The Treasury's Bail-Out Plan Explained
The Treasury's bank strategy is twofold. One, get enough capital into the 19 biggest banks so everyone believes each can withstand a really bad recession. Two, get toxic assets off their books so banks will pick up the pace of new lending, and savvy big-money investors will put money into the banks and help achieve the first objective.
The unfortunately named "stress test" -- which conjured up images of Citigroup collapsing on a treadmill -- was meant to be a confidence builder, though announcing it seems instead to have magnified doubts and uncertainty about the banks. The notion is to figure out by the end of April how much capital cushion each of the 19 big banks needs to survive a bad recession (that's the "stress test") and then give those that need more capital six months, until Oct. 31, to raise it privately or take a bigger taxpayer investment on different terms than former Treasury Secretary Henry Paulson offered. Until then, the Federal Deposit Insurance Corp. will guarantee bank debt so no one need worry about lending to them, or so the Treasury hopes. None of the 19 banks will flunk the test; the only question is which will need taxpayer capital in the fall.
Let's think this through.
The Treasury plan wants the individual banks to act privately before more taxpayer money comes into the equation. On the pro side, this will prevent the use of more taxpayer money if it's successful. On the bad side, it takes time to raise capital during which a number of bad things could happen. In addition, who would invest money in these banks? While the stock prices for most are incredibly low, they are incredibly low for a very important reason: they're not worth that much. Finally, I think the third quietly implied option of this part of the plan is there will be mergers between weak and strong banks of one sort or another in reaction to the "stress test".
The last piece of the Geithner plan comes soon: Buying toxic loans and securities, mostly linked to real estate, from the banks and others. One challenge is putting a fair price on them. The Paulson Treasury spent months trying to fashion auctions in which the government would buy these assets. It never bought any. The Geithner Treasury decided that approach wouldn't work. What's more, it hasn't nearly enough taxpayer money to buy enough of the assets to make a difference.So the plan is to form joint ventures between the Fed and money managers like Pimco or BlackRock. The Treasury kicks in, say, $1 for every $1 the private guys put in. The private investors, not the government, decide what securities to buy from the $1 trillion or so in securities linked to real estate or consumer loans. The private guys decide what price to pay. That's their business. Taxpayers and the investors would share the profits, if any. If the Fed lends to these ventures, they'll be able to buy more securities and pay more for them.
A separate set of joint ventures will shop among the $1 trillion or so in toxic loans on bank books. This effort will be leveraged by FDIC lending. The hope is that some banks will make themselves more attractive to private investors by selling toxic assets to the new joint ventures, and thus ease both parts of the banking problem simultaneously.
The central problem with this plan is the central problem with all plans dealing with the bad assets: will the banks be willing to sell and at what price? There is no guarantee anyone will be willing to sell or buy at a rate the market would like. I think this plan has an OK chance of working, but that is hardly a ringing endorsement.
I still think the best idea we've had so far is to make one big bank out of the remaining taxpayer funds, use that bank to buy the good assets from the troubled institutions and then let the banks keep the bad assets to manage. That still makes the most sense to me, largely because it only involves the creation of one structure which would be easier to monitor.
While this is not the best plan, we're left with a question of "what else can be done?" While there are still calls for nationalization of the banks, the current problems with the TARP plan -- that is, the increasing number of politically motivated bailouts -- indicates fears the process will be politicized are well founded. In addition, as the recent $10.7 billion loss from the sale if IndyMac indicates, nationalization is hardly an option free from trouble.
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You could do us all a favor by challenging all your readers & professionals to come up with an easy to understand analogy or "chart" that makes it easy for folks to understand both the numbers and the interest we are paying on that debt! Once folks understand that, I believe we will be demanding answers from CONGER$$ and all the other folks "dragging their feet" instead of helping solve our MANY PROBLEM$.
More of the same! Too bad the Sec. comes from the money hungry banking groupies. America is bleeding and we are told to try Hedging it again. Like run to the 401k's to save for retirement. Trusting a pawn for the best of plans doesn't get it. Banks getting bailed out from toxic products they created is really rich. I hope someone at the helm, stops this disaster, and quick.
See Jim Pivonka's Profile
To say that putting a fair price on toxic loans and securities is difficult is a great understatement. Banks are reported to be signalling that they want 60% of some "face" value far in excess of the "market" value being used in mark to market accounting for these problem assets.
Others reportedly think 30% would be a more realistic figure, from the point of view of investors - but that could change if Treasury uses taxpayer money to guarantee returns to investors.
My concern is that these assets are mostly contained in CDO's which have have lost value because the value they had been assigned was illusory in the first place. The origination value was a product of fraud, bad lending practices, and mathematical error by the financial institutions which originated them.
Fraud and poor documentation:
http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2007/12/09/IN5BTNJ2V.DTL
and
http://www.huffingtonpost.com/william-k-black/the-two-documents-everyon_b_169813.html
The original valuation depended upon a now discredited mathematical algorithm, which created an illusion that uncertainty in the valuation of these assets had been eliminated. Neither the base value assigned by the invalid algorithm nor the additional value contributed by the illusion that uncertainty had been eliminated can be restored.
http://www.portfolio.com/business-news/2009/03/03/Formula-That-Killed-Wall-Street?PMID=alsoin/A-Mathematical-Demise
The value of these assets is permanently impaired. It will not support Treasury's plan.
Ok, Jim,
How much would you give me for a counterfeit $20 bill someone unknowingly gave me as a birthday gift?
So what is the intrinsic value of a fraudulent instrument?
How about the market value? How about the market value of a counterfeit twenty?
This isn't very complex unless you want it to be.
You're right.
Any figure is questionable.
Corporate secrecy rules .
TONIGHT, put all the counterparties in a room, lock the door and let them out when they tell you THEY WOULD ALL SETTLE FOR 18.3 percent.
Or whatever they would tell you.
THAT job is done.
Get sustainable credit moving again.
Do NOT resort to the financial services INDUSTRY that brought us this mess.
First, reversing ALL of the financial deregulation since Jimmy Carter signed his own 1980 version of this fiasco.
Then, implement full monetary reform by putting all bankers on a 100 percent reserve or capitalization basis.
Put the bankers back to banking.
Let them invest the money of their depositors.
Let them risk the money of their depositors.
That is what you call self-regulation.
Do NOT put them in charge of getting us out of the hole we're in.
Finally, restore the money-creation powers to the people acting through their Secretary of Treasury.
We need to recognize that the debt-money system of the private federal reserve bankers is the cause of this problem.
We need to replace the debt-money system.
The moneyed corporatocracy would be well satisfied if the DOW went up to 20000 and unemployment was at 20 percent.
When they had the power to create money, they used that power to make more money.
If that power is restored to the people I am confident that it will be used to restore employment and economic stability.
Monetary Transformation Now.
Why are they not nationalizing banks and breaking up AIG. The whole thing is toxic. Corruption seems to be oozing out everywhere. Does anyone really believe the bailout is going to work.
There will be more. Way to go Ben! If pouring gasoline on the fire doesn’t work, try nitroglycerine! Some $1.2 trillion in new agency and bond purchases, including previously untoucheable long term treasury bonds. Goodbye dollar, hello 4% home mortgage rates. Just tack on another 3% to the 2010 inflation rate. The bond market had its biggest up day in history, gold soared $50, the euro gapped up 4%, and commodity prices roared. Citigroup (C) has quadrupled from $1 to $4 since last week, while General Electric (GE) has doubled from $5 to $10! Just when you think this guy has thrown in the kitchen sink, he shows up another truckload of kitchen sinks. I guess this is what a 1590 SAT score gets you. www.madhedgefundtrader.com.
See Jim Pivonka's Profile
Trader, you have the oddest way of reporting good news. Very interesting.
It's almost as if you thought an overvalued dollar was a good thing. And that policies which reduced the over valuation of the dollar were not good policies.
But the overvalued dollar is accountable for out terrible balance of trade and payments deficits. It is the cause of much of our difficulty in exporting US produced goods to our trading partners.
The overvalued dollar has resulted in offshoring of countless American jobs to other countries, and the transfer of production facilities and technology from the US to other countries. The transfer of US originated production technology to people who should be our customers, not our suppliers, is a permanent loss. It is probably the worst effect of the overvaluation of the US dollar.
Reducing the overvaluation has so many benefits - how can you be negative about it? Well, yes, it will increase the cost of imported fuels - but we are past letting that single effect run both our foreign and economic policies, are we not?
If the American taxpayers are going to take the losses for banker's malfeasance, then the corporate tax rate for these companies should be 90% until those losses are recovered. The regulations must be tightened.
Oh, and just why is it that Glass-Steagall Act has not been reinstated by Congress? Hmmmm....???
Our banking system, or a large portion of it, has been nationalized. It is just that the lunatics still continue to run the asylum. The doctors are the ones taking the medication.
A ponzi scheme is a fraud. Bankers' malfeasance is a euphanism for a ponzi scheme. They should be jailed along with their accomplices.
Looks like Wall Street wins with the Geithner plan.
Hale::
"I still think the best idea we've had so far is to make one big bank out of the remaining taxpayer funds,...."
As Seth Meyers might say ...... "REALLY ??".
Let's STOP right there.
Just hold it for a minute.
If we're going to create a bank using American taxpayer funds, how about we call it the Bank of the United States Taxpayers?
A constant reminder of how we got started -(BUST)
Now, rather than using the taxpayer bank to figure out what all that toxic crap is worth, we take the other path.
We use the BUST for the purpose that is hypothetically behind the entire bailout scenario, to wit: TO PUT CAPITAL BACK INTO THE MARKETPLACE.
Treasury issue of debt-free money. We do not BORROW money from anybody.
We CREATE our own money, like the Constitution gives us the power to do.
The taxpayers. It's OUR money.
In the meantime, if you have heard the word "counterparties", you get them all in one room, fill them up with coffee, lock the door and let them out when they have a figure.
You know the figure - it's called what is all this sh*t worth?
So we solve two problems.
And the taxpayers DO NOT go into debt for several $$TRILLION$$.
OK. so back to your idea........
I've thought this same thing Joe. Why do we need a private banking system? Is it because a govt bank would be a poor substitute (too restrictive) or because it would be seen as putting us on the path of socialism (why that's bad I haven't figured out. Especially when I look at Canada, France, Germany, Sweden, Norway, Denmark) or because it would break the stranglehold the banking industry has on the American people?
I read Krugman's piece and he makes a good point. We're going to pay book value or better for assets when we should be paying mark to market. If private investors are willing to pay 50 cents the taxpayer foots the other 50 cents. I'm sure alot of these assets are actually worth 50 cents on the dollar over the long haul, but that means we taxpayers are subsidizing private investors and failed institutions. That doesn't sound like capitalism to me.
I'm more in favor of a newly created Bank of the U.S. of A.. We print the money it needs to unblock the lines of credit and it starts lending. As for those zombie banks they go out of business and their investors take the shave, not the American taxpayer.
Unfortunately, just how many Federal Reserve Notes are out their that would become worthless? As a commenter just so eloquently put it (sorry, I forgot your handle), a "Federal Reserve" note is a "Promissory" note. Yes, every dollar in your pocket is an I.O.U. to... The Federal Reserve.
And, just to add salt to the wound that is our privatized monetary system, all those dollars held by foreign countries? Well, you are promised to repay those dollars be giving real wealth (as in, land, manufactured products, etc...) to said foreign countries. And you still have to pay back those "Federal Reserve" (Promissory) Notes to?
You are paying The Fed a dollar plus printing costs plus interest in order for The Fed to make a mark in a ledger book and order The Treasury Department to print the dollars. Congratulation.
First, thanks for that comment.
On the important private banking question first.
The proposal I am making represents probably the only thing that will save private banking, certainly as most of US know what banking means.
You make deposits, you take out loans, buy cars, mortgages and carry on your banking business. That is banking.
We absolutely need to preserve the most private form of banking for one good reason - the bankers are working with our money.
The other function of the nation's money system is that of money-creation.
Providing a system of money as a means of exchange in the economy, including new money needed to support economic growth, is an obviously sovereign action of the government of the people.
Such a plan was backed by both progressive and conservative economists when originally proposed.
A government-issue system of debt-free money is the opposite of socialism, because the MEANS of PRODUCTION, which are the banks themselves and their deposits, would be totally private. With very little regulation necessary.
You mention the stranglehold that the banks have on the people.
When you give the power to the banks to create all new money as LOANS, then there is no other possibility.
When you hear Geithners and Summers say they want to preserve the private banking system, what they really mean is the debt-money system of the federal reserve.
Greenbacks !
If Obama truly wants accountability and transparency then return of the currency to the people requires the elimination of the FED. Until then We the People is a joke.
When a corporation becomes too big to fail the consequences of failure are mystified by the pundits. Fear is fear whether it comes from a 9/11 or an AIG collapse. We can deal with it. Humanity will survive.
This whole financial adventure feels like yet another transfer of wealth scheme. How to handle the greed heads - make their wealth worthless to them.
And who are the advisers to fix this? Some of the very same people who created this transfer of wealth situation. The foxes are still guarding the hen house.
The financial issues facing us are actually as simple as greed. We all know it when we see it. The greedy tell us it is very complex and requires very talented people who understand the complexity to fix it.
Nope, not complex. Compassion, like greed, is very simple and easily known. Short selling, CDSs, CDOs, and the like are simply based on the morality of greed and create nothing but disaster.
Let the corporations fail. Snap the link between the privatization of profit and the socialization of debt. Prosecute all involved. Send a lasting message.
Compassion, get people jobs, and return the wealth to the people who actually own it. Turn the multi-million dollar estates into parks and financial holocaust museums.
Amen to that, AP.
Maybe I am simple,but I find it hard to believe that all of these bankers and wall st. executives were within the law. If what they did do was considered legal we have huge problems, if what they did was outside of the law why are there no indictments? Just asking?
I love how when the treasury's plans are explained there are pros and cons, but when your plan is explained - it's only con is that its not the best plan?
How is this helping me? This website puts Krugman's quote on the front page as if he is the only one with original ideas. Showing only the point of view that supports what you all already believe is dangerous and is no different from the people over at FOX.
Bonddad, thank you for explaiiining this. In the end, the banks will get the good and the taxpayers will get the bad. This is a story that is getting "old" to say the least.
Your comment is interesting. """""In addition, as the recent $10.7 billion loss from the sale if IndyMac indicates, nationalization is hardly an option free from trouble."""""
The bankers did the deed and do not have to pay the price. They should have failed and let the citizens get the good and the bankers get the bad.
Shame.
Is there a difference between knowingly paying with a phony $20 and unknowingly paying.
Follow the cash. In the banks that have failed what happened to the personal moneys of the bankers?
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