Mar 25, 2009
Though the stock market may have
lifted off on news of Treasury Secretary Timothy Geithner's purchase
plan for toxic assets, don't be fooled by Wall Street's optimism. The
plan is even worse than the one floated by Geithner's predecessor,
Henry Paulson, last fall. At least Paulson wanted the government simply
to buy the banking industry's junk outright-and spend less doing so.
Under Treasury's complicated Public-Private Partnership Investment
Program, which was unveiled on Monday morning, Geithner wants to strike
a deal with private investors who wouldn't touch these assets without
serious incentives. The program will essentially give investors between
$500 billion and $1 trillion dollars-at this point, what difference
does half a trill make?-of spending money to go shopping for the bad
assets that banks are dying to get off their books. And the kicker? The
White House says the private sector is doing us a favor.
the rosiest scenario, the assets will have some value one day. In that
case, the government will have entered the hedge and private equity
fund prime brokerage business. That is, the business of lending money
to private funds backed by small amounts of collateral that the funds
themselves post. In this instance that collateral would consist of-you
guessed it-toxic assets. Remember, it was all the leverage, or
borrowing, in the system that created the current mess. Surely, someone
in Washington must question how more leverage, on the back of the same
toxic assets, makes sense. At any rate, if this strategy pays off,
private investors would profit more than the government, or taxpayers,
because they risked less capital to buy the assets in the first place.
But here's another possibility: The assets have little or no value,
because they have no incoming cash or no buyers-otherwise known as the
situation we're presently in. To this day, we don't even have any
knowledge of what exactly these assets are. The government won't tell
us because the banks won't tell the government. And if the assets zero
out, the private investors will largely be covered. The taxpayers, of
That plan is based on the assumption that private funds want to
bother with any of this. One thing's certain, though: The sweeter the
deal the government makes to entice investors to buy assets they'd
otherwise have no interest in, the worse it is for taxpayers. That's
the brand of capitalism that was at work before this crisis, and it
seems to have survived the economic collapse intact.
Geithner told the Wall Street Journal last week, "Our
judgment is that the best way to get through this is if we can work
with the markets...We don't want the government to assume all the risk.
We want the private sector to work with us."
The private sector helped create and spread a toxic stew of
derivatives. Yet Geithner's strategy to "fix" the financial system is
to ask its riskiest, most opaque players-the companies that shirked the
most in taxes and were led by the execs who made the most money during
the build-up years-to buy the system's junky assets in order "to
cleanse it." And this will come after $350 billion of capital
injections and trillions of dollars of Federal Reserve loans haven't
fixed the problem.
On top of this, Geithner doesn't think investors who participate in
his program should be subject to any restrictions. No executive pay
caps, no nothing. Moreover, the toxic assets to be brokered under this
plan will be selected by the players that have not been able to unload
them so far. It's like going to a used car dealership and saying to the
car salesman, "I've got $100,000 to buy whatever you have to sell me,"
and expecting him to provide you with his most valuable inventory.
Of course, bank stocks rallied on this cheery news. The Dow perked
up like a heroin addict about to get a fix. Why wouldn't banks welcome
the chance to participate in a government-sponsored program to clean
their polluted balance sheets, where their old clients, the same ones
who wouldn't be caught dead purchasing these toxic assets, could be paid for participating?
This is how Christina Romer, chair of the White House Council of
Economic Advisers, described the plan on Sunday night: "What we're
talking about now are private firms that are kind of doing us a favor,
right? Coming into this market to help us buy these toxic assets off
banks' balance sheets." She added, "They are firms that are being the
good guys here-coming into a market that hasn't existed to try and help
us get toxic assets off banks' balance sheets."
Which good guys? The financial firms that had their profits taxed at
25 percent rather than at 35 percent, like the rest of us, and made
oodles of money in 2006 and 2007 before their bad bets greased the way
to an economic collapse? Or the ones that bet housing-related
securities would fail, in a self-fulfilling manner?
I've never been a fan of any toxic asset purchase plan (nor of the
capital injection through stock purchase plans). Randomly buying a
bunch of heavily layered, heavily leveraged securities and expecting
them to be profitable some day has never made sense to me, especially
when nothing is being done to bolster the underlying collateral. The
White House and Treasury Department are throwing money at the banking
and finance industry, while simultaneously doing little about the loans
and borrowers at the bottom of the crisis-not to mention the very risky
and overleveraged structure of the banking system itself.
The administration is caught up in crafting big plans to solve the
problems of big banks. Instead, it should be dissecting the system into
transparent, quantifiable, and understandable parts-and then dealing
with those elements that can and should be assisted. Geithner ought to
jettison the too-big-to-fail nonsense and keep it simple: Break up the
banks into their commercial and speculative parts, and separate the
assets along similar lines. Let the speculative parts die, and tend to
the rest. As it stands, the present solution-propping up the entire
system in a complex, highly leveraged manner that depends on the
kindness of the culprits that caused this mess-is a colossally
expensive exercise in bipartisan stupidity.
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