I believe I've mentioned before the lemony beast that is my car. I'm now going to use it to explain the Geithner Plan, because the car should be good for something.
To start, let's call my car a "troubled asset" (that's pretty true). Say I think it's worth $1,000. (Not even close).
My accountant, let's call him Tim, says, Uh, maybe that car was once worth $1,000, and it might even be worth $1,500 at some point in the future, but right now, there's a possibility that it's only worth $500, depending on what kind of repairs have to be made to it.
He also points out that while the burden of this troubled asset is on my books, I am much less likely to spend any money, because I'm constantly worried about the potential hazard of my car. What if it breaks down? I can't afford to fix it (true). So Tim suggests that I sell the car, and I agree, already dreaming of the widgets I will buy once it's off my books. But, Tim points out, I can't sell it for $1,000. I have to let people decide what they're willing to pay. He suggests we hold an auction so that the price I'll get will be decent -- people will bid each other up.
Great, I say. Except the car looks like crap. It's rusting, the paint on the door is chipped off, there's bumper damage because I can't parallel park, there's this fabulous burning oil smell -- no one's gonna buy this car, because they're gonna assume it's toxic. (This is also true).
Well, Tim says, I have a thought. I can't buy your car from you, because that would be too risky for me and the taxpayers who pay my salary. I also can't buy you, because that would be socialism. (Tim's hyperbolic). But I do have all of this money hanging around, and so do my friends Ben and Sheila. What if we help someone buy your car?
How would you do that?
Sheila, who has rockin' credit, would offer them a loan guarantee of up to 80 percent of the auction price. Then, I'll offer to invest up to half of what remains. The deal we'd work out would mean that, if the car goes up in value in the next few years, then the new buyer would have the option of selling it at its new price, and therefore Sheila would get her loan money back, I'd get a share of the profits, and the buyer would get a share of the profits as well.
OK. But -- what if the car goes down in value?
Well, because I really want to encourage someone to buy your car, (since I still owe Tim $5 billion dollars from that time last week when I "forgot" my wallet at Burger King and he had to bail me out, he has serious interest in seeing me get money again), I've convinced Sheila to give that investor a non-recourse loan. In English, that means that if the car explodes (seems more likely every day), they lose only the money they put in, and aren't responsible for paying back the rest of the loan from Sheila. So it reduces their risk considerably. Incidentally, I'd also lose all of my money.
I'm breaking out of the car metaphor now because the longer fake dialogue goes on, the more like Maureen Dowd I feel. Just imagine, though, that I'm a bank, and the car is a bundle of risky mortgage-linked assets, and that's what the Geithner Plan (GP) suggests. So:
Asset: might be $1,000.
Auction price: $840
FDIC (Sheila) loans: $720
Treasury (Tim) invests: $60
Actual buyer invests: $60
Now, there are two takes on the GP: OMG we're all gonna die!, represented by Paul Krugman, and hey, this might work after all, represented by Brad DeLong.
Krugman says that there's no way the assets we're helping to buy are worth much. He also points out that the private investors actually have some incentive to bid the price up to higher than what an asset is worth -- because the investors have a target amount they're willing to spend (say, $60), they want the price to be bid up so that they're maximizing their investment and therefore maximizing their profit if things go well. And if things go poorly, well, they were prepared to lose up to $60. Where this is bad is that the taxpayers would then lose the remaining $780. If the asset hadn't been bid up to $840 in the first place, we would lose less.
DeLong says in his Geithner Plan FAQ that, well, the assets are worth something. And in combination with the Obama housing plan and the stimulus plan, their values should be stabilizing or growing, which would reduce the risk that we're going to lose everything in this deal. Beyond which, the government is the one agency that can afford to wait a very long time to see returns on its investments, so this kind of risk isn't that risky to us.
The thing is... though their opinions are contradictory, it seems like they could both be right. I find myself nodding along to both analyses. This could be a monumentally bad idea, unless it's a great idea. In writing, there's a nice term for this, coined by John Keats in a letter:
...at once it struck me, what quality went to form a Man of Achievement especially in literature & which Shakespeare possessed so enormously - I mean Negative Capability, that is when man is capable of being in uncertainties, Mysteries, doubts without any irritable reaching after fact & reason.
The emphasis is mine (did they have bold type in 1817?). Negative capability is being able to hold two opposing thoughts in your mind, see the value of both, and not feel torn up about it.
I'm almost there on the banking problems. I admit, as of today, I find DeLong's assessment more persuasive, just because it's hard for me to say that the assets are worth nothing or will over the long term decline in value despite all of the efforts to stop this slide.
I'm curious, though, to hear what other people think of the Treasury Announcement of today. I assume most are in the Krugman boat, which is, as even Brad DeLong says, usually a very good place to be.
Disclaimer: Tim Geithner is not my accountant. Nor do I owe him any money from any Burger King outings.
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an S&L (Lincoln Saving I think) gave Frank Aries, an Arizona developer a $250mm non-recourse loan to develop 25,000 acres east of Colorado Springs, known as the Banning-Lewis Ranch. Aries then walked. He was interviewed by Mike Wallace of 60 minutes on the Aries yacht off the Bahamas. Mike asked how he felt defaulting on such a large loan that took down an S&L. Aries responded "Mike, what would you do if you were offered $250mm non-recourse?"
Phase 2. The RTC took this property in - again the money here is $250,000,000. They held it until they could sell it. In 1991 it went for $18.5mm (cash) to a Saudi family. I worked all sides of these transactions and I remember how I felt knowing that as a taxpayer, I subsidized $231.5mm to a foreigner. So today I dont feel very positive about my government "buying up" anything and holding.
And feeding the beast (Wall Street) to make it a better behaved beast dosen't seem rational either.
PS you may not own Timothy G any money relative to Burger King outings, but he is in your pockets anyway. :(
On the CDO's look at the Index prices, and the syntetic prices one can get on the credit default swaps, and then you have an approximation of the loss to the taxpayers.
Take that number, roll it into long term debt right now, and then, yes, we lose a sick amount of money, but you end it. no more plans, please. good discussion though. but how to value a CDO? only an average of the ugly days gives you a hint. say a 100 day moving average.rated
Congress for their part, accepts the contributions, acts outraged over the drugs and prostitution, then gives them some more money for other cars they've totalled.
Seriously, I also appreciated the troubled asset-car analogy (TA-CA), and I really didn't think you needed to break out of it just to avoid being MoDo. She should be so lucky as to have anyone (much less you) impersonate her.
Stacey, wait, does this mean you learned to see the future in 4th grade? Because that's a school I need to check out. ;)
Tim, I agree, the S&L debacle is certainly the worst-case scenario here, and it's Krugman's best point. But so long as the assets show some kind of recovery, there's no incentive for people to walk away from the loan, right? So after this plan, if there's a concerted, continuing government effort to make sure people don't default on their loans, then that reduces the likelihood of the same problem. But yeah -- this all depends on a lot of what-ifs.
As an aside, I totally would go to Burger King with Tim Geithner (and ask him to pay). They make a mean veggie burger.
Don, I think you have a point on the valuation of the real estate assets -- but it seems like no one really has any idea of where to start on this. I don't think the banks even know exactly what's contained within their CDOs all of the time, which makes it much, much more frightening, you're right. I defer to DeLong on the solvency question.
Icemilk, I admit I don't know what the terms are for being accepted as an investor. I know they're encouraging pension funds as well as investment firms to apply, but I don't know how they get chosen, exactly. Good point on the openness, though -- a sticking point I didn't even know I had.
Deborah, I read that RS story, and while I agree it certainly tells an extremely disturbing story, I'm not sure why it's being used as a weapon against Geithner at the moment. There's no cited, on-the-record sources being used to defend Taibbi's attacks on him anywhere -- the "protege of John Thain" part really bothered me, because... I don't know where that comes from. Geithner started talking about the bubble and reform well before most people anywhere near Wall Street, and well before he was involved in the campaign. I just have a hard time believing his intentions are the same evil greed that Taibbi accuses everyone else on Wall Street as having.
Jim, is AIG the one who wrecked my car? Bastards! No, seriously, the story you're telling is close to the actual AIG story, you're right -- but I'm not sure it works for the Geithner plan.
Thanks, AshKW.
Ha, ktm, you've made my day! Finally the degree is worth something. And double points for relieving me of some MoDo guilt.
Here's what I think: Enough Already
Part of the problem is that this depression is different from the last one. Under such circumstances, it's easy for reasonable men to differ on the right policy option. Only the future will be able to determine what's right and what's wrong.
Saturn, like you, I tend to support the President's proposals. But Paul Krugman makes a lot of sense. Are we doing too little or too much?
To quote Cramer, "We're exploring the Marianas Trench with a penlight and a tape measure."
"Arrangements that confer all upside benefit from private investors and all downside risk on the public are bound to stimulate great feats of entrepreneurial daring."
I am even more concerned that people are not outraged at this plan. Why? Because the only people who are being put at risk is taxpayer. Who is being let off the hook? The bankers who made the mistakes and the politicians who had a huge hand in this thing *Barney Frank*. I for one do NOT have confidence that the government will fix the mess they made. I also want them to stop spening my money, my kids money, and my grandchildrens money.
Last bit of my rant... Senator L Graham SC (R) was on Greta and he was asked by Greta if she could get in on this sweetheart deal the government is offering... his response? He laughs. I was so pissed. Why? Because he thought it was funny that people like me would have the opportunity to actually be a part of a good deal versus the citigroups of the world. Folks...wake up... "We the People" are being taken advantage of!
http://conservative74.wordpress.com/
To do that one must shovel down through all the strata of derivatives that were created on top of the base mortgages and renegotiate as many mortgages at the individual level as possible. The key to whether these "assets" ever have true value is the default rate. Slow or stop the default rate and you have a security that might be attractive again.
People are right to be angry that this is a game only for "the big boys." But people should also be angry that the hundreds of billions proposed for this plan won't do anything to help anyone directly deal with horrendous terms on some of these mortgages.
From my reading of the terms of this proposal, the ultimate irony is that banks will have to end up taking a big hit through massive writedowns after all on these "assets" when the big, brave private investors bid only 10 cents on the dollar, something I thought the bailout originally was trying to avoid. How many banks are going to be willing to underwrite mortgages ever again if their losses are that large on the last five years' worth of transactions? Wait for it...the other part of the plan will have to be a change in accounting rules that allows the banks to somehow avoid marking to market these transactions to come--which means institutions will continue to deceive themselves into thinking that money does, after all, grow on trees.
What we appear to have is a bunch of stuff with no buyers guides to tell us what these loans are worth, which is most likely tied to 2 simple facts, how many times was the same collateral used and where will house values settle.
The plan really buys one thing, time, and with that the answer to the two core questions can be answered, one by looking through the loans and finding out the double or triple counting, the other by the market for homes.
I also believe (and kind of believe in) Paul Krugman.
I've seen little evidence that things just "work themselves out." These assets ought to be written off and the corporations (shareholders) should swallow the loss.
What we forget is that someone made money (or lived a high life) off of the money loaned, and if it's now a non-performing asset, well, it's a non-performing asset.
Sell it for what it will sell for...or hold on to it. If your bank can't continue to operate as a bank (lending money) by holding on to it, then dissolve your bank, and let someone who can do it (hold it or sell it), do it.
I'm preparing to buy a commercial building. It's a risk for us, a speculative risk. We don't have to have it, but we think it can be worth the investment. I don't expect that a bank will be part of the transaction and I don't expect that the GP will actually induce my bank to start lending money again.
When the GP includes loaning me 80% of the money for this property and forgiving the loan if things go sour, then I'll jump on board. Since it doesn't, we'll bear the risk ourselves.
(I guess there's a pretty good reason Liberal and Arts are paired up like that. Seems there really ought to be a Conservative Moneymaking major, as well...)
This is called "government service."
1. Hi Mr. Citibank. Your stress test results have just come in. They aren't so good. You'll need to go out and raise more capital. - FDIC and Treasury speaking.
2. Citi- But you made my stress test results public and no one wants to give me money at a reasonable rate (like the credit cards I issue). I'd have to pay 18% for money right now!
3. Treasury and FDIC - Well, Mr. Citi...ummm...I don't know what to say. Hey, what about some of that stuff on your books. Could you sell that?
4. Citi - But, I'd have to sell it into a distress market?
5. FDIC & Treasury - That's unfortunate. We wouldn't want anything bad to happen your family. So, it's either your signature or your brains on this contract.
6. Citi - You guys are Assholes.
7. FDIC & Treasury - Yes, we know.
So the taxpayer and fund managers are sort of having the system gamed for them by the FED and other elements of the government. There is an unfortunate disincentive to save as a result of purposefully throwing the currency, but I suppose that is the point. Black Rock is competing to be one of the fund managers. They have indicated that they want to create a mutual fund of these assets that the average person can get in on. That would be great.
As much as I appreciate any discussion of John Keats, in virtually any context, I have to opine that there is a reason negative capability emerges in a specifically aesthetic register. It is, to use another Keats bon mot, the business of art to tease us out of thought. But other endeavors require real-time decision-making. The word decision itself comes from the Latin for 'to cut off" and negative capability lives precisely on not cutting off--no cutting off uncertainty, not cutting off possibility, and hence not cutting off contemplation. The question arises then since Geithner et al made this fateful decision, cutting off all manner of other possibilities, from free market solutions to outright nationalization, are Krugman, DeLong and all of us engaged in a purely aesthetic exercise of judgement--which Immanuel Kant, no mean Keatsian, defined as bearing the form without the substance of purpose--or does our support/rejection of the plan have purposeful consequences in whatever remains of our participatory democracy. If the latter is the case, then we too have a stake in decision, in cutting off, in becoming unsatisfied with uncertainty. In that case, Keats' dictum would be best left to the universe of lyric poetry and Shakespearean drama and we as citizens of a capitalist democracy in crisis should hold ourselves responsible for deciding--for deciding according to our lights either to get behind this plan, voice our support etc or fuel the populist outrage with the plan and try our best to obstruct it.
Your characteristically lucid representation of the (auto) mechanics of the bailout is tremendously useful. But thankfully it is useful less in sustaining the negative capability you herald than in providing the kind of education necessary to mak an informed decision and so to dispel, on this one issue anyway, Keats' signature state of mind.
The latest issue has a piece by Tom Geoghegan on Usury, on how the credit card companies bear a lot of responsibility for where we are now (along with those in Congress who did all of that de-regulating that let them have their way), along with some background on union-busting and how productivity has increased significantly, but without any return to workers in the form of higher (real) wages or more leisure.
Because if you do, I'd like to get us in on this program.
It is a good deal for everyone. It is a good deal for the taxpayer, it is a good deal for the private capital that will come in, and it is a good deal for the banks.
The banks get to get rid of their toxic assets at a price far higher than the fire sale prices that panicked organizations sold them at.
The government gets to play the spread. They'll borrow money for 30 years at less than three percent. I don't know what the toxic assets the banks have on their books are yielding, but I guarantee you it is a hell of a lot more than three percent. Even with a huge default rate, the government will play the spread and make money.
And the private capital guys get to invest some money, lever up, and reap the benefits. The have been given incentives to participate and companies like BlackRock, Pimco, and Carlyle do not play unless there's money in it for them.
Everyone involved wins. The banks get money now for their toxic assets, and the banks who don't sell them get a price they can use for mark to market. The government gets to play the spread for 30 years. And private equity firms profit as well.
I think this is a good plan. Let's hope it works.
I'm with Delong. Krugman, if you keep screaming the sky is falling evenutally the damn sky WILL fall.
The plan allows the companies to put an actual number on the value of the toxic assets and sell them. The companies that are buying in are doing so because it's good bet. I don't have millions of dollars to buy in on the plan but if the folks who DO have it are willing to buy in that means they'll be making money (avarice bastards) which means the plan could work and move our economy forward.
Next, after this is somewhat resolved, we regulate the hell out of these companies so they can't do something this stupid again.
Also, Tim's been on the job a whopping 9/10 weeks. Americans HAVE to get over this instant gratification nonsense and the MSM (lame) needs to stop enabling it (and the populist BS) and actually do the job of investigative reporting vs tabloid ratings fluff.
The grandstanding know nothing reps from West Podunk and their media enablers need to shut the hell up. How well did anyone do in their first two months on the job? How many mistakes were they making?
Seriously, the media is as complicit as the grandstanding reps are in this "Geithner has failed" nonsense. You even had someone on Salon saying that the Obama administration was trying to hide Geithner. Uh, yeah, because giving a long one on one interview with Erin Burnett which was broadcast on CNBC and hyped all day long is hiding. And going to Congress the next day to testify is hiding.
What's amazing is that people buy this "Geithner has failed" and "he's hiding" bullcrap. You don't know whether someone's going to succeed or fail in his job after two months, and you sure as hell aren't hiding if you're doing interviews and testifying before Congress.
Tony, I do think the administration has learned that Geithner isn't a reassuring presence on national television, which I would agree with -- he gets nervous or something in front of a podium and turns a little zombie-like: compare his Feb. 11 performance with yesterday's casual, personable talk at the Council on Foreign Relations, and it's two different Geithners. But I agree that the media is complicit in passing around the Failure Meme, because they haven't asked often enough whether there's fact behind their charges.
And no, sadly, I checked my couch -- no extra $500M, but I'd be in if I had it. I think Debqd is in, too!
Hipployta, I love this: "we regulate the hell out of these companies so they can't do something this stupid again." That's what we should be hearing about tomorrow on the Hill, I hope I hope I hope.
Thanks, Don. I appreciate it.
Ha, Gordon, I'll keep that in mind.
I have a Harper's subscription, but I tend to scan the cover, set it down next to my couch, and forget to finish reading, I admit. But Tom Geoghegan + Usury = must-read, I'd think, since he was so heavily endorsed by folks I respect for the Congressional race of late. Will read.
Libertarius, yes: negative capability when faced with a practical problem that must be immediately decided, or upon which one must take sides, is necessary. But I think we can allow a moment of pause, a generous moment in which both possibilities are given full credit, and come out the better for it, which is what I've tried to do myself.
Skewz, I'm not sure I think Treasury will be making stress-test results public with that intent. Interesting scenario, though.
William, well, practically that's true, but that's also like saying, what skin does Barack Obama have in the game when he sends troops to war? It assumes that everyone involved is only involved for motives of personal profit. I don't think that's true of Geithner or most of the administration's leadership -- I think there's legitimate patriotic motivation at work here.
Heh, well, Ben and Sheila know how to ruin a party, Verbal.
Randy, good luck with your purchase. I hope the GP eventually helps, somehow.
Poetic badger, I knew I should've made it a car with the hood welded shut or something. You're right about buying time, which buys answers; nicely put.
Lulu&P, thanks! Sadly, I think our complex problems are probably going to require some complex answers for a while, but... you know, I need to think on this. Maybe the trick is in seeing whether the solutions that are being proposed make the problems more complex or simplify them. I'm for the latter.
Ron, I love those commercials. Thanks.
Back for more in a bit -- computer battery dying.
Old New Lefty, I admit I don't follow Jim Cramer. So the government makes up the difference then in direct investment, or in loans, or... does it just give the money to the investor? What would be the incentive for banks to ask anything lower than 100 percent of what they paid for these assets if the government is going to make up the difference? And why would any investment firm offer more than 1 cent on the dollar? I agree that Krugman makes sense, but so does DeLong at this point. Cramer, I'm less sure, but I admit I have some bias against him.
Is the Kuttner plan the rebirth of the RFC thing, Lisa? It sounds great, but Geithner and Paulson both testified yesterday that they've been told the authority doesn't exist for the Treasury or Fed to take over troubled firms in that way. So there'd need to be an act of Congress, and I'm with a large part of the chattering class on this one: there's just not the political possibility of getting that through Congress at the moment. (I'm also not sure I see how that plan would reduce risk to taxpayers, if that's the goal). I admit, though, my familiarity with his plan is loose.
Conservative74, take a look at the text of the Geithner Plan, or at least its announcement -- he's said that they want to encourage private investors to get involved. And I'm not sure I buy into Barney Frank being at fault for most of this, or that the argument that the post office, which has faced enormous market competition but also had a complete change in technology remove its usefulness, is the best example with which to compare. Would the failure -- i.e., bankruptcy -- of AIG have taken down the whole economy? Maybe not. But I think it would have had systemic effects that would have made this whole downturn worse, and longer, and led to more job loss... it's back to the argument over what the role of government should be, I guess.
James, this plan isn't aimed at that, but Obama's Housing plan is aimed at curing these ills, and this plan works in tandem with that to increase the flow of credit that will enable purchase of new homes again in the future.
Yes, banks will have to take write downs, but the assets that are worth $.10 on the dollar aren't the ones we're talking about -- in fact, those most worthless assets aren't even on the table here, as Treasury is starting higher up the chain than that, not enabling the sale of every possible risky asset but instead the sale of every possible recoverable asset. That's what the FDIC leverage tests are supposed to figure out, I believe, in combination with the stress tests.