All roads leading to
Price Controls
1. The WS Jrnl reports that the big banks that received TARP money in the early fall went on to reduce lending in the last quarter of 2008. This seems to disappoint and surprise most commentators.
The big banks will continue to suck up and then hoard every drop of credit offered by the fed/gov’t, because they’re afraid that their paper insolvency leaves them vulnerable to the kind of confidence crisis that killed Bear and Lehman and Wachovia.
They are insolvent in the sense that their assets have declined so dramatically as to leave liabilities overweight. The assets have declined largely due to a confidence problem about the methodologies used to create and forecast performance of structured finance instruments like mortgage bonds and CDOs.
The most responsible thing the gov’t can do to cure the insolvency crisis is replace current accounting with a price control regime that would allow the banks to mark their wounded assets in accord with performance instead of (non existent) market value.
2. Obama and the Congress seem focused on the big stimulus package, as if this were 1933 — when the big banks were healthy and the government was a global creditor.
And when they do get around to the banking system, they talk about how to spend the remaining $350 bln TARP money. Going nowhere.
The stimulus bill should be passed. But it should be number two on Obama’s list, and in any case is the Congress’s baby. Team Obama should be focusing and acting on the banking system, where the institutions of the Executive are the point men.
Left to wonder what’s going on between the president’s ears, the financial media are awash in talk of the Second Wave of major bank failures and renewed calls for revoking mark-to-market accounting and/or going back to the original TARP idea of buying the wounded mortgage bonds and the like from the banks.
Or even nationalizing the banks (which in a sense isn’t saying much, given that Citigroup has already received over $40 billion in cash and $300 billion in guarantees — and could be bought in toto today for about $20 billion):
Privately, most members of the Obama economic team concede that the rapid deterioration of the country’s biggest banks, notably Bank of America and Citigroup, is bound to require far larger investments of taxpayer money, atop the more than $300 billion of taxpayer money already poured into those two financial institutions and hundreds of others.
But if hundreds of billions of dollars of new investment is needed to shore up those banks, and perhaps their competitors, what do taxpayers get in return? And how do the risks escalate as government’s role expands from a few bailouts to control over a vast portion of the financial sector of the world’s largest economy?
Bill Seidman is the wise old banker who piloted the Resolution Trust Corporation that bought up failed Savings & Loans 20 years ago and turned a profit for the government. Last week on the tube he said that neither nationalization nor reversion to the original TARP idea won’t work because recent experience shows that the wounded MBS etc cannot be accurately priced.
But further comments showed that what he meant is NOT that a “hold-to-maturity price” (Bernanke’s term) is unfathomable, but, rather, that in October the banks and the feds couldn’t agree on a sale price.
That is:
– Treasury didn’t want to pay best guess hold-to-maturity because that would be assuming all risk and paying all/most value to the miscreant banks.
– And the banks weren’t willing to take anything in the neighborhood of (non-existent) market value.
In other words: The problem is not that a performance-based price cannot be decently estimated. It’s that the principals don’t want to transact at those prices.
THUS a fortiori: Instead of buying the wounded assets, the feds should prescribe controlled prices for them (segmented demographically across the wounded sectors of the structured finance universe).
These controlled prices would be based on short-term trailing performance (how much interest actually being paid and how much principal actually being lost) and best guesses on housing price and foreclosures for coming six months or so. Prices would then be adjusted quarter by quarter.
The banks would get immediate write-ups to something near best guess hold-to-maturity price, while retaining risk going forward.
The feds would have to do a ton of spreadsheeting and regulating, but would not have to lay out the several trillions more that Paul Volcker spoke of this week while introducing Tim Geithner.
The market for mortgage bonds and related has been broken for 18 months, and the markets for credit card bonds are not much better. Broken markets do not always fix themselves. These are not.
Price controls WERE in the toolbox during the postwar era (Eisenhower, Kennedy, Nixon) — until the owner-operator class realized in the 80s that globalization was the ticket and got laissez-faire religion.
People who spent their formative years watching Age of Reagan television have driven the global economy into the ground. It’s time to bench them, and open the toolbox.
ed says:
Rumor-stories this evening that Obama-Geithner will indeed be buying wounded mortgage bonds and the like from the big banks.
How will they breach the gap between sellers (banks) and buyer (feds) that ruined this original TARP idea in October? We shall see.
If it comes off, it should have a positive effect in the markets.
The Fed too announces a big program to buy and re-write mortgages.
January 27th, 2009 at 10:14 pm
ed says:
1. The details of the House version of the stimulus plan are ugly and stupid.
No GOPhers voted yes despite warm entreaties from the president, who has been embarassed in his first big legislative battle.
Why does the White House keep speaking of it as Obama’s plan? It’s the work of the House leadership. Pelosi (to repeat myself) should not be in charge over there. The House plan has deprived the Donkeys and Obama of the high ground.
2. Treasury under Geithner today seems to have banged its nose on the same thing Paulson ran into during the early days of TARP. The buyers (feds) and sellers (banks) cannot agree on a sales price for the wounded assets.
Seidman’s solution — a “bridge bank” that would buy the banks entire, then pull out the bad assets and hold them in Treasury, then resell the banks into the private sector — gets around the Pricing problem because the wounded assets are extracted during the time when the banks are owned by Treasury.
Ie, at the moment the bad assets are extracted from the corporate corpus, Tsy is both buyer and seller.
The other solution to the same basic problem, as I’ve said ad nauseum, is price controls. No transaction here either. The banks get some of that juice — between performance price and (non existent) market price –
in writeups and then retain performance risk forward.
Seidman’s plan is more ambitious and a comprehensive cure. Price controls are a partial cure — a cure for current badwill on those assets due to lack of a market.
January 29th, 2009 at 3:39 pm
ed says:
The news today is that Team Obama has run into the same brick wall on buying wounded assets as Paulson did, and that alternatives are being considered.
There AREN’T many alternatives …
January 30th, 2009 at 3:17 pm