Geithner's Five Big Misconceptions
Tim Geithner has finally revealed his plan to fix the banking system and economy. Paul Krugman, James Galbraith, and others have already trashed it.
Why?
In short, because the plan is likely to be yet another massive, ineffective gift to banks and Wall Street. Taxpayers, of course, will take the hit.
Why does Tim Geithner keep repackaging the same trash-asset-removal plan that he has been trying to get approved since last fall?
In my opinion, because Tim Geithner formed his view of this crisis last fall, while sitting across the table from his constituents at the New York Fed: The CEOs of the big Wall Street firms. He views the crisis the same way Wall Street does--as a temporary liquidity problem--and his plans to fix it are designed with the best interests of Wall Street in mind.
If Geithner's plan to fix the banks would also fix the economy, this would be tolerable. But no smart economist we know of thinks that it will.
I think Geithner is suffering from five fundamental misconceptions about what is wrong with the economy. Here they are:
The trouble with the economy is that the banks aren't lending. The reality: The economy is in trouble because American consumers and businesses took on way too much debt and are now collapsing under the weight of it. As consumers retrench, companies that sell to them are retrenching, thus exacerbating the problem. The banks, meanwhile, are lending. They just aren't lending as much as they used to. Also the shadow banking system (securitization markets), which actually provided more funding to the economy than the banks, has collapsed.
The banks aren't lending because their balance sheets are loaded with "bad assets" that the market has temporarily mispriced. The reality: The banks aren't lending (much) because they have decided to stop making loans to people and companies who can't pay them back. And because the banks are scared that future writedowns on their old loans will lead to future losses that will wipe out their equity.
Bad assets are only "bad" because the market doesn't understand how much they are really worth. The reality: The bad assets are bad because they are worth less than the banks say they are. House prices have dropped by nearly 30% nationwide. That has created something in the neighborhood of $5+ trillion of losses in residential real estate alone (off a peak market value of housing about $20+ trillion). The banks don't want to take their share of those losses because doing so will wipe them out. So they, and Geithner, are doing everything they can to pawn the losses off on the taxpayer.
Once we get the "bad assets" off bank balance sheets, the banks will start lending again. The reality: The banks will remain cautious about lending, because the housing market and economy are still deteriorating. So they'll sit there and say they are lending while waiting for the economy to bottom.
Once the banks start lending, the economy will recover. The reality: American consumers still have debt coming out of their ears, and they'll be working it off for years. House prices are still falling. Retirement savings have been crushed. Americans need to increase their savings rate from today's 5% (a vast improvement from the 0% rate of two years ago) to the 10% long-term average. Consumers don't have room to take on more debt, even if the banks are willing to give it to them.
These two charts from Ned Davis illustrate the real problem: An explosion of debt relative to GDP. The first is Nonfinancial Debt To GDP. The second is Total Debt To GDP. Click here for charts >
In Geithner's plan, this debt won't disappear. It will just be passed from banks to taxpayers, where it will sit until the government finally admits that a major portion of it will never be paid back.
See Also: Krugman Trashes Geithner Plan And Obama
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Obama SHOULD BE FOCUSED ON: A CONSUMMER SPENDING RECOVERY - AND QUICKLY!
1. we're losing WELL OVER 500,000 jobs per month - and not Walmart jobs.
...the average Credit Card User probably charges over $1000. per month...do the arithmetic...that's 1/2 billion dollars LESS PER MONTH to the Credit Card companies in lost revs. Add to that, good odds of many of these losing their jobs defaulting and declaring bankruptcy (I would estimate most of these people have multiple credit cards with 10,000 or more owed...NOW you have 5 BILLION MORE IN LOSSES PER MONTH to the Credit Card companies and BANKING PARTNERS....)
2. All Obama's plans to FLOOD THE BANKS WITH CREDIT LIQUIDITY mean little...AS THESE CONSUMERS ARE TAPPED OUT CREDIT-WISE and WILL NOT BE ABLE TO TAKE ADVANTAGE OF THE INCREASED LOW RATE CREDIT. No, good job, equals LOSS OF CREDIT!
3. Freeing up credit liquidity ONLY KEEPS THE FEW DEEMED CREDIT WORTHY...mostly small biz...to keep operating...the PROBLEM IS: DECLINING CUSTOMERS...so the small biz can stay open...but their fighting a CONTINUALLY DECLINING AND LOSING BATTLE...as less biz comes in from consumers who NO LONGER HAVE CREDIT....
Obama is much too focused on plans that DON'T ADDRESS IMMEDIATE JOB LOSS...
I suggest an immediate 50% 2008 tax refund to ALL INDIVIDUALS to JUMPSTART THE CONSUMER ECONOMY...thereby forestalling further JOB LOSSES...
Obama should be focused on PROPPING UP THE CONSUMER not wasting TAX DOLLARS ON BIG BANKS...
flashrob
essentially the ERROR of the Governments Plans to stimulate the economy are EMPLOYING "SUPPLY SIDE ECONOMIC THEORY" instead of EMPLOYING "DEMAND SIDE ECONOMIC PRINCIPLES!"
here's the solution with a "bit of analysis!"
http://seekingalpha.com/account/user_comments
flashrob
Sounds good, but articles like this are useless without some alternative prescription, which I presume is bank nationalization. In terms of the authors diagnosis, it would be useful to know how that would play out.
Perhaps the bad asset consolidation authority can take over the personal debts of all the credit card holders who have outspent their means of repayment. Then they could go out and spend again . . . at least until the cycle repeats itself again.
Einstein said:
"The problems that exist in the world, cannot be solved by the same level of thinking that created them..!"
The problems on Wall street are not causing the economic problem- it is the silent rot that has been taking place in the economy that has caused the problems on Wall Street. Average wages haven't gone up in 8 years, wealth has been concentrated in fewer hands and the rot has been painted over with debt. There has never been a period like the last 16 years for money to make more money. Geithner is part of that crony group and therefore is taking more steps to perpetuate the system (which worked for his buddies) rather than fundamental reform.
No, the reality is that no one is securitizing loans any longer because no one feels safe buying such securities. Without securitization, students like myself will have a much greater difficulty getting loans. Whether you like it or not these banks are inextricably linked to the health of our economy. If you don't like it, then start bringing regulation ideas to the table once our economy has been stabilized.
jinsei, you need to wake up and smell the roses. The problem with student loans is not how to get them but that they are necessary at all. We need education reform that makes higher education either free or affordable to everyone.
Both good points. We either make it a tax payer cost or make it more affordable for the students to handle. Huge concerns in both options and the potential unseen effects of laying this on tax payers are many. Will individuals still give their fortunes to universities if they become government entities?
There are so many economists in this country with absolute knowledge of how we came to this problem and how we can get out of it, I'm surprised we ever have any economic problems.
EVERYONE now knows how it happened and what to do. Glad you have the time and expertise.
Personally, I am working as much as I can. I am not spending on anything big (i.e.: house, cars, toys). I am not borrowing with a credit card. I am refinancing my home at a low rate and paying it off as soon as possible. And I am saving what ever else is left in a savings account...
I'm not an economist, but I know a penny saved is a penny earned.
Economists can stop greed about as effectively as astronomers can keep supernovae from exploding.
At least you and I and a couple of other people know how to do it right.
I agree that people are mistaken about what the problem is, so the solution they come up with isn't going to work.
I see the problem as having these three parts:
1. Some banks and companies have gotten so large that they allegedly are "too big to fail". So, now they can blackmail the government. They shouldn't have been allowed to get this big. Once a company gets to big to fail, it should be split up into different entities. Anti-trust laws should be strictly enforced.
2. There was deregulation that allowed banks and other institutions to offer credit and to hold assets that was too risky. Government oversight over banks and other institutions needs to be much stricter. New regulations are needed to protect people's money.
3. Part of the reason for #1 and #2 above is that politicians have been overly influenced by large corporate interests. Lobbyists and campaign contributions have corrupted our "democracy". Politicians respond more to what campaign contributors want than to what the voters want. We need campaign finance reform and ethics laws for politicians and lobbyists to decrease the amount of influence that money can buy.
If these issues aren't addressed, and instead short-term bail-out and/or nationalization strategies are sought instead, we won't have addressed what brought this about and it will keep happening.
I agree. The regulations that have been removed in recent decades were originally in place for very good reasons.
You have forgotten to mention problem 0:
0. Everybody in the US tries to get rich quickly. Since most people don't know how it's done right they are trying to use credit cards, mortgages and real estate speculation with their own home for that purpose.
Needless to say, none of the "techniques" mentioned in 0 lead to riches, they are pretty effective at reducing the unlucky ones to rags, though.
As "intuitively friendly" as your arguments may be, Henry, this time I believe you've missed it.
The central problem here is something that still isn't being called by its name: "securities fraud." Trillions of dollars worth of securities issued, some of them in what is nothing more than a "hall of mirrors" gambling game. Fraudulent credit-ratings issued against them. And yet... the United States Government not only dismantled its own protective laws during this time, but enacted new ones that actually facilitated what was done.
I suspect that this is what will "come to a head" during next week's international conference. It's one thing to play a nice game of cards ... quite another to say (do you remember the old M&M's commercials?) "these cards are mah-ked!" In this case, I think, "the dirty dealer (that would be us...) DID 'mean harm.' "
Since "securities" are all but secure and that's well documented in the legal disclaimers that come with them, there is no fraud here. This is consenting adults playing mind games using money. And nothing in our laws makes those a crime. Nobody is being forced to play. Those who do, do it on their own risk. They have been warned.
So what's the big deal? That not everybody can be a winner? Well, that's just life.
I agree had there been regulations in place this great heist would indeed be securities fraud. However, Congress, Rubin, et al made sure that did not happen. Now even though we did not participate in the profits we are left with the clean up.
This is not "rocket science" even though Wall Street wants us to think it is!
The only complexity is how the Banks are linked together!
We could isolate them like the cancer they are and build a Strong Credit Flow directly to the 99.9% of America outside the 8 Wall Street Banks and AIG!
With a little work and funding, like a Bypass Surgeon does everyday, we can go around Wall Street!
We have Credit Unions, Community Banks, and the Government can lend directly to consumers and businesses at much better rates if the funding was flowing to these sources.
Wall Street is not the "HEART OR BRAIN" of this Country and should be BYPASSED until its cleaned OUT and regulated!
$1 to Main Street does not equal $1,000 to Wall Street!
Fund Credit Unions, Community Banks, and OPEN up Credit FLOW from the Government to Consumers and Business on Main Street, the 99.9% of America that matters!
Flowery language, but where is the beef? I am missing especially the part where putting the consumer in even more debt than they already owe makes even remote sense.
Geithner knows exactly what he's doing. It's just that it has no relationship to what he's pretending to do. He's trying to rescue the banks. Not the economy at large, not anyone else. Just the banks. Using money embezzled from taxpayers.
And how, pray tell, does one rescue the banks without rescuing the economy? Banks don't exist in a vacuum.
I don't know (and neither does anyone else) if Geithner's plan is sound, but I have no doubt that rescuing the economy is his goal.
Only rescuing the banks, would be like saving the coal in the Titanic's engine room, while letting the boilers and the rest of the ship sink. Makes no sense, and can't really be his true goal, as you've stated.
It's a debt bubble - giving borrowed money to insolvent banks doesn't solve anything. But it does keep the banks out of bankruptcy court.
I'm ready to accept that more cash for Wall Street is a bad idea, but I read about this issue constantly, and I haven't seen, or don't recall someone laying our a comprehensive alternative to this plan.
Unlike Bush, Obama has brought on a large number of outstanding experts into his administration, and surely, if it were that simple, they'd simply seize AIG, and major banks. I suspect one complicating factor is that since we've become the greatest debtor nation in history, our creditors are limiting our options. China has warned us more than once that it won't accept taking a hit on its US investments, which would seem likely in a seizure situation--China warned Paulson to protect its holdings in Fannie/Freddie, and there have been others--the implicit threat is they'll stop loaning us money, and then we're really in a world of hurt.
What a dreadful situation our betters in Washington and Wall Street have left us with.
Krugman has been very specific about the alternative: temporarily nationalize the banks for the duration of the economic crisis and put them back in good working order, criminally prosecuting those bankers and financial CEOS who need criminally prosecuting. This is what we did during the New Deal. This should be combined with a robust infrastructure spending package. We have done the latter, though some argue with merit that too many spending cuts were allowed before the package passed, and we can do the former.
I am not saying Krugman is necessarily right, but he HAS offered a comprehensive alternative. I will say I think Krugman is probably not wrong. That said, the current scheme could potentially work too. It is important to remember that saving the banking system and stimulating the economy are not the same thing, and that Krugman's nationalization and Geithner's bank bail out are both different ways to save the banking system. The stimulus is is the natural accompaniment to either.
The problem with Krugman's alternative is that it does not survive the numbers game, either. The problems we are up against here have been built over 30 years and manifest themselves as massive consumer debt. It does not matter what we do, that debt will not go away. We could, of course, devalue the dollar or replace it with a new currency (like Germany did after WW II with the Reichsmark which they replaced with the "Deutsche Mark"). But that would be like shooting pidgeons with nuclear warhead carrying ICBMs.
it is also about a simple principle on which our free markets are built. Those who are paid to take risk must in addition to the rewards take the losses. Therefore before the tax payer loses a single penny the -subordinated debt, preferred and common equity investors must be wiped out first. Anything else is crony capitalism. Failure to adhere to this principle will in the long run do much more damage to our economy and our liberties.
There are several ways of making the principle work- nationalization is one. Even the Geithner plan done right could embrace this principle e.g. it could require that any losses suffered by the FDIC are put back to the bank selling the asset over a 10-15 year period. If they are in fact viable institutions as Geithner et al claim they should be able to earn their way out of this mess in that time frame.
Geithner is allowing the banks to gamble with our money is his plan.
Obama and Geithner have betrayed us.
Henry Blodget entire point about credit and how overborrowing brought us to this point,and why restoring credit should not be Obama's focus misses the point of affordable credit versus unaffordable one. The bunch of borrowers out there are good ones (85% to be precise- people still pay their mortgage), that can afford it if things stabilize. The way to restore a savings culture is not to kill the financial system with a shock treatment of destroying the credit system that will in turn kill the economy and jobs which will make savings impossible.
and all of them if they meet the requirements of Fannie Mae can get all the credit in the world and at really reasonable rates. The problem is that too many people deem affordable credit as 100% financing at teaser rates. BTW I bought my first house with a 13% mortgage. Compared with that everything is affordable right now.
AUTOMATE AROUND BIG ZOMBIE BANKS to SERVE MAIN STREET!
Banks aren't lending to people/businesses who can't pay them back. Banks are scared write-downs/offs on toxic loans will wipe out equity. They have skimmed off at least 35% of their assets’ values into Executive/Manager/Salesperson incomes/bonuses, using hidden FEES in Derivatives as the source. Now banks wants the Taxpayer to fill that skimming VOID! Then Banks will wait for more declines before lending, keeping Consumers scared to spend.
Geithner follows Wall Street's Philosophy to buy banks "bad assets", the market Values too low, that they think hurt liquidity! Geithner thinks "bad assets" must be removed from balance sheets so banks will lend and the economy recovers. But Banks will wait for more declines before they lend, keeping American consumers scared to spend.
Alternative: Create A MAIN STREET ECONOMY "Independent" of Wall Street!
Fund the GOVERNMENT AUTOMATED INTERNET CENTRAL BANK (ICB) to lend directly to consumers/businesses at low Rates/Fees, with NO BRANCH OFFICES OVERHEAD!
The ICB removes corrupt middle man, providing everything Main Street Needs through Internet, ATMs, and Debit/Credit Cards!
Direct Government service to Main Street regardless of the Corruption/FAILURE of BIG Zombie Banks! No more waiting in lines to see a loan officer or deposit a check.
Internet Central Bank-Full TRUTH-IN-LENDING simple contracts, NO TRICKS/TRAPS:
1. Home Loans 3.5%
2. Auto Loans 5.5%
3. Credit Cards Rates 8.25% and no annual fees
This consumer is not scared. I am just tired of wasting my money on stuff I don't need. Needless to say, I am sitting on a huge pile of cash and can borrow three or four times as much which I can have at a really low interest rate. And everybody who can't needs to go into their garages and take a look at the junk in there and then ask themselves if it was really worth gambling the future on.
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