of sick banks, just somewhat less so. (We'll need to wait to see how this unfolds, but since the banks have no reason to part with bad assets and take a writedown, this is the scenario they are trying to avoid, we still have crappy assets being funded at fictive prices, but this time by you and me rather than by Citigroup). The failure to clean up the banks and write down bad assets was a big contributor to Japan's lost decade.
This is just terrible. Much worse than the Nelson-Collins-Snowe-Lieberman "compromise." Much worse than any defect in the stimulus plan.
Really, we didn't need the Obama administration for this dreck. This is vintage Bush/Cheney.