Rescue efforts too late to keep the economy running well

The chart originated at the web site Calculated Risk.

Paul Krugman makes a very important point about the rescue actions that Paulson and the administration are trying to set in place. They have acted too late to keep the economy from going into recession. Here's Krugman's exact quote:

This reinforces a point I’ve been trying to make: even if the rescue now in train succeeds in unfreezing credit markets, the real economy has immense downward momentum. In addition to financial rescues, we need major stimulus programs.

What follows is my impression.

Paulson hadn't figured out that the credit crisis that was destroying his beloved Wall Street banks was going to require that he and the Bush administration take over those banks until the British government showed him the way and Paulson watched the market reaction. Even then he did so begrudgingly and with caveats which will probably make it slower and less effect than the bail outs the European bankers are conducting. At least that is what the European reaction to Paulson's actions predicts.

Paulson isn't going to initiate any stimulus actions until it is too late for them to be effective, either. He is a conservative banker who creates and sells deals, not an economic theorist who has a broad understanding of how the economy works and what it takes to change it. The difference in thinking between the two disciplines because obvious when the original "Paulson Proposal" was offered and it became clear that it was a bankers' proposal which no significant economist supported and many actively opposed.

Here's why the politicians fought against regulation of Wall Street banks

The $700 billion taxpayer giveaway to the Wall Street banks was passed and signed into law yesterday in hopes that throwing money at the problem will solve it.

"In hopes..." Yeah that's all it is because no one really knows what's in the bailout bill or how it is supposed to work. All the politicians know is that when they objected to handing out large gobs of taxpayer money to no one knows who for no one knows what last Monday, the Dow Jones Industrial Index chastised them by dropping $777 the same day. So they got scared they wouldn't be reelected and handed out the taxpayer funds as fast as they could.

How did Congress and Wall Street let this mess get so bad? Wall street fought regulations that would have prevented it tooth, nail and with many, many dollars to politicians, and the politicians happily played along and let themselves be bought. Here's the story from McClatchy News:

Since 2001, eight of the most troubled firms have donated $64.2 million to congressional candidates, presidential candidates and the Republican and Democratic parties, according to data from the nonpartisan Center for Responsive Politics.

The donors include investment bankers Bear Stearns, Goldman Sachs, Lehman Brothers, Merrill Lynch, Morgan Stanley, insurer American International Group and mortgage giants Fannie Mae and Freddie Mac. Since March, with the exception of Goldman Sachs and Morgan Stanley, all of these companies have been bailed out by the government, sold to other companies at deeply discounted prices or simply failed.

Both political parties have become beholden to Wall Street.

Legislators failed in several instances to conduct oversight hearings or to raise concerns as the Bush administration adopted rules that fed the mortgage frenzy and set Wall Street on a path to disaster. [Snip]

Some state regulators, recognizing early signs of trouble in housing markets, sought help from Congress when the Bush administration adopted rules barring states from enforcing tough laws targeting predatory lending — the practices that were enabling unqualified applicants to obtain subprime mortgages.

With Wall Street serving a key role in buying, bundling and reselling subprime mortgages, state officials couldn't get Congress to intervene, said John Ryan, the executive vice president of the Conference of State Bank Supervisors.

"You could say that the finance industry got their money's worth by supporting members of Congress who were inclined to look the other way," said Lawrence Jacobs, the director of the University of Minnesota's Center for the Study of Politics and Governance.

"When the spotlight's on, sometimes reason carries," Ryan said. "But when it's not on, all of the influence is overwhelming." [Snip]

"It's unusual that Congress lets a major new program go through without at least oversight hearings," Coffee said. "And they didn't happen."

After the SEC changed its rules, Coffee said, Merrill Lynch's and Morgan Stanley's debt-to-equity ratios soared to 40-to-1 and 37-to-1 respectively from the old limit of 12-to-1, leading to Bank of America's $50 billion purchase of Merrill and contributing to calls for a bailout to rescue Morgan Stanley and other Wall Street giants.

The banking committees also took no action when the Department of Housing and Urban Development adopted a rule change that made it easier for mortgage brokers to collect hefty incentive payments for arranging loans with above-market interest rates for marginal buyers.

The panels also watched from the sidelines when the federal Comptroller of the Currency preempted more than 30 state attorneys general from enforcing state laws holding investment banks liable for predatory lending practices on subprime mortgages.

Ryan, of the Conference of State Bank Supervisors, said he was "cut off at the knees" when he tried to fight the Bush administration's ruling on predatory pricing regulation.

He said the state officials agreed to "make as much noise as we can," but recognized that they were facing banking and securities industries with enormous influence from years of financial support to members of Congress.

This is the Reagan Revolution at work. Anyone trying to get a loan today can see the inevitable result of the Reagan Revolution so-called "free market."

At last! This week of mostly conservative-instigated stupidity, lies and corruption is over!

About the only thing positive that can be said about this week is that it's over. Between the conservative-caused destruction of the American banking system and its associated theft of unbelievable amounts of money from taxpayers by Congress on the one side and the utter idiocy of having to take the concentrated ignorance, immorality and ambition of Tracy Flick Sarah Palin reading note cards to the American voting public as she avoids answering questions on national politics, this weeks has reached a new low in American history.

Ian Welsh nails the bailout stupidity.

Who cares if the government is massively incentivized to protect the value, even assuming the government cares which is far from clear to me since for this plan to do anything it has to buy at far above market value? They're going to be sold the shittiest parts of the shitpile by far because what would you sell to them if you were the banks? Think about it. This stuff isn't called toxic waste for nothing. MBS's may have something behind them, but much of what's going to be sold are massively internally leveraged instruments like first loss bonds, credit default swaps, and other noxious stuff that hardly even has a name. Much of it won't even be mortgage based, and that which is won't necessarily give clear title to the mortgage proper (you can sell different parts of the mortgage to multiple different MBSs). The 700 billion will probably be gone before Obama even gets in power, so you're not betting on what Obama will do, you're betting on what Paulson and Bush will do. Furthermore Wall Street is already saying 700 billion won't be enough. (So, ok, you might be betting what Obama will do with the next 700 billion or so.) [Snip]

Exactly as written this is a huge giveaway of government money to private interests. That is its purpose. It is meant to bribe banks into lending to each other again. "Sure, it's not profitable to loan at below inflation, but we're making it up to you by buying your shit."

Of course, it is nice to know that our political leaders currently campaigning to become President and Vice President are taking the destruction of the American economy for the next two generations seriously and want to do something about it. That's clearly demonstrated in the seriousness with which last Thursday's "debate" between Joe Biden and Sarah Palin was taken.

Oh, wait. Sarah Palin was there. The "debate" was actually a great "Let's shove Palin up the ass of the American voters and see if they will notice." Aden Renkei of ph33r and loathing caught the zeitgeist very nicely.

Sarah Palin is a stupid, self important, ignorant bitch who I wouldn’t put in charge of wiping her own ass. And it’s not just that she’s dumb - which she is - it’s that she’s willfully ignorant of the facts and yet absolutely dead-bang certain that she’s right about her opinions. It’s more of this “governing from the gut” bullshit that we’ve been Chimping along with for the past eight years. I don’t know why it’s a taboo to say someone is too dumb to be President. Hell, most people don’t have the kind of mental sharpness necessary. That’s why it’s so important to pick the right person out of an entire country of potential leaders. But Sarah Palin? She’s not even worth considering. She’s fucking dumb, okay? [Snip]

I’d like to do a bit of a run down. A list, if you will, of the things we’ve learned about Sarah Palin from her very limited, groomed, handled private interviews with Charlie Gibson and Katie Couric.

• Sarah Palin isn’t sure what the Bush Doctrine is. She couldn’t even take a wild guess. Everyone who heard her ask “In what respect, Charlie?” knew it, no matter what sort of semantics argument you want to get into over what different meanings that phrase has encompassed.
• Sarah Palin doesn’t know that Freddie Mac and Fannie May weren’t being funded by the federal government before their collapse.
• Sarah Palin thinks that the $700 billion bailout has something to do with health care costs.
• Sarah Palin can only name one Supreme Court case - Roe v. Wade. She couldn’t even conjure up Dred Scott, which even Bush was able to do in the second debate with John Kerry. Speaking of Bush, she couldn’t think of Bush v. Gore. Or Brown v. Board of Education. Or Hustler v. Falwell. Or FCC v. Pacifica (Carlin’s seven words). Or, and this is most stunning of all, Exxon v. Baker - concerning the Exxon Valdez. A case which rendered a ruling during her time as Governer of Alaska, and about which she made public statements in protest of the decision.
• Sarah Palin either could not or would not name a single newspaper or magazine that she reads. She couldn’t think of one. Not the New York Times, the Daily News, the Washington Post, the Chicago Tribune. Not Time, Newsweek, U.S. News & World Reports. Hell, she couldn’t even think of a local paper in Alaska. Sarah Palin, by the way, has a degree in Journalism. No shit.
• Sarah Palin cannot name a single instance of John McCain favoring regulation of industry, despite being more than willing to lie right into the camera and say that McCain has been championing regulation for twenty-six years.

There’s probably more, but I could be here all night. The point is, she doesn’t know shit about shit. She has opinions - uninformed ones - and she’s sticking to them come hell or high water.

Click the link to ph33r and loathing, scroll down a bit and look at Renkei's most excellent flowchart that shows how Palin dealt with the debate questions. Or click the Mark Kleiman link Palinflow for the same flowchart.

It's hard to watch the vacuous Palin acting like someone who is significant and then watching the media lap it up and treat her seriously. The media is wasting its resources on her as the American economy is restructured on the fly in ways that will make America a much poorer nation for the next two more more generations.

Consider "The Wink" that Palin threw out at the end of the "debate." That was exactly like the wink that a topless dancer on stage throws at a guy in the audience who she thinks she can induce to give her a tip for taking off her clothes. Palin thought it was "cute." I can see what McCain saw in the aging cutesy beauty queen, but it damned sure had nothing to do with choosing someone to become President if President McCain died in office.

Palin, for all her flaws, is not at fault for the way she has been inflicted on the American public. John McCain did that.

It is a clear demonstration that McCain doesn't have the judgment necessary to be President. Instead of working to resolve the economic disaster that the Reaganite conservatives have bequeathed to America over the last three decades, John McCain has chosen the incompetent Sarah Palin as his Veep to shock and occupy the media and to simultaneously gather the support of the social conservatives. Actually, there is good reason to think that McCain is not yet aware that the bail out bill is about serious economic problems and not just another inside-Washington political exercise. The Palin crap is the direct result of John McCain's desperation to win the Presidency before he dies. Chalk it up to McCain's over-sized ego and lack of good judgment.

Sadly, it has worked. Now all he has to do is to run his lying super-negative campaign for the next five weeks and hope that his roll of the dice will succeed.

Who cares what happens to America as long as the privileged McCain gets elected President at last. The fact that America is spinning down the toilet in front of our eyes doesn't matter as long as John McCain's super-sized ego is satisfied, Right?

The bail-out scam

What's wrong with the Bail-out legislation? It doesn't actually fix anything, that's what. So why is everyone so panicked when the Congress didn't pass the bail-out?

What does it mean: "the bail-out bill doesn't fix anything?"

From Paul Krugman we get this explanation.

Via Yves Smith, a very nice piece by John Hussman laying out the balance sheet issue:

Let’s return to the basic balance sheet of a typical financial company before the writedowns:

Good Assets: $95
Questionable Assets: $5
TOTAL ASSETS: $100

Liabilities to Customers: $80
Debt to Bondholders: $17
Shareholder Equity: $3
TOTAL LIABILITIES AND SHAREHOLDER EQUITY: $100

Now let’s write down the questionable assets - not all the way to zero, but to $2:

Good Assets: $95
Questionable Assets: $2
TOTAL ASSETS: $97

Liabilities to Customers: $80
Debt to Bondholders: $17
Shareholder Equity: $0
TOTAL LIABILITIES AND SHAREHOLDER EQUITY: $97

This shortfall of protection on the liability side of the balance sheet is what causes a run on the institution, because once shareholder equity is gone, the only way to get at the debt to bondholders is for the company to declare bankruptcy.

Hussman then explains why the Paulson plan as originally sold didn’t provide any real answer to the problem:

The Treasury plan seeks to buy up those questionable assets and thereby protect the institution against failure. Problem is, suppose the Treasury buys those questionable assets at their going value of $2. Here’s the result:

Good Assets: $95
Cash Proceeds from Sale of Questionable Assets to Treasury: $2
TOTAL ASSETS: $97

Liabilities to Customers: $80
Debt to Bondholders: $17
Shareholder Equity: $0
TOTAL LIABILITIES AND SHAREHOLDER EQUITY: $97

Does this transaction protect the institution against failure? No! If you buy the bad assets off the balance sheet at their market value, nothing changes on the liability side!

Some of the Democratic add-ons may actually change things economically, but the basic bail-out bill will not.

But everyone says failure to pass the bail-out bill will cause the Great Depression to reoccur!

Really? Here's Dean Baker on the subject:

That's easy. You ask the bleating D.C. Intellectuals how failure to pass the bailout will give us a Great Depression.

The odds are that your favorite DC intellectual type has uttered some dire warning like that. After all, they all heard some authority like President Bush or a highly respected news reporter make such a claim. All right-thinking people know that we just have to give $700 billion to the Wall Street crew or the economy will collapse.

While all right-thinking people might know we need the bailout, just about all right-thinking people don't have a clue as to what they are talking about.

The Great Depression story is of course the most extreme case. No one has yet sketched out the sequence of events that will give us ten years of double-digit unemployment. But hey, if the scare story helps get the bailout passed -- and gets those uneducated skeptics in the hinterlands to buy it -- why not talk about the Great Depression?

So why would the Bush administration try to panic the sheep D.C. Intellectuals about the economy?

Read the Shock Doctrine by Naomi Klein. Bush is coming to the end of his eight year term, and his ability to convert America into a plutocracy will end with his Presidency on January 20, 2009. If he can tie up $700 billion dollars of taxpayer money, then the incoming President will not be able to pass universal health care, improve American education, or even make an effort to rebuild the middle class which the conservative movement is dedicated to destroying.

Think that the 700 plus point drop in the stock market Monday means anything? Yeah. It did. It means that the Bush administration flacks could frighten a lot of stockholders into selling stock. But the next day, most of it was bought back at decent prices. The Stock market is not the economy. It is the froth that rides on the economy. It is emotional and highly volatile. One day is almost nothing. Wait and see if the credit markets remain frozen up, and if they do, then that matters. Unfortunately, nothing in the bail-out bill directly addresses the credit markets. It's just going to make a lot of very wealthy men even more wealthy because money the federal government is going to tax from the middle class is going to be handed to them to continue gambling with.

One thing that has happened in 2008 with remarkably little mention. The U.S. now has three mega banks with no real competition. Citibank, Bank of America, and J.P. Morgan Chase. Talk about too big to fail! The U.S. has never seen anything like them.

The whole thing is quite disgusting, but any nation willing to turn control of itself over to its wealthiest members - its plutocrats - probably deserves what they are getting. A plutocracy. That's why the bail-out bill will pass in much the same form it was when Henry Paulson handed it to Congress.

Whats wrong with the bail out bill

From Naked Capitalism:

Nouriel Roubini Really, Really Hates the Bailout Plan

Did we say really? Even by the normal standards of Roubini's tendency to hyperventilate state his case forcefully, the good professor rises to levels of choler heretofore unseen.

Roubini focuses on many of the issues we have discussed in our earlier posts (most notably this one) but he teases out some of the issues in more detail. And he really hates it, whoops, I think we covered that already.

His big bones of contention are, like ours:

1. The plan is inefficient (ie, it doesn't discriminate between who ought to be saved or not, and in fact rewards those who created dud assets)
2. It runs counter to the best models of how to deal with this sort of problem
3. It does not punish current shareholders or management

This is by Yves Smith who is read by Paul Krugman.

The battle of the bail out has only just started. It will be a feature for the next decade or more

The Congress is nearing an agreement to pass the $700 billion dollar [*] bail out for Wall Street, with a bit of tinkering added to meet the Democratic objections to making the Wall Street Executives even richer because they have destroyed the banking system, and with a fig-leaf voluntary insurance “plan” to meet the objections of the House Republican no-nothing caucus. Something is going to be passed, but it will not be very good and it will have to be revisited frequently for a long, long time.

Does the bail-out have to be passed right now? Probably. Paulson and Bush have set up the apparent urgency so that if it is not passed very quickly (right before the election) then Wall Street and world-wide bankers are going to panic. Of all the Bush administration power grabs, this is the most audacious.

This huge giveaway is designed stop the next president from being able to successfully act to alleviate the problems of the recession. The money will be gone, the problem will be growing and there will be fewer tools available to adequately stimulate the economy.

Is the bail-out going to work? Well, it’s marginally better than no action at all (the preferred response of the idiotic House Republican Caucus and John McCain), but the economist with the best record for predicting what was going to happen next over the last couple of years, Nouriel Roubini, does not think it is likely to do very much. The plan has been written without consulting economists who know what they are doing. It is essentially a political plan, not an economic plan.

Specifically, the Treasury plan does not formally provide senior preferred shares for the government in exchange for the government purchase of the toxic/illiquid assets of the financial institutions; so this rescue plan is a huge and massive bailout of the shareholders and the unsecured creditors of the firms; with $700 billion of taxpayer money the pockets of reckless bankers and investors have been made fatter under the fake argument that bailing out Wall Street was necessary to rescue Main Street from a severe recession.

The Treasury plan is a disgrace: a bailout of reckless bankers, lenders and investors that provides little direct debt relief to borrowers and financially stressed households and that will come at a very high cost to the US taxpayer. And the plan does nothing to resolve the severe stress in money markets and interbank markets that are now close to a systemic meltdown.

The next President, if he has any economic smarts (McCain does not), will have to spend money on infrastructure and alternative energy to stimulate the economy by creating jobs, while reforming health care to take the cost burden off of businesses and reduce overall expenditures. Nothing else will alleviate the problems the recession is going to cause. Unfortunately, actually solving the problem is anathema to the conservative Republicans. They are already performing the rituals which will call on the magic of the market to somehow change things. That is a prescription for a long, deep recession much like the one that started in the late 1920’s.

The argument needs to be made right now that the government will have to spend a lot of money to keep the economy from continuing its downward movement. If the argument is not made right now, then this bailout of Wall Street – which ignores Main Street - is going to be the only shot allowed. John McCain has already started his talk that government is spending too much money and can't afford to spend more no matter how bad the need. He said it Friday night during the debate when he called for a freeze on government spending in the face of the recession. That’s the conservative Reagan Revolution Herbert Hoover small government argument. It is also the prescription for a long and much deeper recession. When McCain loses this Presidential election he is going to go back to the Senate and lead the Republican obstructionists. They are going to be doing everything in their power to prevent the government from doing what has to be done to save the economy – spend money.

The battle of the bail-out will not end this week, although a bill will be passed. It has only just started, and it will be a major feature of American politics for the next decade or more. It’s one more element of the legacy of disaster willed to America by George W. Bush.

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[*] Just the way the $700 billion dollar number was arrived at tells you how bad the bill is going to be. The Wall Street Banker Henry Paulson knew that his home, Wall Street, had to be bailed out. The number that was being bandied around was $500 billion dollars.

But the problem as Paulson saw it was that bankers needed to be convinced that the government was going to be serious about bailing them out, so Paulson took the $500 billion dollars and increased it by an amount he felt the Wall Street bankers would consider a serious number. The new number was $700 billion.

He had planned on using the typical Bush administration steamroller tactics to get the Paulson Proposal passed, which is why it gave no details about what was going to be done with the money and allowed no oversight by anyone.

Only Paulson overlooked the fact that the new number, big enough to awe the bankers, was also big enough to shock the Congress and the American people. Suddenly he and Bernanke found themselves facing serious questions, and they had to come up with explanations for things they had not yet thought of. It turned out that no one was willing to write the blank check Paulson had initially demanded without at least some discussion, even if (like the mortgage bankers who caused the credit crisis in the first place) no one was asking for serious documentation.

Unfortunately the shocking number - $700 billion dollars, remains the base number to work from. There is no real consideration of the fact that is is a number literally pulls out of Paulson's ass one Thursday night to present to Congress the following day.

By now, no matter what the final bill looks like, it is going to be built on this legacy of ignorance, deceit greed and stupid power politics instead of economic and financial rationality.

The bail out bill is a bad one. It's time for Congress to walk away.

Do we really need a bail out deal? Not according to economist James K Galbraith.

President Bush and his Treasury secretary, former Goldman Sachs chief executive Henry Paulson, have warned of imminent economic collapse and another Great Depression if their rescue plan isn't passed immediately.

Is that true?

"It's more hype than real risk," said James K. Galbraith, a University of Texas economist and son of the late economic historian John Kenneth Galbraith. "A nasty recession is possible, but the bailout will not cure that. So it's mainly relevant to the financial industry."

It's sort of a strange crisis. The banks will currently lend to credit card customers and to consumers, but they won't lend to other banks. So Henry Paulson is asking Congress to tax every American over $2,000 just to bail out the wealthiest bankers in the world. But those superwealthy bankers are in trouble because their fellow bankers are either so stupid or are are such disreputable crooks that other bankers don't trust them enough to loan them money.

Henry Paulson presented "the Paulson proposal" to Congress in his own name because Bush is so unpopular that presenting it as the Bush Proposal would be a major strike against it. But Henry Paulson is the ex-Chairman of the last of the five largest financial banks, Goldman Sachs to disappear since this Spring. Paulson is not an economist. He has a Harvard MBA. He's primarily a securities salesman. His job has always been to make deals. Someone else was the analyst who explained the overall system. (I know it's not "either/or", but Paulson is still primarily a deal maker.) Paulson is watching the investment banks which have been his career disappear. Sure he wants them saved. But should the rest of American society have to pay to save them? Those banks haven't added that much value to the American economy. $700 billion dollars? And that's just the down payment?

Buying the bad mortgages from the banks simply does not address the central problem. Millions of families have signed crappy mortgages in order to severely overpay for homes. Now Bush/Paulson demand that the taxpayers buy those crappy mortgages at the inflated prices to keep the banks from having to take the loss that was built into those mortgages when they were issued. Making the taxpayers buy those crappy mortgages does not address the core problem! It just removes those mortgage contracts from the banks that created them and forces taxpayers to buy them. That allows the banks to avoid taking the loss that was built into the overpriced mortgages when the banks first issued them.

The banks do not want to take the loss when home prices drop to realistic levels. That's why the bankers are calling the proposal that Bankruptcy Judges be allowed to rewrite mortgages to realistic interest rates, realistic payments and total values that reflect what the market will pay for the property. This is a power that the judges already have for second homes and yachts, but the banks consider that provision a deal-breaker for any Congressional bail out legislation.

The core economic problem causing the credit crisis and the bank failures is that the housing bubble (created by Alan Greenspan's Federal Reserve) caused massive overpricing in homes and real estate loans. That real estate was financed by loans that banks made to individuals and businesses who were not going to be able to pay them if the housing bubble burst. When Greenspan raised interest rates after Bush was reelected in 2004, he burst the housing bubble he had created by lowering interest rates and encouraging bad loan underwriting before the 2004 Presidential election.

A banker who lends money to someone who can't pay it back deserves to fail. Instead those bankers are being allowed to foreclose on the overpriced property, regain ownership and then resell it. But the bankers can't finance that operation unless the other bankers lend them more money, and the other bankers have decided that they don't trust the ones who want to borrow money enough to lend anything to them. Apparently these bankers have suddenly gotten "banking religion." They won't lend money to other bankers who don't look like they can pay the loans back. If the mortgage bankers had been competent and acted the same way, there would not have been a housing bubble! No housing bubble, no credit crisis. There is the cause of this whole mess.

So now the Bush administration wants to tax all of us to bail out the crooked and stupid bankers because if the government won't kick in the money, the bankers themselves don't trust the other bankers enough to lend them money.

Now we get a tag-team match of Henry Paulson going to Congress to tell them "This is a limited time offer! If you don't buy it NOW I can't guarantee your safety tomorrow!" while George Bush went on TV and told the American public "Get Congress to pass this bill NOW or the disaster cannot be prevented!" That's a tag-team match between a salesman, Paulson, urging everyone " Buy now!" and a habitual liar and fool, Bush, saying "Trust me!"

There is going to be a recession. There already is one, but I suspect that the economic statistics published by the Bush administration have been "adjusted" or "fudged" to look better than they really are. No matter what legislation passes, the Recession is going to be a bad one. But the warnings of an economic meltdown are excessive.

Congress needs to take its time and get the bail out legislation right. Most importantly, the bankers who caused this credit crisis must not be rewarded for their stupidity and greed. Especially they must not be rewarded out of taxpayer funds. Any time a sales person/scammer says "You have to buy this NOW or you will lose it!" the best decision is always to walk away.

If there is a decent deal to be made, the salesman will come back to make a reasonable deal. If there is not a reasonable deal to be made, then walking away is the right solution.

McCain's credit crisis behavior - the man is panicking

It seemed pretty weird when McCain announced that he was "suspending his campaign" (but apparently not suspending the advertisements in swing states), canceling the Presidential debate Friday, and flying back to Washington, D.C. to lead Congress in resolving the credit crisis.

Of course, McCain hasn't done anything in the senate since April and economics "isn't his thing," so there is some doubt regarding what he could do besides wait for the real Congressional leaders to come up wits some kind of legislation and then step out to the media and take credit for it. But it got even more weird. Here is a collection of video that starts out with McCain begging off the Dave Letterman show to fly back to Washington and then going down the street to give an interview to Katie Couric. Dave is quite properly incensed.



Senator Boxer then points out that John McCain was basically curling up in his corner with a blanket wrapped around him because there were too many things to handle.



OK. Cancel the Letterman show. Try to cancel the Friday debate and reschedule it in place of the Vice Presidential debate, which the interview Katie Couric had with Sarah Palin clearly showed Palin will simply not be able to deal with. Here is Dave Letterman when he found out that McCain had lied to him.



McCain convinced Bush to call both him and Obama to Washington to meet with Congressional leaders to try to push through the Paulson Proposal.

Only it didn't work. Instead of working to get legislation through Congress, McCain did whatever he could to scuttle the work that had been done. (Some leadership!)

So what we have is a floundering prima donna Presidential aspirant who has no interest in either economics or legislation to begin with who uses the Wall Street credit crisis as an excuse to bail out of previous commitments on the campaign trail which he knows he cannot deal with well, then he flies into Washington and works to scuttle the Congressional legislation that was painstakingly worked out in his absence because if it passes he can't take credit for it.

What it comes down to is that John McCain is doing his best to make sure no one resolves the Wall Street credit crisis without involving McCain front and center. Since the Democrats aren't going to vote a party line vote for a Wall Street bail out that McCain votes against and let McCain and the Republicans use that vote against Democrats in the November election, McCain can prevent any deal from occurring. He may not be able to get a deal, and it begins to look like he doesn't want one, but he can prevent any Wall Street bail out.

It's not a case of McCain putting "Country first." It's John McCain first, last and always and no one better misunderstand that or he'll make sure no one gets anything done. Some fracking leadership!

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Addendum 7:51 pm CDT
The pundits are not impressed by McCain's attempt to "suspend" his campaign.

McCain always follows up a failed (or stale) gimmick with another, one equally outrageous. I wonder what the next one will be. I'm pretty sure we can count on at least one in the last two weeks before the election, but that's a long way off. There will be another in the intervening period.

From Krugman: Paulson solution is to throw money at the problem without understanding it

Paul Krugman suspects that Paulson and Bernanke had no idea what to do about the credit crisis except to throw money at it. The "explanations" for how the bailout will work have been dreamed up only ex post facto - after they realized that Congress wasn't going to just give them a blank check with no explanation of how it would be used and no oversight as they requested in the Paulson Proposal.

Assuming Krugman is correct, the sequence of decision-making was

1. Admit that there was a serious banking problem the private sector could not deal with which was bleeding over into the real economy.

2. Decide to throw money at the problem. Ask Congress for $700 billion. The amount was a guesstimate of what they thought was going to be needed to convince the banks that the government was going to protect them (about $500 trillion), plus a fudge factor.

3. Get the money from Congress and the taxpayer. Avoid questions by slipping Section 8 (the "No one including the courts can demand oversight or accountability provision") into the law Paulson asked for. Get the law passed without Congressional discussion.

4. Oops. Recognize that Congress is not buying the Paulson Proposal as written.

5. Dream up a rationale for how the bail out will be conducted. The cost ($700 billion) has already been published. Just dream up ways to use it.

6. Tell Congress whatever Congress will accept. Change story as needed.

Or in other words, this is more conservative Republican Bush administration "magic-based" thinking.

This isn't an uncommon form of decision-making. The second largest spending decision most people ever make is to buy a car. Most people go to the car lot, briefly talk to a salesman and look at some cars, quickly fall in love with one of them, buy it, and then, only after the real decision was made, spend several weeks researching and justifying the decision they have already made. That's the typical car-buyer's decision model, one the car salesman encourages.

Paulson is a securities salesman. He succeeds by getting someone to buy the product, not from providing a careful analysis and explanation of what he is selling. It is no surprise to find a salesman encouraging Congress to use the typical car-buyer's decision model.

700 billion dollars won't be enough

Bill Gross of PIMCO says "The banking system needs another $500 billion to survive beyond the $700 billion rescue plan being contemplated by Congress."

At last - someone with a bit of knowledge being honest. As to the additional amount needed - well, it's at least clear that $700 billion will not be enough.

Bush to speak tonight; will preempt the TV show "Criminal Minds"

Bush is to go on TV tonight to try to convince the American public to support the Paulson Proposal.

It seems incredibly ironic that Bush is going to use the time slot normally filled by the TV show "Criminal Minds."

"Real reform now - or nothing!

What happens to the Paulson Proposal in Congress depends on trust. But there isn't any. First, listen to Marcy Kapture.



Paulson has walked in to Congress and dropped the Paulson proposal and demanded that they pass a bill that gives the Secretary of the Treasury $700 billion dollars to spend as he wishes with no oversight. But they don't trust him.

Supposedly Paulson is going to buy the bad mortgages from the banks so that they can recapitalize themselves and start lending again. This won't work unless the government overpays for the mortgages, of course, and if it is done, then the bankers go right back to getting richer than before. The taxpayers lose by paying higher taxes. A major problem is how much the government pays for the toxic loans that the bankers created and which are now preventing the banks from lending them more money.

Here's the problem with buying the loans The economists call it information asymmetry. Again, Congress quite rightly doesn't trust the Wall Street banks that have caused the current credit crisis.

Whether it is true or not that the banks themselves cannot tell right now which mortgages are the bad ones and which are the good ones, I will guarantee that by the time they start selling mortgages to the government they will be able to tell the difference. Data mining? Some other computer technique? The data is sitting there in their computers and the profit is all the incentive they need. The government buyers will not have access to the information, of course.

Once the banks can tell which mortgages are toxic and which profitable, guess which ones they will be selling to the government? Call it a "Gresham’s Law of mortgage sales." Bad mortgages will drive out good. Those will be the only ones the government buys.

The government is going to get screwed out of a lot of taxpayer money and a lot of Republican bankers will make millions, just as happened with the Resolution Trust Corporation.

We taxpayers don't trust Congress any more than we do the Bush administration. We taxpayers are going to be taxed so that the money can be handed to some of the wealthiest individuals in America. As David Kay Johnston stated in his very revealing book, Free Lunch, that's not new. What is new is the scale of the fraud and the way it is being perpetuated in the last months of the extremely crooked Bush administration.

In the meantime, Congress totally distrusts the Bush administration. Every time they tried to trust the administration they have gotten screwed. The Iraq war is only one of many such events. But there there is the way the Bush Secretary of the Treasury presented the skimpy Paulson Proposal. The phrase to remember is "This is a limited time offer. You have to buy it now!" The Paulson Proposal is a scam you have to decide on now or Paulson claims he will not be responsible for the disaster your delay will cause.

Anyone who has ever been scammed can see this one coming. The Bush administration is no better than the Wall Street banker, the Gypsy or the beggar when any of them tell a sad story and asks for money. It's a scam designed to tax our money out of our pockets and put it into the pockets of some of the wealthiest and most immoral men in the U.S. - Wall Street Bankers.

This lack of trust also effect Senator McCain. The story I have heard is that this lack of trust puts John McCain into the position of determining what Congress does. If Congress presents a bailout bill and he votes for it then the Democrats can also vote for it because he will not be able to use their vote against them in the November election. If McCain votes against a bailout bill, then so will the Democrats because of the election. No one trusts what McCain says. They will vote whichever way he does so he cannot use their vote against them in the upcoming election.

One thing that the Marcy Kaptur video that started this article made very clear - the Democrats are very aware of where the power of Congress comes from. It's not from the power of logical debate or from the vote of the sovereign people. It comes from Congress' ability to say no to the Executive when the Executive is in a hurt and asking them for help. That means Right Now, not next year.

Right now the Congress cannot trust the executive, so the Paulson Proposal is dead. No one can trust anyone to make a deal now that they will honer later. So Marcy Kapture has it right - it's either real reform now, or nothing now.

It all comes down to distrust.

There's some hope for Congress - not so much for the Paulson Proposal

Treasury Secretary Paulson, Federal Reserve Chairman Bernanke and Chairman of the SEC Chris Cox testified before the Senate Banking Committee today to try to get the Paulson Proposal passed. No joy.

WASHINGTON — Treasury Secretary Henry M. Paulson Jr. received an angry and skeptical reception on Tuesday when he appeared before the Senate Banking Committee to ask Congress to promptly give him wide authority to rescue the nation’s financial system.

Mr. Paulson urged lawmakers “to enact this bill quickly and cleanly, and avoid slowing it down with other provisions that are unrelated or don’t have broad support.”

The Federal Reserve chairman, Ben S. Bernanke, who appeared with Mr. Paulson, said the financial system “continues to be very unpredictable, and very worrisome,” and that inaction could lead to a recession.

But after hours of back-and-forth, the committee’s leaders said explicitly what had seemed clear all day: that they rejected the administration’s plan. “What they have sent us is not acceptable,” the committee chairman, Senator Christopher J. Dodd, Democrat of Connecticut, told The Associated Press.

The panel’s ranking Republican agreed. “We have to look at some alternatives,” Senator Richard C. Shelby of Alabama told The A.P.

One after another throughout the session, senators from both parties said that, while they were prepared to move fast, they were far from ready to give the administration everything it wanted in its proposed $700 billion plan to buy up and hopefully resell troubled mortgage-backed securities.

On the House side of the Capitol, the mood was apparently similar after Vice President Dick Cheney met with Republican members. “Hardly anyone in that room has decided yet how they’re going to vote on this,” Representative Phil Gingrey, Republican of Georgia, told Bloomberg News.

The weekend was not kind to the Paulson Proposal,nor should it have been. Besides, who trusts either Wall Street bankers or the Bush administration these days? Even Bush's hoped for replacement, John McCain, has had to run against the incompetence and corruption of the Bush administration.

The New York Times is also running this article: News Analysis: Experts See a Need for Punitive Action in Bailout.

The common denominator to many reactions is a visceral discomfort with giving Treasury Secretary Henry Paulson Jr. — himself a product of Wall Street — carte blanche to relieve major financial institutions of bad loans choking their balance sheets, all on the taxpayer’s bill.

There are substantive reasons for this discomfort, not least concerns that Mr. Paulson will pay too much, thus subsidizing giant financial institutions. Many economists argue that taxpayers ought to get more than avoidance of the apocalypse for their dollars: they ought to get an ownership stake in the companies on the receiving end.

But an underlying source of doubt about the bailout stems from who is asking for it. The rescue is being sold as a must-have emergency measure by an administration with a controversial record when it comes to asking Congress for special authority in time of duress.

“This administration is asking for a $700 billion blank check to be put in the hands of Henry Paulson, a guy who totally missed this, and has been wrong about almost everything,” said Dean Baker, co-director of the liberal Center for Economic and Policy Research in Washington. “It’s almost amazing they can do this with a straight face. There is clearly skepticism and anger at the idea that we’d give this money to these guys, no questions asked.”

Then there is the problem as seen from the point of view of retirees.

Also from the New York Times: Retirees Filling the Front Line in Market Fears .

“There’s a terrified older population out there,” said Alicia H. Munnell, director of the Center for Retirement Research at Boston College. “If you’re 45 and the market goes down, it bothers you, but it comes back. But if you’re retired or about to retire, you might have to sell your assets before they have a chance to recover. And people don’t have the luxury of being in bonds because they don’t yield enough for how long we live.”

Today’s retirees have less money in savings, longer life expectancies and greater exposure to market risk than any retirees since World War II. Even before the last week of turmoil, 39 percent of retirees said they expected to outlive their savings, up from 29 percent in 2007, according to a survey by the Employee Benefit Research Institute, an industry-sponsored group in Washington.

“This really highlights the new world of retirement,” said Richard Johnson, a principal research associate at the Urban Institute in Washington. “It’s a much riskier world for retirees, because people don’t have defined-benefit plans. They have pots of money and they have to worry about making it last.”

Don't forget. Retirees vote at very high rates. Congress has clearly not forgotten this.

Also don't forget - Congress wants to go home at the end of this week to campaign for reelection. Something is going to be done, and they will have to answer to the voters about it immediately.

Don't just throw money to the bankers. Take control of the failed banks

The biggest problem with Paulson's proposal is that the solution offered is to simply buy the bad loans from the banks, leaving them in position to again start functioning is banks and make the bankers rich. Essentially the bankers gambled with their own money, lost it, and are now going to tax the American taxpayers for a $trillion so they can go back into the game.

Paulson thinks the problem can be solved by just having the government buy the bad loans from the banks with taxpayer money. Of course, the banks know which of their loans are bad and which might recover, so all they will sell to the government is the garbage. In fact, Paulson's proposal doesn't work any other way. If the banks can't convince future suppliers of capital that they retained only the good loans, they can't get the capital suppliers to supply more capital.

And what do the taxpayers get? Screwed, that's what. The taxpayers will transfer good money for bad loans, the majority of which will never be worth what the government will pay. On top of that, Paulson's proposal is carefully written so that no one even has the right to question what the secretary of the treasury does with all that money.

Sweden was in a similar situation in 1992, but they solved the problem a lot better.

Sweden did not just bail out its financial institutions by having the government take over the bad debts. It extracted pounds of flesh from bank shareholders before writing checks. Banks had to write down losses and issue warrants to the government.

That strategy held banks responsible and turned the government into an owner. When distressed assets were sold, the profits flowed to taxpayers, and the government was able to recoup more money later by selling its shares in the companies as well.

“If I go into a bank,” said Bo Lundgren, who was Sweden’s finance minister at the time, “I’d rather get equity so that there is some upside for the taxpayer.”

The only result Paulson's proposal should get is loud cries of No Blank Check! This legislative game from the Bush administration is not new. They create a crisis, then present a set of legislative plans that turn control of the government over to the (incompetent) Bush administration and say "Take it or the results of the crisis are yours!"

Not this time. Lucy is going to yank a way the football again. This time it's No Blank Check!

The bailout needs to be carefully thought out, with consideration of what the new banking system is going to look like. My analysis of Nouriel Roubini's discussion suggests that the new banking system will be all regulated banks with the government operating as the lender of last resort.

That's going to be expensive. The bankers need to pay the costs, and only government equity in the banks will allow that to happen.

Along with the government taking ownership of the failed banks (voluntarily on their part, of course. They can choose bankruptcy if they want), Chris Dodd's proposals are beginning to look very good.

Summary: Dodd Legislative Changes to Treasury Proposal
September 22, 2008

The breadth of the Treasury proposal is extraordinary: the Department is asking for $700 billion to purchase any asset without any transparency as to the process; without any oversight by any court or administrative agency; and without any commitment to helping homeowners with troubled mortgages. Senator Dodd has offered a number of proposals that will address these concerns, as follows:

Transparency and Accountability

1. Establish an Oversight Board: We intend to establish an oversight board to make sure that the Treasury Secretary is not acting completely alone.

2. Require Program Transparency: We would require the Treasury to lay out its program, policies and procedures to ensure that the new authority is not used on a completely ad hoc basis. The Congress, the markets, and the American people deserve to understand how the Treasury is using these funds.

3. Significantly Improve Reporting Requirements: We add a strengthened reporting provision to require monthly rather than semi-annual reports to Congress regarding the exercise of authority under the Act. The provision requires financial statements describing all agreements and transactions entered into. Again, transparency is good for the markets and the economy.

4. GAO Audit: In order to ensure proper use of funds, and prevent waste, fraud, and abuse, we add a new provision to require the Office to annually issue financial statements prepared in accordance with generally accepted accounting principles and to require the Government Accountability Office to annually audit the Office and to assess internal financial controls.

5. Warrants: In the case of AIG and the GSEs, the government took warrants in the companies in exchange for our assistance. We include a provision to ensure the federal government gets warrants from companies that sell their bad assets to us.

6. Minimize Conflicts of Interest: Treasury intends to hire large asset management firms to organize the purchases of the “toxic” assets as well as their sale. However, many of these firms, such as PIMCO and Blackrock, have large positions in the same assets. Those positions could be affected by the way they manage the federal government’s portfolio. The Treasury proposal largely ignores this issue. We would add a provision to require the Secretary to issue rules on conflicts of interest that may arise in connection with the administration of the authorities provided in the Act. The conflicts include, but are not limited to hiring contractors or advisors, management of assets, bidding or purchasing of assets, and employees leaving the Office to work for an institution that has benefitted from the program.

7. Integrity of Deposit Insurance: This week the Treasury Department announced that it was offering temporary, unlimited deposit insurance for funds in participating money markets. This has caused considerable concern among banks (especially smaller banks) that it will precipitate a run on the banks by large depositors, who can now access unlimited deposit insurance in money markets. We add a provision to create parity between banks and money markets in terms of insured deposits during the period in which Treasury offers the insurance.

8. Executive Compensation: We add a provision to require the Secretary to have executive compensation standards for entities that seek to sell assets through the program. Such standards shall include limits on incentives and severance and a requirement for a claw-back provision.

Assistance for Homeowners

1. Court-Supervised Loan Modifications: After a year of efforts to get servicers and lenders to modify loans, the industry’s voluntary HOPE Now program has fallen far short of what is needed. This is because of the extreme complexity surrounding the securitization of mortgages. The only way to really help homeowners keep their homes is to allow borrowers to get the mortgages on their first homes reduced to the market value of those homes through bankruptcy. Second homes already have this benefit. We expect that very few homeowners will actually have to go into bankruptcy; however, this provision will finally give homeowners and servicers some leverage so that real modifications can move forward.

2. FDIC-Management of Mortgage Assets: The FDIC has shown a commitment to modifying mortgages both to ensure long-term affordability and to protect the taxpayer. FDIC staff estimate that performing loans are worth about 87% of par, while non-performing loans are worth only about 36% of par. Modifying loans to ensure affordability increases the value of the loans. For that reason, we would require the Treasury to shift the whole mortgages and residential MBS it purchases to the FDIC to manage, and add the requirement that the FDIC modify those loans where possible. We also require other federal agencies that hold or control mortgages or residential MBS to modify whenever possible. In addition to FDIC, this includes FHFA, which controls Fannie and Freddie’s portfolios, and the Federal Reserve Bank of NY, which owns a portfolio of mortgages acquired from Bear Stearns.

3. Affordable Housing Funds: The Housing and Economic Recovery Act of 2008 (HERA) created two important housing funds – the Affordable Housing Fund and the Capital Magnet Fund. These entities were to be financed by the GSEs. Given the uncertainty of that source, we include a provision that requires that 20% of the profit of any assets purchased and sold by the Treasury through this program go to these two funds.

4. Expansion of HOPE for Homeowners: The HOPE for Homeowners program passed as part of HERA should help about 400,000 families keep their homes. However, it includes some restrictions that narrow the eligibility for the program. We propose to loosen the criteria modestly, so that more distressed homeowners can participate

It is clearly established now that the current banking problems are a result of both greedy bankers and lack of adequate oversight and regulation. Paulson and the Republicans are the politicians who inflicted the problems on America. They cannot be the ones to try to solve them. They simply don't accept that their greed and deregulation attitudes are what have caused the problems.