Day: November 22, 2008

The Citigroup Betting Pool

I’ve been catching up with my family and not on top of the news the last 24 hours or so – wasn’t there a time that the financial world shut down on weekends? – but for those of you who may not have a feed reader clogged with economics blogs (first, good for you), I wanted to point out some of the various outcomes you may want to bet on when it comes to Citigroup. Some people are betting that a deal (bailout, FDIC takeover, merger) may be announced as soon as this weekend. I doubt it, because Citi shouldn’t have a liquidity problem per se; now that the Federal Reserve is accepting pocket lint as collateral, Citi can keep functioning even after the markets have completely lost faith in it. The problem is that no one believes its assets are still worth more than its liabilities, so everyone expects the endgame will come (in one form or another) sooner or later. The big questions are whether no one will get wiped out, shareholders will get wiped out, or shareholders and creditors will get wiped out.

  • Mark Thoma has an overview with excerpts from some other posts.
  • The wildest idea is that Citi might merge with Goldman or Morgan Stanley, although this is only floated by unnamed analysts. What such a merger would accomplish is unclear to me. (Although various people have come up with the name for a Goldman-Citi merged entity.)
  • Felix Salmon has a quick rundown with a lot of links (some of which I reproduced below); he thinks that at least creditors will not get wiped out to avoid a repeat of Lehman.
  • John Hempton explains how creditors might be wiped out and why it would be a bad thing.
  • Brad DeLong says to the government: go ahead, just buy the whole thing. With the change, buy a cup of coffee.

Dawn of A New Interregnum

According to the official website of the President-Elect, there are 59 days until inauguration. Let’s call it nearly two months.  The good news is that President-elect Obama has begun to name his economic team, the line up looks strong, and they have plenty of time to get their plans in place.  The bad news is that the banking system may not have that much time.

We are now obviously in a delicate political phase, in which the Bush Administration is winding down and the Obama Administration does not yet have real power.  This matters because the US banking system is in a worse than delicate phase.  Contrary to the statements of Mr Paulson earlier this week, core US banks do not appear to be stabilized.  The fall in equity prices this week was a cause of serious concern, and we discussed the causes and potential (unpleasant) cures in our WSJ.com article on Thursday morning.  Since then the situation has only deteriorated, seen most clearly in the credit default swap (CDS) spreads for major banks, which moved up through Friday. 

This increase in CDS spreads means that the market believes the probability of some banks defaulting has gone up.  This is striking because the Federal Reserve at this point can make sure these banks never run out of liquidity.  So what is going on?

Partly people in the market are not sure that all parts of all (global) banks will be saved.  And partly they don’t know where the money for a bailout would come from. This is not just about whether TARP is or is not available to recapitalize banks, it is also about the not-so-good relationship between Congress and the outgoing administration.

Ask yourself this.  If the Bush Administration felt the need to raise, say, $1trn – see this week’s much cited FBR report on the capital needed by the banking system – and sought approval Congress in December, how well or badly would that conversation go at this point?  Could the new Obama team help?  What about when the new Congress arrives in the first week of January – would that make any difference?

We are in an awkward stage, facing major economic problems and with a potentially distracted executive branch.  We need to find some new ways to handle this transition between presidents.  And fast.