September 22, 2008

CRASH TALK SEPTEMBER 22

Washington Post - Democratic leaders have broadly embraced the administration's proposal to spend up to $700 billion to take troubled assets off the books of faltering firms and are not questioning the need to give the Treasury Department expansive authority to halt the meltdown in world markets. But by attempting to limit executive pay, they risk alienating key Republicans who object to such restrictions and delaying passage of the rescue plan, which in turn may stir renewed fear in the markets. . .

Under the proposal drafted by House Democrats, the Treasury would be required to force faltering firms that want to sell their troubled assets to the government to "meet appropriate standards for executive compensation." Those standards would include a ban on incentives that encourage chief executives to take "inappropriate or excessive" risks, a mechanism to rescind bonuses paid for earnings that never materialize and limits on severance pay. . .

The Democratic measure also would require the Treasury to use its status as the new owner of billions of dollars in mortgage-backed assets to reduce foreclosures by forcing banks to rewrite loans for distressed homeowners and forgive a portion of their debt. And it calls for a strict regimen of oversight, including independent audits and regular reports to Congress.

Senate Democrats yesterday were still assembling a list of provisions they hope to add, including new powers for bankruptcy judges to modify mortgages on primary residences, an idea House Democrats said yesterday that they had abandoned. . .

"It's the biggest amount of money with the least amount of detail I think I've ever seen in my life," said Douglas W. Elmendorf, a Brookings Institution economist who has worked in the Treasury Department and at the Federal Reserve. "The secretary does whatever he wants and spends whatever he wants."

Lawmakers across the spectrum are demanding more oversight of the bailout. House Democrats have the most specific proposal, which would order the Government Accountability Office to establish a permanent outpost within the Treasury to monitor the bailout program. That office would have unfettered access to the activities and financial documents of the rescue program, and would be required to submit reports to Congress every 60 days. . .

Sean-Paul Kelley, Agonist - Dear Senator Obama: Having worked for many years in the banking industry and been closely involved with risk management and derivatives, I can tell you that it looks like catastrophe is already here.

What Sec. Paulson wants you to believe is that catastrophe is approaching, but it can be averted if only Congress acts urgently to give him the extraordinary authority he is requesting. The implication is if you don't give him $700 billion in borrowing authority within a week, markets will collapse and it will be all your fault.

We've seen this drill before, with the Patriot Act and with the Iraq War authorization. The scare tactics, the urgency, the implied threat of blame for any failure - this is what the Bush administration does. Some of you in the Senate were able to stand up to this pressure, and that type of strength is desperately needed now.

If insolvency is here now for the big banks, the last thing you want to do is throw $700 billion of money that is not yours at bailing out the banks who created this disaster. You'll need every bit of that money to protect the taxpayers and their deposits in these banks when these financial companies are thrown into the bankruptcy courts. You'll need that money to make sure consumer deposits are protected with insurance, and you'll need it to keep the healthy parts of these banks that deal with consumers and businesses functioning until they come out of bankruptcy.

And forget about comparing Paulson's plan to the RTC. These L3 assets aren't homes, condos, or commercial real estate that can be easily sold at the right price. They are bits of paper giving the bond holder the right to some small portion of thousands of mortgages, a right that is shared with all the other investors, who are required to agree on what is done with foreclosed properties in the pool. This is one of the reasons no one wants to buy this stuff, and no one will for many years until it is crystal clear what the final losses will be.

Once you give Paulson the authority he seeks, he will buy these securities at 65 cents/dollar, then quietly auction them off at a nickel each. It will be "unfortunate but necessary" to revitalize the banking industry, even though you will discover the banks won't be lending after this is all over to any but the finest credits. You will have rewarded the banks for their calamitous decisions, stuffed the taxpayers with huge losses, squandered your remaining ability to shore up the FDIC, not prevented the big banks from collapsing anyway, done nothing to help the community banks that will constitute the new banking system in this country when these problems are solved, and in the end made the situation much worse.

If you want to do something practical, require the SEC to go into these banks, open up their L3 holdings to public scrutiny, auction off a sampling of these securities, and apply those prices to the L3 portfolios of all the banks. In this way we will know which banks are insolvent. You won't need to go through this charade of having the Treasury take ownership of these assets, because the core of the problem is not that these assets are clogging up bank balances sheets, as Paulson says (which is tantamount to saying, by the way, that no one will buy them). The core of the problem is that there is no transparency about these portfolios and their real worth. Congress doesn't need $700 billion of our money to create that transparency, and if it shows as I suspect that many of these banks are insolvent, that's why we have bankruptcy courts. You can certainly protect the banks from bank runs while they are in bankruptcy.

Paulson is basically rolling you and the rest of Congress into giving him unprecedented power to protect his friends on Wall Street. This decision you are making is probably as momentous as the Iraq War resolution. Don't fall for this bailout disguised as the only way to prevent Armageddon. Armageddon is already here - at least for the big banks - and it needs an entirely different solution. Spend our money protecting us, by ensuring the FDIC is properly funded, by throwing these too-big-to-fail banks into bankruptcy if they truly are insolvent, by preserving the healthy parts of these banks while in bankruptcy, and bringing them back out again so they function under much better safety and soundness regulations. We've had airlines functioning properly and safely for years while in bankruptcy, and there is no reason we can't do the same with banks.

Please, please, do not fall for some useless compromise or bipartisan agreement that gives the administration what it wants in the end. Kill this proposal here and now, protect us from this bailout, and deal with the real problem - the insolvency of the major banks, not the paper that is supposedly blocking their lending capabilities.

Willaim Greider, The Nation - If Wall Street gets away with this, it will represent an historic swindle of the American public--all sugar for the villains, lasting pain and damage for the victims. My advice to Washington politicians: Stop, take a deep breath and examine what you are being told to do by so- called "responsible opinion." . . .

Christopher Whalen of Institutional Risk Analytics, a brave conservative critic, put it plainly: "The joyous reception from Congressional Democrats to Paulson's latest massive bailout proposal smells an awful lot like yet another corporatist lovefest between Washington's one-party government and the Sell Side investment banks.". . .

The scandal is not that government is acting. The scandal is that government is not acting forcefully enough--using its ultimate emergency powers to take full control of the financial system and impose order on banks, firms and markets. Stop the music, so to speak, instead of allowing individual financiers and traders to take opportunistic moves to save themselves at the expense of the system. . .

A serious intervention in which Washington takes charge would, first, require a new central authority to supervise the financial institutions and compel them to support the government's actions to stabilize the system. Government can apply killer leverage to the financial players: accept our objectives and follow our instructions or you are left on your own--cut off from government lending spigots and ineligible for any direct assistance. If they decline to cooperate, the money guys are stuck with their own mess. If they resist the government's orders to keep lending to the real economy of producers and consumers, banks and brokers will be effectively isolated, therefore doomed. . .

Paulson and the Federal Reserve are trying to replay the bailout approach used in the 1980s for the savings and loan crisis, but this situation is utterly different. The failed S&Ls held real assets--property, houses, shopping centers--that could be readily resold by the Resolution Trust Corporation at bargain prices. This crisis involves ethereal financial instruments of unknowable value--not just the notorious mortgage securities but various derivative contracts and other esoteric deals that may be virtually worthless. . .

If government acts responsibly, it will impose some other conditions on any broad rescue for the bankers. First, take due bills from any financial firms that get to hand off their spoiled assets, that is, a hard contract that repays government from any future profits once the crisis is over. Second, when the politicians get around to reforming financial regulations and dismantling the gimmicks and "too big to fail" institutions, Wall Street firms must be prohibited from exercising their usual manipulations of the political system. Call off their lobbyists, bar them from the bribery disguised as campaign contributions. Any contact or conversations between the assisted bankers and financial houses with government agencies or elected politicians must be promptly reported to the public, just as regulated industries are required to do when they call on government regulars.

More important, if the taxpayers are compelled to refinance the villains in this drama, then Americans at large are entitled to equivalent treatment in their crisis. That means the suspension of home foreclosures and personal bankruptcies for debt-soaked families during the duration of this crisis. The debtors will not escape injury and loss--their situation is too dire--but they deserve equal protection from government, the chance to work out things gradually over some years on reasonable terms.

The government, meanwhile, may have to create another emergency agency, something like the New Deal, that lends directly to the real economy--businesses, solvent banks, buyers and sellers in consumer markets. We don't know how much damage has been done to economic growth or how long the cold spell will last, but I don't trust the bankers in the meantime to provide investment capital and credit. If necessary, Washington has to fill that role, too. . .

Michael Hudson, Global Research - The last time the government let banks earn their way out of negative equity was in 1980. Interest rates to bank customers topped 20 percent, driving down prices for real estate, stocks and bonds so low that the leading U.S. banks saw their net worth wiped out. Their debts to depositors and bondholders exceeded the collateral they held in their reserves to back these deposit obligations. But as soon as Ronald Reagan led the Republicans back into office, the Federal Reserve began to flood the economy with free credit, driving down the interest rates that banks had to pay. They were allowed to act as a monopoly and keep credit-card interest rates high, at 20 percent, and above 30 percent with penalties, thanks to the fact that America's high post-Vietnam interest rates led state after state to repeal anti-usury laws to keep credit flowing. . .

It is bad enough for the government to buy $700 billion of bad bank investments at prices that no private-sector investor has been willing to approach. This itself is an undeserved giveaway to the financial institutions that caused the problem by living recklessly in the short run. But making them - and indeed, helping them - pay back this gift with the aid of favorable tax and deregulatory policies will simply shift the cost off their shoulders onto those of bank depositors, credit-card users, mortgage borrowers and hapless pension-fund contributors to the money managers who have taken most of the current income in the form of commissions, salaries and bonuses to themselves. This will sharply add to the price of doing business in the United States, and specifically to the economy's debt overhead by the banks making even more predatory loans.

It gets worse. In order for the existing junk mortgages to be "made good," real estate prices must be raised further above the ability to pay for this year's five million homeowners in arrears and facing default. Is this a good thing? Is it good to raise access prices for housing even more, forcing new homebuyers to go further into debt than ever before to gain access to housing? Mr. Paulson has directed the Federal Reserve, Fannie Mae, Freddie Mac and the FHA (Federal Housing Authority) to re-inflate the real estate market. They are to pump nearly a trillion dollars into the mortgage market.

Fiscal policy is also to be brought to bear to turn the real estate market around by pressuring cities and states to "help homeowners pay their mortgage debts" by cutting property taxes. The idea is to leave more revenue available for property owners to pay mortgage bankers. Unfortunately, this will oblige cities to make up these cuts by taxing labor and sales, running deeper into debt than they already are, or cutting back their spending on basic infrastructure, education and public services and continue shortchanging their pension funds. This is the price to be exacted to "protect the taxpayer's interest" by bailing out irresponsible banks. The solution is to let them make even more money by acting in a yet more predatory way. . .

Mr. Paulson has made it clear that aid for homeowners is not part of the Treasury's plan. On Sunday, September 21, he resisted suggestions that his program be amended to include further relief for homeowners facing mortgage foreclosures. . .

You hear no talk from Mr. Paulson or Mr. Bernanke about bailing out homeowners by writing down their debts to match their ability to pay. This is what economies have done from time immemorial. Instead, the Republicans - along with their allied Wall Street Democrats - have chosen to bail out investors in junk mortgages presently far exceeding the debtor's ability to pay, and far in excess of the current (or reasonable) market price. The Treasury and Fed have opted to keep fictitious capital claims alive, forgetting the living debtors saddled with exploding adjustable-rate mortgages and toxic "negative amortization" mortgages that keep adding on the interest (and penalties) to the existing above-market balance. . .

To appoint a single regulator would prevent all other regulators - and law enforcement officers, attorneys general, the SEC and so forth - from enforcing honest financial policies in the event that an incoming president should appoint another Greenspan, Gonzales or other ideological extremist averse to the idea of applying existing regulations and honest laws. Under these conditions "consolidated regulation" would mean a free ride for crooks much like J. Edgar Hoover gave the Mafia under his tenure.

Justin Raimondo, Anti War - The policy of bank credit expansion, which enriches the already wealthy at the expense of the rest of us, has a fatal allure. It induces an initial euphoria, the false promise of permanent prosperity. This Panglossian view is the perfect economic system for an emerging empire, especially one with such inflated pretensions as ours. It is the economics of hubris - the same grandiosity that let us imagine we could implant "democracy" in the arid soil of Iraq and make the desert bloom. . .

The failed policies that led to our current economic predicament - the whole system of central banking and fiat currency - are precisely those policies that benefited those who are now demanding to be bailed out. . .

When the bill comes due, American taxpayers - and grieving parents and loved ones of the fallen - will have to pay, while the authors of our suicidal foreign policy get off scot-free. . .

What's becoming increasingly clear is that the bailout brothers are all members of the same clan: think of them as a Mafia family, with a strict hierarchy of authority and command, albeit an informal one. At the top is the Don, finance capital, which controls the engine and sits at the dashboard pressing buttons according to a pattern: first inflation, then deflation, boom then bust, peace and then war again. But the bailout boys always parachute to safety before disaster envelopes the rest of us. Which is why failure only emboldens them.

Our rulers really do believe their empire is too big to fail, but of all the would-be lords of creation, our own ruling elite may have the shortest reign - and the hardest fall. . . For the truth of the matter is that the very bigness of the American Imperium, the sheer scope of its rulers' ambition, is precisely what is fated to bring about its downfall, and a very messy and painful descent it will surely be.

Dean Baker, Prospect - Those waiting for any mea culpas from the Washington Post editorial will have to wait a bit longer. Instead of acknowledging its failure to report accurately on the circumstances that led up to this crisis, the Post is using it as an opportunity to push its agenda for cutting Social Security and Medicare. The reasoning powers of the Post's editors are still lacking. The loss of trillions of dollars of equity in housing has just wiped out most of the wealth of baby boomers nearing retirement. Their dependence on Social Security and Medicare will be greater than ever as a result (and these people vote). That's what happens when you rely on David Lereah (the former chief economist of the National Association of Realtors) as your main source on the real estate market. . .

When the government supports a bailout, it is not directly creating demand for new goods and services. It is simply ensuring that money that we thought was already there (e.g. funds in a money market account) does not disappear through a financial collapse. No one is going to spend more because their savings account did not disappear. (They obviously would have spent less if their savings account actually did disappear.)

For this reason, the cost of this bailout (like the S&L bailout in the 90s) should be considered an addition to the debt, but not part of the annual deficit. That doesn't make it cheap, but the people who try to scare us with lines about $900 billion or $1 trillion deficits in 2009 are being dishonest. Adding $500 billion to $1,000 trillion to the national debt is a big deal (and it shows the cost of ignoring a housing bubble), but it should not be an excuse to ignore important social needs, like fixing the health care system.

Naked Capitalism reports receiving this e-mail from a reader - I worked at [Wall Street firm you've heard of], but now I handle financial services for [a Congressman], and I was on the conference call that Paulson, Bernanke and the House Democratic Leadership held for all the members yesterday afternoon. It's supposed to be members only, but there's no way to enforce that if it's a conference call, and you may have already heard from other staff who were listening in.

Anyway, I wanted to let you know that, behind closed doors, Paulson describes the plan differently. He explicitly says that it will buy assets at above market prices (although he still claims that they are undervalued) because the holders won't sell at market prices. Anna Eshoo pressed him on how the government can compel the holders to sell, and he basically dodged the question. I think that's because he didn't want to admit that the government would just keep offering more and more.

Joshua Holland, Alternet - The plan doesn't specify what, if anything, U.S. taxpayers will get in return for their largesse. The government isn't spending more than a trillion dollars to nationalize failed institutions in order to protect stakeholders and liquidate those overvalued assets in an orderly manner. That might make a lot of sense, and it would essentially make Joe and Jane taxpayer owners of something that might rebound in value down the road.

Instead, Bush's proposal would take bad paper off the books of institutions that are ailing but haven't yet gone belly-up, and we wouldn't necessarily get a stake in those institutions; they'd only become "financial agents of the government," according to the draft released Saturday.

As Paul Krugman notes, "historically, financial system rescues have involved seizing the troubled institutions and guaranteeing their debts; only after that did the government try to repackage and sell their assets.". . .

Making matters even worse is the fact that it's almost impossible to put a fair market value on this massive pile of bad debt. As Peter Goodman of the New York Times notes, "no one really knows what this cosmically complex web of finance will be worth, making the final price tag for the taxpayer unknowable. One may just as well try to predict the weather three years from Tuesday.". . .

What's clear is that there is going to be a massive transfer of public wealth to the private sector, and at least the lion's share of that cash, if not all of it, will end up in the hands of an investor class whose recklessness got us into this mess in the first place. . .

Without fear of a regulatory backlash, the banks pushed their new investments hard, and investors gobbled them up with glee. Writing in the Columbia Journalism Review, Dean Starkman cited reports from the business press about loan agents at Ameriquest being ordered to watch "Boiler Room," the film about sleazy financial brokers pushing bad investments on gullible retirees (Ameriquest was a predatory subprime lender that went down last year). Starkman quoted an executive with Morgan Stanley's mortgage unit as saying, "It was unbelievable. We almost couldn't produce enough to keep the appetite of the investors happy. More people wanted bonds than we could actually produce."

In the end, investors were basically buying up paper that had only a distant relationship with anything concrete. The link that had long existed between homeowners and lenders was broken, and debt -- in this case debt tied to housing, but also commercial and consumer debt -- became a hot investment vehicle. . .

With the Bush administration pumping more than a trillion dollars into the private sector, Jim Bunning, the junior senator from Kentucky, lamented that the "free market for all intents and purposes is dead in America." As more mainstream economists talk about the possibility of sliding into a full-blown depression, we may well be in the grip of a kind of economic "Grotian Moment." The term, named for the 17th century Dutch legal philosopher Hugo Grotius, describes an event that has such a great impact that it results in fundamental changes to the prevailing system.

Reader John Halle suggests a 80% tax on all accumulated intangible assets above $50 million.

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