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Tuesday, September 23, 2008

A Stranger Reader Asks…

posted by on September 23 at 11:00 AM

Why should the bailout plan be structured as a purchase of bad assets? I’m no expert, but it seems that features of this plan necessarily include:

(a) a premium price (why would the government need to step in to pay fair market value? Indeed, Bernanke said today the bad-asset buy would be at “hold-to-maturity” prices—if I understand this correctly, this would be far in excess of fair market value, because it wouldn’t discount for risk—in many cases this would surely be greater than the troubled firms paid for these loan pools in the first place);

(b) the need for a massive loan workout operation which inevitably will involve outsourcing much of the work to the very firms who helped create the problem, with massive fees for doing so;

(c) putting the government in the position of foreclosing on or otherwise playing hardball with its distressed homeowner-citizens; and

(d) no effect on the internal workings or policies of the firms being bailed out.

What such a “plan” amounts to is the House covering the markers of the biggest whales among its high rollers. “Sorry for the inconvenience Sir. Let me cover that for you. Now, may I interest you in the Royal Suite tonight? I’m sure your luck will change tomorrow.”

Here’s what should happen instead: Allot $700 billion for the Treasury to purchase stock in affected securities firms. Any firm wanting the taxpayers’ cash must bid for it on a competitive basis. The Treasury may select bids based on a variety of factors affecting the public interest. These may include price, rights and preferences of the shares being purchased, participation of the Treasury on the Board of Directors, internal reforms involving executive compensation and investment decision-making, and the adoption of policies to relieve mortgage borrowers, such as variable interest-rate freezes and extended forbearance from foreclosure.

In contrast to the Paulson Bad Asset Buy, a Competitive Purchase of Equity would keep the firms’ feet to the fire in managing these bad assets, would avoid a costly and disruptive new government loan workout program, would assure the public a participation in the eventual upside, and would enable progress on the related public purposes of executive compensation reform and relief for distressed borrowers. Wouldn’t that be fairer for all Americans?

This Stranger reader may not be a finance expert, but he is a business lawyer. (Hi, Bob!) Mr. Golob, what do you think?

RSS icon Comments

Posted by V | September 23, 2008 11:07 AM

Well the bidding part is what the treasury wants. Its a reverse auction where firms bid down price in order to sell.

As for foreclosing. If you really want the gov't to be able to help, it is best if they hold the mortgage. No need to get lenders to play along. Jut renegotiate the terms.

Ideally the Treasury gets the price right. Too high you get inflation, to low deflation. The idea is to set a price, give firms capital, and restart the market for these securities.

Posted by Giffy | September 23, 2008 11:09 AM

I love Bob. And Blake.

Posted by Jubilation T. Cornball | September 23, 2008 11:28 AM

(a) Perhaps, but this isn't entirely clear. There is currently a downward price spiral in which people who would hold these assets at today's prices sell them because they are afraid they won't be able to sell them tommorow, thus causing the price to fall futher. Just knowing that the government will be there to buy might stop the spiral.

(b) The plan is not to buy the loans, it's to buy the MBSs. The companies currently processing the loans would continue to process them.

(c) See (b). The government would just buy the MBSs. In theory, the owners of the MBSs have no control over how the mortgages are administered. (In practice, the government is very big and powerful, so it could undoubtedly influence mortgage administration in many ways if it wanted to. But it wouldn't have to.)

(d) The policies of the firms involved have already changed: risk models and tollerance have been massively revamped, mortgage lending standards are much more conservative, etc. The market took care of that part.

What does need to happen is that those responsible for the poor practices of the past are punished. Obviously, the market would take care of that, too, if we were to just let these firms fail. But since we are going to bail them out, we need to insure that the previous stockholders loose all or most of what they would have lost in the absence of a bailout. That means the government ought to get an equity stake proportional to its bail-out of each firm. This is the key way that the plan needs to be changed. (And this is what most economist critics of the plan are focusing on, but executive compensation and aid to homeowners.)

Posted by David Wright | September 23, 2008 11:32 AM

We're nationalizing the banks! I don't know if it's good or bad to have the gov't owning Wall Street, but it's a real kick that the Bush administration's last act is presiding over the socialization of the financial industry.

Posted by Eric F | September 23, 2008 12:02 PM

The Dutch auction sounds just great, except that I don't believe the firms involved are above colluding with each other to artificially inflate the prices, and frankly, some of this garbage isn't worth the change I have in my pocket. This is a huge handout.

The AIG model is what works for me. We got equity, control, and it was a loan, not a gift. If we broke up AIG and sold its component parts, we could make a nifty profit off our $85 billion loan. If we tried reselling this shit, we could maybe get a scone.

Posted by Gitai | September 23, 2008 12:12 PM

Don't forget, these are the same people who agreed to forbid the government from soliciting competitive bids from the drug industry. Screw you taxpayer--you're paying full retail. Bad things happen when the light of day is no where to be seen.

Write your Senator and Congressperson today and let em know how you feel:

Posted by Westside forever | September 23, 2008 12:15 PM

I read in the WSJ that Treasury would do the purchases through a reverse auction. Maybe they're worried that a reverse auction would cause more panic selling and are changing their approach.

I'm thinking that this engineered looting of national treasure is Wall Street's way of betting that Republicans lose the November elections. It's not historically uncommon for unseated aristocrats and autocrats to empty the coffers as their rivals march on the capital. Didn't Pompey steal Rome's gold as Caesar crossed the Rubicon? (or is that just on HBO?)

Posted by Curmudgeon | September 23, 2008 12:18 PM

the governmment caused this problem as much as wall street did. from the subsidies for home ownership to the lack of will or ability to enfrce reglations to the unintended conseqencees of legislation passed, to the cheap money, to the innability of a bureaucracy to identify problems quickly. to lay this all on wall street is just short sighted and ignorant.

Posted by Bellevue Ave | September 23, 2008 12:23 PM

@9: Ah, but who bought the influence to get Congress to look the other way?

Posted by Greg | September 23, 2008 12:30 PM

@4. Thanks--you should've written the post in the first place! Are you sure loan admin functions aren't being transferred along with the securities? NPR--Your Source for Financial News--had a story on today with a bunch of economists and other experts fulminating about the likelihood that administration would be outsourced to the private sector. Which seems inconsistent with it staying put despite the sale of the securities. Also, I see how a govt. purchase might stop the downward spiral, but why is Bernanke talking about paying near hold-to-maturity prices? If the auction is honest, shouldn't the pricing fall quickly to a point approaching current FMV? Teach me, #4!

Posted by fixo | September 23, 2008 1:44 PM

Further procrastination from work reveals much insight courtesy of Josh Marshall's smarty-pants readers:

Posted by fixo | September 23, 2008 2:10 PM

fixo @ 11:

I also saw Bernanke saying he wants to pay closer to face than market value. Apparently he doesn't believe that mere price stability is enough, but wants to actually subsidize credit availability.

I didn't hear the NPR story that mentioned "outsourcing administration". If I had to give a guess, I'd guess they are refering to the decisions about how much of which securities to buy from which firms, not the administration of the mortgages behind them.

It's pretty clear this plan is still fuzzy and evolving, and given the political pushback we are seeing, it will probably evolve for a while longer. That's probably why the markets opened higher this morning, but closed lower as the degree of pushback became clearer.

Posted by David Wright | September 23, 2008 3:06 PM

Don't do it! Write to your representatives now and tell them "NO FUCKING WAY we should bail out the rich"! This is more Republican lies and theft. Stop it now! G.W. wants us saps to salvage his legacy. And we should not do it. FUCK HIM!

Posted by Vince | September 23, 2008 3:19 PM

@10, what government allows itself to be influenced by anything but the desire to distribute public goods

Posted by Bellevue Ave | September 23, 2008 3:21 PM

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