Together In Harmony

It's a beautiful thing when Paul Krugman and William Kristol agree on something.  Today they both object to the Treasury rescue package - I'll pause so we can savor this bipartisan moment.

Krugman recycles in his column the same fundamental error he posted at his blog on Sunday, which I rebutted here.  In brief, Krugman argues that the fundamental problem facing the financial services sector is a deficiency of capital, which this Treasury plan fails to address.  The quick rebuttal - if a firm has an inappropriately high assets to capital ratio, it is undercapitalized.  The firm (or the financial services sector) can solve this problem by either raising capital *or* by selling assets.  Since the rescue plan involves huge asset sales to the Treasury, the financial services sector will address (if not resolve) their capital inadequacy by reducing their assets and paying off part of their debt.

Krugman seems to half-grasp this - he explains the concept of de-leveraging, but then reaches the bizzare conclusion that de-leveraging won't address the capital problem.  Here we go:

I have a four-step view of the financial crisis:

1. The bursting of the housing bubble has led to a surge in defaults and foreclosures, which in turn has led to a plunge in the prices of mortgage-backed securities — assets whose value ultimately comes from mortgage payments.

2. These financial losses have left many financial institutions with too little capital — too few assets compared with their debt. This problem is especially severe because everyone took on so much debt during the bubble years.

3. Because financial institutions have too little capital relative to their debt, they haven’t been able or willing to provide the credit the economy needs.

4. Financial institutions have been trying to pay down their debt by selling assets, including those mortgage-backed securities, but this drives asset prices down and makes their financial position even worse. This vicious circle is what some call the “paradox of deleveraging.”

The Paulson plan calls for the federal government to buy up $700 billion worth of troubled assets, mainly mortgage-backed securities. How does this resolve the crisis?

Well, it might — might — break the vicious circle of deleveraging, step 4 in my capsule description. Even that isn’t clear: the prices of many assets, not just those the Treasury proposes to buy, are under pressure. And even if the vicious circle is limited, the financial system will still be crippled by inadequate capital.

Or rather, it will be crippled by inadequate capital unless the federal government hugely overpays for the assets it buys, giving financial firms — and their stockholders and executives — a giant windfall at taxpayer expense. Did I mention that I’m not happy with this plan?

The logic of the crisis seems to call for an intervention, not at step 4, but at step 2: the financial system needs more capital. And if the government is going to provide capital to financial firms, it should get what people who provide capital are entitled to — a share in ownership, so that all the gains if the rescue plan works don’t go to the people who made the mess in the first place.

Well, the financial system needs either more capital to support its current asset base, or fewer assets with the present level of capital.  The Treasury plan gets us there by allowing firms to sell assets. 

Now, I am not saying that this rescue will work, or that the Treasury won't overpay for assets, or that no better plan is available, or that the financial services sector will be adequately capitalized after the rescue.  But I am saying that Krugman is flatly wrong in declaring that "The logic of the crisis seems to call for an intervention, not at step 4, but at step 2: the financial system needs more capital." 

The financial system needs either more capital or fewer (and less risky) assets and business activities.  This plan does address that problem by allowing a reduction in risky assets.  Let's at least have reality-based objections to this plan.  And let me grumble that Krugman has clearly back-pedaled from his Sunday post, which was substantially similar but included this howler:

Even without panic asset selling, the financial system would be seriously undercapitalized, causing a credit crunch — and this plan does nothing to address that.

Obviously the plan does something to address that by allowing de-leveraging through assets sales.  Whether it does enough is a matter of conjecture and debate.

In his current column Krugman edited that clause to present his conclusion as an opinion - "And even if the vicious circle is limited, the financial system will still be crippled by inadequate capital" - rather than a theoretical certainty.  So I am making some intellectual headway here.

As to giving the taxpayer a stake in Wall Street's upside - don't we have corporate and personal income taxes?

Kristol is amusing with this:

And I’ve been shocked by the number of (mostly conservative) experts I’ve spoken with who aren’t at all confident that the Bush administration has even the basics right — or who think that the plan, though it looks simple on paper, will prove to be a nightmare in practice.

But will political leaders dare oppose it? Barack Obama called Sunday for more accountability, and I imagine he’ll support the efforts of the Democratic Congressional leadership to try to add to the legislation a host of liberal spending provisions. He probably won’t want to run the risk of actually opposing it, or even of raising big questions and causing significant delay — lest he be attacked for risking the possible meltdown of the global financial system.

Obama will oppose this plan of the conventional wisdom of the Democratic Party coalesces around opposition.  There is nothing in the world or in his track record to suggest he will actually lead on this.

Kristol continues:

What about John McCain? He could play it safe, going along with whatever the Bush administration and the Congress are able to negotiate.

If he wants to be critical, but concludes that Congress has to pass something quickly lest the markets fall apart again, and that he can’t reasonably insist that Congress come up with something fundamentally better, he could propose various amendments insisting on much more accountability and transparency in how Treasury handles this amazing grant of power.

...

Or McCain — more of a gambler than Obama — could take a big risk. While assuring the public and the financial markets that his administration will act forcefully and swiftly to deal with the crisis, he could decide that he must oppose the bailout as the panicked product of a discredited administration, an irresponsible Congress, and a feckless financial establishment, all of which got us into this fine mess.

Critics would charge that in opposing the bailout, in standing against an apparent bipartisan consensus, McCain was being irresponsible.

Or would this be an act of responsibility and courage? 

McCain is more of a gambler.  Personally I have a hard time contemplating financial Armageddon and concluding that risking it is responsible, but... well, yikes. Part of the excitement of John McCain.

MORE:  Sebastian Mallaby, in yesterday's WaPo, gains a step on Krugman by recognizing that reducing assets and raising capital are flip sides of the same coin.  He argues for raising capital.  Well, maybe.  The problem is, financial firm still own billions of Mystery Assets of uncertain but volatile value.  With enough new capital, the volatility of these assets won't imperil the solvency of the firms, but how much capital is that?  Removing the volatility by removing the assets (and putting them with Treasury) has a certain directness.

And surely some of the upside to these bonds is captured by the Treasury in the from of corporate taxes, personal income taxes and the avoidance of a ghastly depression.

Comments

[Semanticleo]

If folks are worried that too much might be paid for these Republican Nationalized financial institutions, there is a way to minimize the harm and possibly even provide a tax rebate to the ultimate payee, the taxpayer;

Since they are so eager to saddle us with UNprofitable enterprises, perhaps we could balance the national ledger by NATIONALIZING THE PETROLEUM INDUSTRY.

After all, we have a Republican precedent.

(Only Nixon could go to China)

[JB]

Lets nationalize showbiz/Hollywood, Miss Cleo. We'll get them to make patriotic films. That would turn a nice profit.

[Thomas Collins]

Gary Becker has "reluctantly concluded that substantial intervention was justified to avoid a major short-term collapse of the financial system that could push the world economy into a major depression." Becker's sober approach to this is an interesting counterpoint to Krugman's fulminations. My major concern is that the Pelosi-Reid-Obama Axis of Demagoguery will result in legislation that will hinder economic growth. It is ultimately a growing economy that will facilitate getting out of this mess. But "Grow and Drill" is unlikely to a the touchstone of this Congress or the next one.

LUN

[Appalled]

McCain is on record as not understanding much about economics. If he blows this plan up, he has to have another, credible plan that has Treasury buy in and chance of apssage by Dems who will be emboldened by a Bush Plan going down in flames. I don't see McCain has either the credibility or the intellectual horsepower, or the magic eloquent tongue to hijack the process his way. And the downside to not pulling off an attempted hijacking is the loss of the enthusiastic base that so loved Palin.

Best plan for everyone is to pass this thing, and make modifications when a new Congress and president are in place. Of course, DOT likely understands this dynamic as well and will likely move with unprecedented haste to implement their big whatever once the enabling legislation is in place.

Gotta tell you, this all makes me more comfortable with Obama, because the amount of debt we're assuming will kill off the government's ability to make all those "investments" Obama would like it to make.

[TCO]

This IS THE TIME for ideological purity. Transferring $1 trillion from savers to speculators is an incredible theft of money that comes from the sweat of our brows.

http://michellemalkin.com/2008/09/22/kill-the-bailout-will-the-real-fiscal-conservatives-please-stand-up/

STOP THE BAILOUTS

STOP NYC LIBERALS

STOP GOLDMAN SACHS

STOP PAULSON

http://michellemalkin.com/2008/09/22/why-henry-paulson-must-be-contained/

[kim]

We do this right, TCO, and the government will make money on it.
====================================

[Semanticleo]

"The battle over the Mother of All Bailouts is a battle for the soul of the Republican Party. A few fiscal conservatives like GOP Rep. Mike Pence are daring to stand up against this disaster. And where is GOP Minority Leader John Boehner? Chastising the Right not to oppose it because “This is not a time for ideological purity.”

What?! When is there a better time for conservative ideological purity than now — now that we face the most massive taxpayer rescue in American history spearheaded by a phenomenally wrong-headed, ChiCom-promoting, liberal Democrat-installing, Gore global warming alarmist?

Hell, yes, this is a time for “ideological purity.”

Ideological principle.

Ideological courage."

And she's for McCain?????????????????

Other than that dissonance, she has some consistency. I guess JOM regulars aren't
real conservatives.

[Semanticleo]

"We do this right, TCO, and the government will make money on it."

KIM;

You're talking about GOVERNMENT.......you don't trust it's machinations.

Isn't OIL a NATIONAL SECURITY ISSUE?

In the interest of National Security, we must preserve that asset as a State Entity.

[Thomas Collins]

McCain may be a gambler, but he knows when to hold 'em. Both McCain and Obama realize, I suspect, that if either one is seen as torpedoing Resolution Trust Corp. syle legislation, any economic and financial market dislocation between now and Election Day will be blamed on him (whether justifiably or not). Both will be on board with the final legislation.

[Semanticleo]

"We'll get them to make patriotic films."

Plenty of Chuck Norris films going straight to DVD................

[Podunk]

So here's where I'm either confused or you're mistaken (and I'm open to it being the former). My understanding is it's not the capitol:assets ratio that's too high, but the capitol:debt ratio. Or rather the assets:debt ratio, under the assumption that one could sell assets to cover the debts (or interest on those debts) if needed.

So basically, these financial institutions borrow short-term to buy bonds, stocks, or to buy financial instruments that simulate lending long. They use the profits from these bonds or stocks or financial instruments to pay off their short-term debt interest, have a lot left over, and profit wildly.

The trouble is when their depositors or lenders want their capitol back, and they can't liquidate enough assets to cover their obligations. Generally they would borrow again as they take their time finding buyers or otherwise liquidate things in an orderly fashion. But right now nobody will lend, so they have to fire-sale things, at a lower price than they'd planned on. Then they have to mark all their non-liquidated assets down to the low fire-sale price, because of mark-to-market accounting. Now it looks like they don't have the capitol to cover their debts, so the cycle continues.

--

That could be wrong, please correct me if so. The offshoot is that the bailout can do a couple things, but simply taking the assets off the books doesn't help, because it's not really an injection of capitol, it's just replacing an illiquid asset with a liquid one. The capitol:debt ratio stays the same. What it can do is stop the spiral of the fire-sales. This only works if you buy things at a higher price than the market would've bought them for, but that's not necessarily more than they're worth.

So in some sense Krugman is right. If the banks are insolvent at whatever price the bailout determines is the buying price of the assets, this won't change that. The only way this helps is if they're solvent at that price, but insolvent at further-reduced prices brought on by more panic selling. This doesn't really de-leverage them, but it might buy them time. If it's a liquidity crisis, this may work, if it's an insolvency crisis, it won't.

[TCO]

Kim: You go invest that money on your own. Create a syndicate. I don't want my government buying bad paper. Markets are right. Government is wrong.

You want to cover my $3,000 (per capita) or my $30,000 (taxpaying normalized) share of that trillion $$, feel free. If it makes money, I'll give you the relevant bonus. If (when) it loses, you can cover my downside. Send me a check, Kimmie.

[TCO]

i mean...look we were ALREADY exposed to either a lie or cluelessness, when Paulson said "the system is sound". Now you want me to believe him on how to prop it up? Fat chance. That guy is either a moron or in the tank for Goldman Sachs. Probably both.

[kim]

Look, TCO, these instruments became undervalued because there was too much uncertainty in the market. Done right, the government will make a bundle on them, taking money directly from big institutions who got too esoteric to know what they were doing.
=======================================

[CAL]

McCain should oppose the legislation on Main Street vs Wall Street rhetoric and let it pass anyway. Then he isn't to blame if it doesn't work and can claim his plan would have worked better in any case.

Obama has the same option but has shown no signs of actually wanting to get in front of this issue. He will play it safe and follow McCains lead whatever it is.

I can't imagine handing $700B to a guy and immunizing his decisions from lawsuits. You know if this were the Clinton administration with 4 months left in office, WJC would be walking out the door with $2B in his pocket. (There is a lot of room in there from what I understand.)

I like Bush but that is way way way way way too much power to give to a government official.

[kim]

It's a win-win, TCO; the institutions get their butt saved in a panic, at the cost of giving the government, and we taxpayers, some of there otherwise expected profits.
============================

[TCO]

I would GLADLY lose this election, if it saved the principles of the Republican party in free marketism and saved the taxpayers $1 trillion. It's worth that much to me. Paying that price is WAY TOO MUCH for the difference between McCain and Obama.

P.s. The funny thing is that being pro-bailout WILL NOT help McCain or the R's politically. They would do much better running on principle. For instance as they have on drilling and as they did in 1994 with Hillary-care.

[kim]

Right, CAL, the big institutions should be screaming at the rip-off, but they are too busy hanging on to the life preserver and coughing the ocean out of their lungs.
===================================

[Pofarmer]

Looking at the $ and commodity prices, one thought springs to mind. Just how inflationary is this policy?

[TCO]

Kim: I'm fucking serious. Let's make a bet on this. We can put the money in some third party account. $30,000 sound good to you?

[kim]

You have far too simple-minded idea about this, TCO. Managed well, it won't cost anywhere near a trillion dollars, and the gambit is surely saving a many trillion dollar loss in a panic. What's not to like?
==========================

[TCO]

This is the time to rally the mujahedeen. I've just sent notes to both senators and my representative and to Mike Pence's office. We need to get a popular movement going. That will stiffen the spine or pucker the assholes or whatever of the "go along, get along" Republicans.

[TCO]

Kim: Let's do it, bitch. Let's make the bet.

[kim]

Willingness to gamble, TCO, is no measure of the rightness of an idea, it is a measure of your confidence in the idea.
=====================================

[TCO]

how confident are you?

p.s. It beats challenging you to a fist fight (especially in case you are a big guy. ;-)

[kim]

Heh, and I don't have a whole lot of confidence in our ability to manage it well. We could, though; why don't you apply your big brain to helping them manage it well. It might save you $30,000.
========================================

[CAL]

Whats not to like??????

Giving 700B to one man and hoping for the best for one thing. Who in their right mind likes that?

We have no idea what the assets he is going to buy are worth. You might as well say if you play roulette well, you will come out ahead.

[Tom Maguire]

So in some sense Krugman is right. If the banks are insolvent at whatever price the bailout determines is the buying price of the assets, this won't change that. The only way this helps is if they're solvent at that price, but insolvent at further-reduced prices brought on by more panic selling. This doesn't really de-leverage them, but it might buy them time. If it's a liquidity crisis, this may work, if it's an insolvency crisis, it won't.

Briefly, yes. I have now done about three more posts than I expected to on this, but in an earlier post I agreed that *if* the problem is solvency the Treasury plan can't work as a stand-alone (although it may improve the ability of newly slimmed-down firms to raise private capital.

But the word *if* is important - Krugman's Sunday "analysis", essentially echoed today, is that because there is no new capital the plan can't logically work. That is true if this is a solvency crisis and false if it is a liquidity problem.

My understanding is it's not the capitol:assets ratio that's too high, but the capitol:debt ratio. Or rather the assets:debt ratio, under the assumption that one could sell assets to cover the debts (or interest on those debts) if needed.

Well, they are all related. Krugman actually got the oddest formulation yet in today's column:

These financial losses have left many financial institutions with too little capital — too few assets compared with their debt.

I had to blink at that but he is right. Assets = Debt + Capital. A firm with its capital based wiped out to zero has assets equal to debt, for a ratio of 1:1. A firm in such a spot could raise capital and buy some assets. Imagine that after raising capital is has $10 of capital, $90 of debt and $100 of assets. Now the Asset:debt ratio is 10:9, higher than the old, too-low ratio.

Not an intuitive way to think of it - when the capital was at zero I doubt the CFO walked around saying "We need more assets". In fact, they needed to raise capital and use the proceeds to either add assets or retire debt. But as a matter of accounting identities, Krugman's presentation should work.

[kim]

In fact, that's what I'll do; I'll put up your $30,000 saved. Now get busy.

Nice remark at Tamino's about the cedars, by the way. Keep hasslin' them.
===================================

[kim]

CAL, does the croupier play roulette well? He makes money.
==============================

[CAL]

Who is the croupier here? The companies deciding which assets to sell or the buyer who will have to take them sight unseen?

[kim]

Paulsen is spinning the wheel. But the analogy does break down, because he can't just depend on friction; he's going to have to have his fingers on it. That's what I mean by doing it well.
===================

[TCO]

Kim:

1. Other than some male aggression, the bet thing was more to get YOU to think about the certainty of your position. If you were making a big bet, you might reconsider inconsistent or hopeful statements.

2. Even if I were a big financial brain (I'm not, I just actually read and THINK about the sidebars in Brealey and Myers), I don't think that my special management would better help the government in an intervention. Instead the much wiser and fairer course is to urge for a STOP to the intervention and let counterparties settle up on the bad paper.

3. You can't both call me simple and a big brain. Well, you can say anything, I guess. I like to take a weed in the grass approach on intellectual things (emphasizing my gin addiction) and then jump up and bite people like Tammy or Gardner Dozois in the calf with Gilgamesh-killing bites. ;-)

[CAL]

Paulson is going to be spending a ton of money in a short period of time. The people selling to him are already more familiar with their assets than he will be and more than one company will be rolling their offal up to his door.

Even if he were a completely ethical and honest man who will not lift a finger to help his friends at the expense of the country, there is no way he will come out on top in this scenario.

The fat cats will get fatter and the general public will pick up the tab. I am a strong free market conservative and I have no problem with high CEO pay (excepting accounting fraud like Franklin Raines) but there is no way I can support this bailout.

[Ranger]

Something to consider: http://www.usnews.com/blogs/capital-commerce/2008/9/22/bailout-prevents-great-depression-20.html>Bailout Prevents Great Depression 2.0

The core of it:

Now let's do the math on the "alternatives." What would doing nothing cost?

1) Scenario 1: Great Depression "Lite." This is supposed to be the worst financial crisis since the 1930s. So let's assume that the total freezing up of American and global credit markets caused something half as bad as the Great Depression. From 1930 through 1933, the U.S. economy shrank by about 25 percent. Now let's say that by doing nothing and letting Mr. Market do his worst, the $12 trillion U.S. economy shrinks by half that amount (12.5 percent), or around $1.5 trillion over four years. (Also, figure a near doubling in unemployment.) But there's also the opportunity cost of not returning to growth, even at a so-so 2.0 percent a year. Doing nothing costs $1.1 trillion more in lost growth. So now we are down $2.6 trillion.

But wait: There's more. Let's assume the stock market drops an additional 25 percent or so. That's $3 trillion more in lost market capitalization. Plus, we are forgoing the opportunity to gain back what we have lost in the market, about $3 trillion. So, add the $6 million in lost market capitalization to the lost economic output, and we are at $8.6 trillion.

Then there is housing, already down $5 trillion, or roughly 20 percent. Let's conservatively say that we lose another $5 trillion by doing nothing. Plus, we forgo a partial rebound, say, $2.5 trillion. Adding together further housing losses (plus the lost opportunity to recoup some losses), and we are talking about a total cost of doing nothing of $15 trillion in four years for the whole megillah. But it could be worse.

2) Scenario 2: Great Depression 2.0. The economy shrinks by 25 percent over four years, or $3.2 trillion, plus $1.1 trillion in lost opportunity growth. Economic cost: $4.3 trillion. The market falls two thirds from its peak, losing $7 trillion in value from its current level, plus $3 trillion from not getting a rebound. Stock market cost: $10 trillion. Housing falls an additional $10 trillion from current levels, plus the lost opportunity of $2.5 trillion from a rebound. Housing cost: $12.5 trillion. Total four-year financial and economic cost of doing nothing: $26.8 trillion.

Now this is all a very rough guesstimate and doesn't include the costs of all sorts of other ramifications. Here is a fun one: the dissolution of China. Its economy is built for hypergrowth. A dramatically rising standard of living is both keeping the Communist Party in power and keeping the country together. Neither might survive a global economic meltdown. What is the economic impact of that? I don't know. My guesstimator just blew up

Via Hot Air Headlines

[M. Simon]

TCO,

What is the proper response to a run on the banking system?

[M. Simon]

Perhaps I should rephrase that. What does Financial Expert Extraordinare Malkin say the proper response to a run on the banking system should be?

[TCO]

CAL: How do we get a movement going? This could be like Harriet Myers. Let's rally the troops. Let's revolt against the RINOs and "Bush could kill my dog and I would still love him" types..

Simon:

a. Chapter 11 holds claiments at bay and allows entities to function while doing so.

b. Please also note that you are very vague and confound differing things when you talk about a run on banks. Do you mean FDIC insured deposits? Do you mean hedge funds. When you make simple statements that mush things together, it's a crime against clear thinking. (For example there was a lot of kerfuffle about AIG and insurance policy holder. But the assets of the insurance companies were seperated from the 441 billion of credit swap bets. Those were at the corporate level. REally the people in danger there, were the counterparties to those swaps (Goldman, etc.) And Paulson's action protected those counterparties.

[boris]

The fat cats will get fatter ...

Yup here we go. Better the economy takes a 30 trillion dollar carp so some fat cat won't make a buck at the expense of poor defenseless taxpayers.

[TCO]

Boris: You sound just like a Democrat. you think government "investment" creates wealth. It doesn't. It transfers and squanders wealth. Leave my Republican party. We don't want your kind.

[boris]

REally the people in danger there, were the counterparties to those swaps (Goldman, etc.) And Paulson's action protected those counterparties.

Bingo! The bad guys are getting away with it. Can't have that so let's all go in the toilet to make sure they get wet too!

[boris]

You sound just like a Democrat ...

You sound just like a moron. Start your own party sh!thead.

[clarice]

Even worse, boris, we might reward brains and risk taking.

[M. Simon]

Some One Started an Anti-Obama S*** storm at No Quarter.

Look who got the first comment in. Heh, heh, heh, HEH.

McCain's latest:
Crooks From Chicago.

[boris]

How do we get a movement going?

CAL and TCO are starting their own "movement". Let's all help them out with some possible names. All cap acronyms preferred.

[TCO]

Clarice: You were an idiot, a sophist and one unwilling to look curiously at both sides of issues when we went down the Plamiac rathole. Why should I expect a Profile in Courage from you now. You're too stupid and too intellectually dishonest for that.

[CAL]

Boris,

I don't object to fat cats making a buck. I object to them costing me 700B bucks quite a bit though.

Better a well thought out plan is implemented than we give one guy that much cash to spread around and hope he is a god.

We have to calm the markets/investors and make sure companies stay liquid until they can recover or go under in a less disruptive fashion.

To the extent they are now overleveraged, there is going to be a contraction in lending. We don't want it to happen all at once to avoid a deep recession but it needs to happen until companies can get their houses in order.

Letting them pawn their useless assets off on me is not acceptable.

[boris]

costing me 700B bucks

Yikes! I wasn't aware Paulsen was taking all the money out of your personal account!

[clarice]

My goodness, tco, and here I thought you were a new poster as I recalled nothing of note from you before.

[Charlie (Colorado)]

TCO, you've gotten completely out of line. If you spoke to me in person as you have, you'd get that fist fight, and I'm a 6'3" 270 pound third degree black belt. I may be old, but you'd be hospitalized.

Furthermore, if you spoke to either Kim or Clarice as you have, in my presence, you'd get that fist fight.

Since I can't punch you in the nose as you deserve, I suggest to Tom that he ban you, absent a complete contrite apology and a promise to behave like a barely civilized human being. I also solicit anyone who agrees with me, including lurkers, to add their support.

[TCO]

Charlie: I stand by my remarks.

[AdrianS]

For Dems that don't or can't understand what Nixon did when he visited China, he made it possible for Americans to have microwave ovens at $129.00 instead of $1,290.00. American companies produce products for Americans in China at lower prices.

The Dems have been dragging their feet over new sources of energy and playing up the problems in the economy, which are not a recession -- unless you want to change the definition of recession. But anything is possible.

I don't believe that throwing good money ($700 Billion) after bad will solve anything. The US government should certainly NOT be in the gambling business -- or in business at all.

Is there some criminal liability here?

And, why are all of the financial institutions having problems all at the same time. Was this choreographed or maybe orchestrated to hold-up Americans with threats of no more loan money if there's no bailout.

Let's not over react with a bit of socialism or even fascism. Our free enterprise democracy works best if left alone -- let those badly administered enterprises fail. It will be cold day in hell when the government comes to the aid of a failing small business.

[Charlie (Colorado)]

The fact that both Krugman and Kristol oppose the plan gives me some confidence it is a good solution.

[boris]

You got mine Charlie.

One thing that seems strange is how often obnoxious contrarians claim to be the purist of conservatives. My best guess is they want to lay claim to whatever philosophy is considered most contrary to conventional wisdom as defined by their family and acquaintances.

[MayBee]

It's too bad Anduril isn't here to enjoy TCO's postings.

[Charlie (Colorado)]

Here's the choice: you can be idiologically pure, and have Depression 2.0, or you can let Paulsen and Bernanke take a shot at preventing the meltdown.

As I said before, I'd just as well avoid the food riots.

[M. Simon]

Charlie,

I'm old and not in the best of shape. TCO could certainly take me. But he would know he had been in a fight.

For the honor of the ladies.

TCO - you sir are a cad. Go back to Malkin where people without honor are obviously welcome.

[AdrianS]

For Dems that don't or can't understand what Nixon did when he visited China, he made it possible for Americans to have microwave ovens at $129.00 instead of $1,290.00. American companies produce products for Americans in China at lower prices.

The Dems have been dragging their feet over new sources of energy and playing up the problems in the economy, which are not a recession -- unless you want to change the definition of recession. But anything is possible.

I don't believe that throwing good money ($700 Billion) after bad will solve anything. The US government should certainly NOT be in the gambling business -- or in business at all.

Is there some criminal liability here?

And, why are all of the financial institutions having problems all at the same time. Was this choreographed or maybe orchestrated to hold-up Americans with threats of no more loan money if there's no bailout.

Let's not over react with a bit of socialism or even fascism. Our free enterprise democracy works best if left alone -- let those badly administered enterprises fail. It will be cold day in hell when the government comes to the aid of a failing small business.

[Enlightened]

Folks - Just put this idiot on invisible. (And this coming from me, who's favorite sport is idiot-bashing)....This person is a guttersnipe, and does not warrant recognition in any fashion.

[Sue]

MayBee,

He's busy painting. ::wink::

[Ranger]

And, why are all of the financial institutions having problems all at the same time. Was this choreographed or maybe orchestrated to hold-up Americans with threats of no more loan money if there's no bailout.

Posted by: AdrianS | September 22, 2008 at 01:31 PM

The problem is that eveyone has some of these "securitized mortgage products" in their portfolios. Know one knows for sure how little they are worth. The result is no one can borrow and no one can lend until these things are flushed out of the market.

[glenda waggoner]

Charlie, Thank You- I was going to call out TCO until you took the words out of my mouth. He defintely does not know how to treat the JOM ladies, whose IQ's, ideas, and bona fides outweigh his sarcastic slime. I usually skip over the leo's,tco's, but he mentioned Clarice-does he know of her and her husband's life well lived for America and it's citizenry? We, here are for the best of all, not only ourselves. I pray for him and his bitterness. By the way, Charlie, do you see a rollercoaster or a stream today on WS?

[boris]

ISTM Bush is in a good position to demand a clean bill with no amendments or unnecessary complications.

[clarice]

You're all way too generous . I steadfastly believed that TCO was not a troll but a person with non conforming beliefs. I still think so. I do think he's growing increasingly intemperate, so I will now aim my pistolas at those who continue to engage him. And they are both fully loaded unless he takes a breather and better controls himself (or herself--I can't tell).

[JB]

Miss Cleo: Chuck Norris films are more profitable than such recent masterpieces as "Redacted."

[Charlie (Colorado)]

ISTM Bush is in a good position to demand a clean bill with no amendments or unnecessary complications.

And I think he indeed has. Certainly Boehner said, "This would be the most serious financial crisis that the world has ever dealt with. It is not a time to be playing games."

[LindaK]

Paulson/Bernanke/Bush chose between an uncontrolled unwinding of worldwide leverage that would likely have put all but a handful of banks out of business and destroyed trillions of wealth as Ranger guesstimated and the US government acting as a turnaround/distressed debt acquirer. They chose what has worked in distressed situations: acquire the equity at pennies on the dollar and restructure the debt.

FNM/FRE tried to raise equity; they couldn't. By last week, it was arguable as to whether MS or C could.

Unfortunately, there are other shoes to drop and one of them is the public pension plans. Look at the largest owners of FRE/FNM and you'll see several large state plans.

[Charlie (Colorado)]

By the way, Charlie, do you see a rollercoaster or a stream today on WS?

it's going to be a rollercoaster as long as there are conflicting stories of what Congress and the Administration are willing to accept.

I did just see on the CNBC crawl that Rep Frank says the administration won't accept foreclosure relief. That seems to me a good thing; as we worked out the mathematical rationale this weekend, allowing bad mortgages to avoid foreclosure would impede valuing the securities that are the basis of this whole mess.

[Charlie (Colorado)]

Oh, and when it looks like a deal is nigh, that would be a great time to be short oil and gold.

[Indignant lurker]

Charlie is right. TCO begone.

[PrestoPundit]

Sounds like an argument for dramatically raising taxes targeted directly at Wall Street and the financial industry.

I say we simply plunder wealth from folks who took money out of the financial industry over the past decade. Why not. This is exactly what Wall Street and the Bush Administration are proposing to do with the U.S. taxpayer.

Lets say, 90% of all money taken out of the financial industry since 1998 goes directly to the U.S. treasury -- via direct liens against the property and assets of present and former financial industry employees. What's the problem? This is what the government is proposing to do to me and other taxpayers.

And just for good measure, lets apply the law to every member of Congress as well.

[MayBee]

Appalled- you may want to tell Obama he can't push through all of his projects. He's still campaigning on them.

[CAL]

AdrianS,

The reason all the financial institutions are having problems at the same time is that they all undervalued the risk in the packages of mortgages they were buying. They were assumed to be solid assets but the reality was that lots of mortgage companies were issuing high risk loans and bundling them up to pass on to other companies. They no longer cared because they weren't stuck with the risk.

The housing bubble was essentially a giant Ponzi scheme. I know a couple people of middle class means who owned 15 houses between them and were flipping them constantly for big gains (relative to their investment) every few months. They had no hope of covering the mortgages long term and the companies giving them loans were in my opinion insane.

When houses stopped appreciating and declined in value, that was like lighting a fuse. These guys had made a bundle as the houses appreciated but now had a problem: They had no hope of selling at a price to recoup their investments and little hope of paying all the mortgages long enough for the market to turn around. Walking away from the properties and letting the banks have them was about all they could do.

Multiply that by thousands and throw in people who put no money down and thought the appreciation would cover the ARMs ticking up and you get what happened to the housing market. The bottom rung of the Ponzi scheme lost and the mortgage holders who thought they had solid assets lost.

As to criminal liability, anyone who lied on a mortgage application could be tried as well as mortgage brokers who knew about the fraud if you could prove it. But as far as I am aware, the guys I know never broke the law. If I had my way, they would have to spend their life savings on the mortgages before dumping them on the bank, but the collateral was the houses. They stopped paying the mortgages and the banks got the houses. Nothing else was required.

The companies that bought the bundled mortgages were obeying all laws and regulations for the most part as well. Fannie Mae and Freddie Mac not so much maybe but the rest seem to have clean hands. For the most part, the people that caused the mess were obeying the law.

[Barney Frank]

TCO is just following the predetermined course that he takes at nearly every blog he posts to.
First he says something somewhat reasonable, but contrary, with a little snipe to it. Then when folks don't fall into line, he flies off the handle, but later apologizes, seeming once again to be reasonable. He then posts some more provocative stuff, and after things heat up again he goes full out nasty and whacko.
Regular as clockwork; ad infinitum, ad nauseum.

[PeterUK]

"Gary Becker has "reluctantly concluded that substantial intervention was justified to avoid a major short-term collapse of the financial system that could push the world economy into a major depression."

At last somebody is examining the ramifications of opening the AIG can of worms.
Some of the financial instruments are so complex that it would take lawyers and forensic accountants years to untangle.

[PeterUK]

"I would GLADLY lose this election, if it saved the principles of the Republican party in free marketism and saved the taxpayers $1 trillion. It's worth that much to me. Paying that price is WAY TOO MUCH for the difference between McCain and Obama."

Don't know much about socialism do you TCO?

[Charlie (Colorado)]

Lets say, 90% of all money taken out of the financial industry since 1998 goes directly to the U.S. treasury -- via direct liens against the property and assets of present and former financial industry employees. What's the problem? This is what the government is proposing to do to me and other taxpayers.

Okay, then do you propose to return any gains to the same people?

[Carnuba wax]

"What is the proper response to a run on the banking system?"

Let's compare/contrast the Iraq Model......

Once we were 'all in' the argument to leave
was irrelevant. Being 'resolute' in spite of the wrongheadedness, was the spin. Later addition to the spin "The Surge" left some
wiggle room for hope, but Petraeus says 'no victory' only stalemate.

Similarly, once the Bank Run has begun (and it has) you ride it out with the 'Military you have, not the one you want'

Your financial 'Surge' will not win, it will lead to stagnation, and stalemate.

700 Billion to One Trillion poured down a sinkhole will leave the same smell as the "Surge"

[Charlie (Colorado)]

Moe like "ear wax". Carnuba wax smells pleasant and has commericial use.

[PeterUK]

"Boris: You sound just like a Democrat."

And you TCO sound like a Moby.

[PDinDetroit]

You can put Carnuba Wax on a Pinto, but it is still a Pinto!

[lurker 999]

"You can put Carnuba Wax on a Pinto, but it is still a Pinto!"

But can you Nationalize the UNprofitable, without Nationalizing the profitable?

[TCO]

People, people: Listen to Barney. Disagreggate the TCO nastiness from his points. Beat him on the head for his language. But pat him on the butt for his rectitude. ;-)

PUK: You would know, Limey. I'm glad we put bullets into your soldiers' heads during American Revolution. Go bow down to your soveriegn.

[Extraneus]

Any home mortgage I've ever been involved in was approved as a function of a debt-to-income ratio. The formula was something along the lines of 33/38, just like at the link, and is similar for rental property, with the addition of a buffered estimate of the rental income. (The assumption was that something like 20% of the apts are vacant.)

Using such a formula, the banks figure that unless a person loses their job -- or, in the case of rental property, that most of the tenants move out and can't be replaced -- a borrower's ability to pay shouldn't have anything to do with the underlying value of the property, such as its reduced value during a market downturn. The ability to make a capital gain by selling is affected, but not the ability to make the loan payments.

The loans I referred to also required a down payment, such as 10% for homes and more on rentals, which is a built-in motivation to keep up with the payments.

It doesn't seem likely that these types of loans are any portion of the present problem, but maybe there's data explaining this somewhere. I'd be interested in some specifics on the smelly loans stinking up the banks, in terms of how many of them look like what I described vs. nothing-down, no employment or income verification, "NINJAs," and some demographics on who the borrowers were. Has anyone seen this type of analysis anywhere?

[Nenicho]

Since McCain wants Andrew Cuomo to head up his Security and Exchange Commision how can we even be sure that the bail out will help. Andrew Cuomo, as Rush has said, was one of the principle reasons that we had the problems with Fannie Mae and Freddie Mac (heading up Hud during the Clinton Admin). With friends like this who needs enemies.

[PeterUK]

"PUK: You would know, Limey. I'm glad we put bullets into your soldiers' heads during American Revolution."

I suppose your ancestors were eating turnips in some European field at the time.Have another gin.

[PeterUK]

What do Nancy Pelosi.CAL and TCO have in common?

They all use near identical wording about the $700B.

[Sara (Pal2Pal)]

TCO: You sound like a immature pipsqueak suffering from little man syndrome who gets off denigrating women. Take it back to the gutters you normally live in because that kind of thing doesn't fly around here.

And the next time you want to call someone a bitch, show some respect.

Clarice has too much class to respond to the insults you leveled at her, so let me do it for her.

Pointing at TCO: Teehee LOL hehehehe teehee LOL @@@@@@@@ROLF

[GMax]

Just a hink here folks. BGates gave you the answer to TCO, an true cloak of invisibility for him, not you. He had gone poof in my world, and I miss him not one whit. Its simple script and I figured it out so its not rocket science. Your browser will modify to simply never show him at all. If his rants get not a read, he will go away eventually, its the attention you are showering on the cad that keeps him coming around ever nastier.

[PeterUK]

"its the attention you are showering on the cad that keeps him coming around ever nastier."

It's the drink,he probably beats his wife,then bursts into remorseful tears.Typical abusive relationship.Most likely kicks his dog.

[JM Hanes]

GMax:

Best get a rabies shot too, just to err on the side of caution.

[Sara (Pal2Pal)]

To give just a snapshot of the types of mortgages that were being written, a recap:

As you all know, I was in serious trouble with my house about a year and a half ago. I got out with just hours to spare before foreclosure and ended up still getting some of my own $90,000 back that I had put down originally, but all the equity was about wiped out in the fire sale. Still I saved my credit and the loss wasn't total.

Now, during the two months leading up to the deadline, I was forced to find new financing because when my Mom died (a co-borrower), Wells Fargo, the mortgage holder, insisted I had to rewrite the loan in my own name and they wouldn't do it. Income had been cut in half due to my Mother's death. They suggested I contact 3 different entities.

In all three, loans were offered. All three would have taken my payments from $1100 up to $3000, $3100, and $2900 respectively. That is nearly double what my retirement income amounts to.

When I questioned how they expected me to pay this amount of monthly payments, I was told not to worry, that I had so much equity that they were counting in the appraisal of the home, and it would be included in the loan amount, I could use that money each month to pay the loan. The interest rate would have gone from the 6 1/2% I was paying to 12% as well. In other words, I owed $185,000, they would loan me over $400,000 and then I could use the difference to pay them back from the difference I would get at double the interest rate.

When I said no, I only wanted to cover the existing mortgage at Wells Fargo, the $185,000, they said, "no thanks," leaving me wasting a full two months of time and causing me to have to do the fire sell or have Wells Fargo pull the loan that was in both my name and my Mother's.

All of this was done immediately after my Mother's death when I wasn't thinking too straight and having to handle many other matters. Later, a friend looked at some of the transactions offered and said it looked like they were predators working the system for people who might be distracted from business by personal matters such as a death of a loved one.

I wasn't having any trouble making the $1100 a month payments and could have easily ridden out the fall in housing prices, but Wells Fargo forced me out of that loan, even though I was the sole owner of the house on the deed. I don't know what connection they have to the 3 scam companies, but they are the ones who gave me their names to contact.

This was such an emotional trauma for me, I haven't wanted to think about it, but now I am and it makes me sick.

[TCO]

Say NO TO SOCIALISM.

NO TO BAILOUTS.

KEEP THE FREE MARKET INSTEAD.

[Steve Diamond]

There are two issues here and they are apples to oranges.

There is the Capital/Asset Ratio aka the Capital Adequacy Ratio. This measures, in a simple model, the cash on hand as a percentage of loans made by a bank.

Then there is the Capital/Debt ratio, which measures the capital of the bank on hand relative to the money borrowed by a financial institution from lenders to finance the purchase of assets.

So Tom you are right about the first ratio: if the USG buys assets off the balance sheet then it reduces the CAR so that in fact the institution can now make "good" investments and still meet its CAR requirements (say, 10 to 1).

But Krugman is right about the second concern. To the extend the financial institution has also borrowed heavily (short term) to buy up assets that pay off long term it may have a very high debt to capital ratio. If that capital is not supplemented by an equity purchase for example then it does not improve under the Treasury's plan unless the bank uses the cash it gets from the USG to pay down some of its debt. But if you pay off debt you do not make new "good" loans and you are still stuck.

That is the potential limit of the T-plan. It only stops the bleeding. It is a triage measure but it does not rehabilitate the patient.

[M. Simon]

Say NO TO SOCIALISM.

NO TO BAILOUTS.

KEEP THE FREE MARKET INSTEAD.

Say yes to a great Depression. It will be cathartic. People will starve. But you know. Starvation is good for the poor.

So yeah.

Of course if Congress would allow increased drilling we could pay for the bailout in years out of the increased taxes drilling would allow.

[Ponzi Paulson]

"Of course if Congress would allow increased drilling we could pay for the bailout in years out of the increased taxes drilling would allow."

That is a good idea. Start drilling today.

Nationalize Exxon to balance the Ledger!

[M. Simon]

The need is to de-Nationalize the ownership of the oil. Normal taxes will do the rest.

[JM Hanes]

M. Simon:

Looks like your Congressional liaison was too slow off the mark:

Dems say they won’t get fooled again

[GMax]

That is the headline JMH but if you read the story, it more about Dems trying to get what they can and a fair amount of respect expressed for Paulson. I dont find an oversight board objectionable and probably a good idea ( depending upon whom they select).

I think Schumer knows that Manhattan might go back to the Indians if there arent any financial institutions left in NYC, and he will corral the Dems in the Senate. The House, who knows.

I think the longer this drags on, the worse the accrimony will get from both sides. Best to take the castor oil in a big gulp.

[clarice]

Has Congress ever looked more extraneous and ridiculous?
Has the world grown far too complex for this assembly of assclowns?