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Posts Tagged ‘MBS’

Official Corruption

If it isn’t obvious from open borders and lunatic wars in Libya, it should be obvious that our leaders do not work for us but instead work for a vaguely defined transnational ideology insofar as the Federal Reserve apparently loaned billions–and risked the wealth of Americans–in using its “discount window” to lend cash to cash-strapped foreign banks.  Not only this, the Federal Reserve concealed this fact on the theory that to reveal who is using its lifeline might endanger the solvency of its users.  Of course, if a private business concealed its borrowing it would run afoul of securities laws and such would be considered fraud on the market, but banks–and apparently foreign banks too–are a special case, given special treatment reserved only for royalty. Indeed, their special treatment is a betrayal of the transparency and rule of law that were the main strength of the American economy until recent times.

It may be argued that these foreign banks are major creditors of the US entitled to special treatment, but no such revelation is forthcoming in the Bloomberg article with respect to the discount window users.  Indeed, these banks have been given special treatment many times over inasmuch as the Federal Reserve has rescued investors in mortgage-backed-securities at the expense of the American taxpayer and the American currency. We now have $3.50 a gallon gas and a continuing freefall in housing, and all of this stems from the idea that we can have an economy built on subterfuge and accounting gimmicks rather than real wealth creation.

Let’s never forget the Federal Reserve was introduced to avoid the evils of the business cycle.  But as evidenced from the Great Depression forward, its inflationary monetary policies and blatant picking of winners and losers have done more to harm the economy than the old gold standard ever did.  Indeed, the chief value of a gold standard is to decentralize and depoliticize the role of government in monetary policy by creating a neutral, market driven money supply the value of which (i.e., inflation and deflation) rise and fall with the demand for money and the needs of the real economy.   It may mean slower economic growth, but it also means less wealth-destroying inflation and destabilizing bubbles.  Since gold and the dollar were de-linked in the 1970s, gold went from the fixed $35/ounce to about $1,420 today.  This suggests, quite plainly, that inflation is a huge force over time that masks the lack of real wealth creation and the lack of real productivity in the economy.

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If we’re going to be spending tons of money on helping banks and dying, mismanaged companies, would it be too much to ask that the redistribution does not go from the productive 25% or so of this country to the risk-preferring .0001% on Wall Street, but that these huge sums actually goes to homeowners in some plan that injected capital into their pockets or forgave their debt in the process? Perhaps such a plan would allow those with reasonable prospects of repayment to pay down 25% of principal or lock in 5% notes over 40 years or something else that actually will not quickly blow up in the government’s face. Wouldn’t this be preferable to the current scheme whereby the housing-induced insolvency for banks is resolved by moving huge sums of taxpayer dollars around from AIG to Goldman or Credit Suisse and then back into the pockets of a few sovereign wealth funds, hedge funds, bank bond holders, and the like?

I mean, I’m not for any of this, but between helping Bear Stearns, GMAC, and AIG with capital infusions and helping average guys who are upside down on their houses, I guess I’d rather just have good, old-fashioned wealth redistribution. After all, the latter arguably would help more people, cut out the middle man in the form of the banks getting direct cash infusions and FDIC leverage, and would at least spread out the benefit of the inevitable inflation that we will face as result of the Treasury’s abject terror at the prospect of a few big banks’ failing. Welfare at least is more transparent and likely to create some Republican (and renter) backlash in comparison to the dishonest claims of “investment,” “emergency,” and Rooseveltian prescience surrounding the bank bailouts.

Of course, the banks have in reality failed, and they are insolvent. The loss is simply being spread to the taxpayers and the few well run banks through FDIC premiums. None of these measures will replace the huge sums of lost wealth nor lead to more lending–for housing or anything else.  Why?  Because the whole economy is uncertain, malinvested, and buried under huge sums of debt undertaken in times where we collectively foresaw a rosier future, and Obama’s reactive responses to these phenomena increase uncertainty, which is a major impediment to wealth creation and risk-taking economic behavior.

What exactly is propelling this Democratic Tribune of the People to spend so much money and political capital to bail out mismanaged bank shareholders and bond holders, who in effect endorsed the banks’ acquisition of huge positions in MBS and ABS products? I don’t think, like Clinton, he is a kind of globalist pro-capital guy, who wants to help international capital so long as DC gets a slightly larger cut. Judging by his rhetorical clumsiness on this issue, it seems more likely that Obama is acting out of a combination of ignorance, fear, and insecurity. After all, it would take real philosophical vision of free markets or a philosophical commitment to Krugman-style redistribution to stare down Bernanke and Geithner in a game of chicken. Obama has effectively outsourced the most important policies of his administration to these Wall Street lackeys, preferring instead to strong arm Detroit into making flying cars and spending time to gin up exquisitely nuanced youtube videos for the Iranian censors to jam.

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There are probably a million ways to game the Geithner bailout plan, just as the TARP has already led to various unintended consequences, such as the continued provision of generous bonuses by AIG and the Merrill Lynch purchase by BofA. James Galbraith has a good article on this today.

The whole premise of the bailout is that these “toxic” assets comprised of various tranches of bonds secured by mortgages are worth a lot more than the market will presently pay for them.  Is this true?  Yes, their cash flows are in order for now, but there are impending waves of foreclosures and defaults as these loans reset in the next few years. 

The Geithner plan amounts to a bribe to investors.  Invest 7.5 cents, TARP will invest 7.5 cents, and the remaining 85 cents will come from the FDIC. Yes, that FDIC, it being the most important component of stability in our banking system that is supposed to be rock solid in all circumstances. If things go wrong, the 15 cents from the private investors and the TARP are wiped out in the manner of equity, but the FDIC has no recourse other than managing, foreclosing, and then unloading these properties. The FDIC will be in the position of foreclosing upon hapless homeowners, but it will face obvious political pressures to play ball with doomed workouts to help the unlucky. We’ll get to see how good of a landlord Obama is when his role is not “community organizin'” but salvaging value from broke people for the FDIC. My guess: not a very good one.

Under the Geithner plan, banks will sell their “toxic” assets at whatever price they want. Under this scheme, the hope is that somewhere above today’s 30 cents or less in value. The idea is that they’re “really” worth somewhere closer to 60 or 70 cents on the dollar, and that having the banks now take 70 cent (as opposed to 30 cent) losses would be an unnecessary and short-sighted exercise with systemic consequences.

But banks and investors like to make money and avoid losses. That’s in their blood. Why wouldn’t a bank take 7.5 cents of its own deposits to buy certain assets from itself at the requisite 60 or 70 cents, in spite of the fact though the assets are in fact only worth 30 cents, when 85% of the bid price is nonrecouse pain absorbed by the FDIC?  I mean, why not bid 100% if it’s just a question of minimizing losses. That way they can still reduce their collective exposure to 10% or less of what it was, because they would take no losses now and push them off into the future. At most, the gap of 70 cents from actual (i.e., 30 cents) to the $1.00 par value would only cost 7.5 cents to wipe out, and the cost of 92.5% of that shift would be borne on a nonrecouse basis by the FDIC with the remainder by the TARP? Why wouldn’t bank A and bank B do this for one another on a handshake if the self-purchase was too unseemly or prohibited?  What rules would prevent that?

Tim Geithner’s and Obama’s bullishness in general and their talk about the real value of the assets ignores all the impending defaults on the underlying mortgages.  As I already stated, they are probably worth 30 cents at most, and that generous estimate too depends on the continued vitality of home buyers on the scene who will set the market price for the various overpriced and oversupplied 2004-2006 homes. This whole plan shifts the worst banks’ risks on to the most responsible banks and ultimately the taxpayers by giving the FDIC and the Treasury the bill: specifically, at least 92.5 cents of exposure on this plan for every dollar of losses avoided by the banks. Who knew Obama would become the worst banks’ best friend?

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