Category: Commentary

What Is a Non-Bank?

I’ve read the NYT and WSJ articles, and the prepared testimony by Bernanke and Geithner, and I have a very basic question. Bernanke and Geithner said they needed new power over “systemically important nonbank financial firms” or “large, interconnected, non-depository financial institutions” or, most simply, “non-banks.” This is to complement the FDIC’s existing power to take depository institutions (“banks”) into conservatorship.

Are bank holding companies “non-banks,” which happen to have “banks” as subsidiaries? If so, the legislation they are asking for should make it easier to nationalize a large, complicated thing (I don’t know what to call it anymore, but you know what I mean) like Citigroup. Various people arguing against nationalization have said that while the government has the power to take over the depository institutions within Citigroup, it can’t take over the umbrella entity; this would eliminate that problem.

If so, I would call that a good thing. But I can’t find the answer.

Update: Thanks to the commenters. And to Yves Smith. So the Fed has regulatory authority over bank holding companies (that bit I already knew), but there is no defined process similar to what the FDIC does for taking over and winding down failing institutions.

Banks Find New Way to Hold Up Government

From The Wall Street Journal today:

Some bankers say they turned the conversations into complaints about the antibonus crusade consuming Capitol Hill. Some have begun “slow-walking” the information previously sought by Treasury for stress-testing financial institutions, three bankers say, and considered seeking capital from hedge funds and private-equity funds so they could return federal bailout money, thereby escaping federal restrictions.

Ummm . . . if they could get capital from hedge funds and private-equity funds, wouldn’t they have done so already? And they are now resisting the stress tests? Simon is usually more negative about banks’ recent behavior than I am, but I’m catching up.

Distressingly, the article is mainly about how the administration is trying to “fix” this situation by offering greater access to Wall Street leaders. Apparently they actually tried to freeze out the bankers early in the administration, but recently changed course.

By James Kwak

Economics, Politics, Outrage, and the Media

Warning: This is a post about economics and politics; it is a reader response post; but (here’s the warning), it’s also one of those annoying self-referential posts you only see on the Internet discussing a debate among the commentariat.

Last week went something like this:

  1. We learned about the $165 million in retention bonuses at AIG Financial Products.
  2. A lot of people, up to and including President Obama, got mad.
  3. Various commentators, including Ian Bremmer (on Planet Money, around the 14-minute mark) and Joe Nocera, said, in Nocera’s words, “Can we all just calm down a little?”

Their argument is basically that $165 million is small change, the government should be working on bigger issues, and the demonization of AIG is making it harder to solve the real problems.

Continue reading “Economics, Politics, Outrage, and the Media” →

Let the People In

The Geithner Plan is out. I don’t have time to look at it in detail, but in the meantime, PK, one of our readers (and someone we correspond with a lot), had an idea:  If we’re going to subsidize the private sector, why not let individuals into the deal? In his words:

If Geithner’s taxpayer subsidized toxic public/private plan goes forward, I think it would be fair if the federal government allow non-institutional investors to participate via a no-fee investment vehicle.  I think if Americans had the option of investing in this program (without having to pay the egregious fees to the investment advisors/PE shops), it would be much easier to swallow since they would at least get the same deal the sharks are getting.  There is probably more money on the sideline with individual investors than all these institutional investors.   Maybe they could set up some ETF equivalent for it.  I think the willingness of the administration to do such a thing would tell us a lot about whose for whose interest they are really looking out.

Capital for the investment funds will come from private fund managers (raising new capital from their limited partners) and from Treasury. Perhaps either a fund manager or Treasury could create an ETF- or mutual fund-type structure, where the government subsidizes the usual management fees, and use that to raise some of the capital. I know that because most individuals aren’t “sophisticated investors” this would subject the fund – or at least the individual part of it – to a higher degree of regulation, but that doesn’t seem like a bad thing.

I think it’s a brilliant idea.

(As far as the plan itself, my first reaction is that the Legacy Securities Program actually doesn’t do enough to attract private sector participation, since the leverage is only 50% or maybe 100% of the capital.)

Update: Matt Yglesias and F. Blair (below) have pointed out the following language: “The program will particularly encourage the participation of individuals, mutual funds, pension plans, insurance companies, and other long-term investors.” I believe that’s from the program for loans, not securities (the latter involves up to five professional asset managers, who generally raise their money only from qualified investors). So maybe there is something there.

By James Kwak

Breaking The Bank

My problem with Monday’s expected announcement from Mr Geithner doesn’t have much to do with the details of the public-private partnership.  I doubt this will work, because I don’t see the incentive for banks to sell assets at less than the value currently on their books.  Right now, they have the government right where they want it – look at the body language and words of leading CEOs.

The government feels that it cannot take over large banks, there is no bankruptcy-type procedure that would work, and only deference to the CEOs of major financial institutions can get us out of this mess.  This is a conscious strategy decision from the very highest levels.

I’d like to say: OK, but this is absolutely the last time we will try for a solution to our banking problems involving a private sector-led approach.  Of course this would not be credible and bank CEOs know this.  Instead, I propose the following. Continue reading “Breaking The Bank” →

This Time I’m Not the One Calling It a Subsidy

According to The New York Times and the The Wall Street Journal, the Treasury Department is set to announce its plan for troubled assets early next week. It will include three components. The details aren’t clear since these are anticipatory news stories, but it will be something like this (combining bits of information from the two stories):

  1. The FDIC will create a new entity to buy troubled loans, with the government contributing up to 80% of the capital and the remainder coming from the private sector. The Fed or the FDIC would then provide non-recourse loans* for up to 85% of the total funding (NYT), or guarantees against falling asset values (WSJ), which more or less amount to the same thing.
  2. Treasury will create multiple new investment funds to buy troubled securities, with Treasury contributing 50% of the capital and the rest coming from the private sector. It’s not clear from the news stories, but I think it’s highly likely that these funds will also benefit from either non-recourse loans or asset guarantees.
  3. The Term Asset-Backed Securities Loan Facility (TALF) is a program under which the Fed was already planning to buy up to $1 trillion of newly-issued, asset-backed securities** (backed by car loans, credit card receivables, mortgages, etc.). The idea was to stimulate new lending in these categories. This program will be expanded to allow the Fed to buy “legacy” assets – those issued prior to the crisis. This enables the Fed to buy toxic assets off of bank balance sheets.

Continue reading “This Time I’m Not the One Calling It a Subsidy” →

CEO Semiotics And The Economics Of Vilification

CEOs of major banks have started to push back against the critics – their primary job, after all, is lobbying (rather than, say, risk management).  As such, they are typically sophisticated communicators who use a wide range of symbols, words, and modes of communication to get their points across.

Not everything they say, of course, should be overinterpreted.  For example, calling the hand that feeds the banks “asinine” (Richard Kovacevich, chair of Wells Fargo) seems more like an outburst than a promising way to enhance shareholder value – even if he is correct about whether today’s stress tests are actually meaningful.

Lloyd Blankfein’s February FT op ed famously made the case that we need banks as a “catalyst of risk.” But this argument raises awkward questions.  What does Goldman Sachs know about risk, and when did it learn this (presumably recently, after they settled up with AIG)?  My risk-taking entrepreneurial contacts feel their catalysts should be somewhat smaller relative to the economy – so these banks/securities underwriters can, from time to time, go bankrupt without threatening the rest of the private sector (and everyone else) with ruin.  Still, the main point of this FT article was the symbolism of the timing, appearing on the morning of what was scheduled to be Secretary Geithner’s first big speech; we were supposed to read Mr. Blankfein’s conceptual script, then look up and see the Secretary on TV.

Vikram Pandit’s recent letter to Citi employees was a nicely timed communication to his broader social and political audience.  His upbeat note was plausible because he put down some very specific markers, e.g., “best quarter-to-date since 1997”; the danger is that these come back to haunt him.  And as a document making the case for big banks more generally, it was weak.

The banking industry’s thought leader right now is definitely Jamie Dimon.  His point about vilification is straightforward. Continue reading “CEO Semiotics And The Economics Of Vilification” →

The Bubble in Artwork by 8-Year-Olds

I got this from some friends who have an 8-year-old daughter whom I’ll call Franny:

Friend (looking at Franny’s artwork, which is labeled “$10,000”): How much do I have to pay you for that picture?

Franny: $10,000.

Friend: Is that in real money or pretend money?

Franny: You can pay me $5,000 in real money and $5,000 in pretend money. And if you only want to pay me the pretend money, then you get to borrow the picture for the weekend.

I’ve been struggling for weeks trying to think of the perfect real-world analogy – maybe something to do with assets being held on the books at $10,000 that everyone knows are only worth $5,000. Maybe one of our readers can come up with right answer (like in The New Yorker’s cartoon caption contest).

By James Kwak

Why Bail Out AIG’s Creditors?

Simon and I wrote on op-ed in the New York Times today, trying to debunk the idea that, as we put it, “A.I.G.’s traders are the people that we must depend on to save the United States economy.” The AIG bonus fiasco, as I’ve written earlier, has been particularly useful in raising the political cost of the administration’s current bailout strategy. But, as I said then, “$165 million, of course, is less than one-tenth of one percent of the total amount of bailout money given to AIG in one form or another.” And as far as the cost to the taxpayer is concerned, the big bill is for bailing out AIG’s creditors. In his op-ed in the Wall Street Journal today, Lucian Bebchuk wants to know why.

Now, the government has not explicitly guaranteed AIG’s liabilities. But the main reason for bailing out AIG in the first place was the fear that an uncontrolled failure would have ripple effects that would take down many other financial institutions who were dependent in some way on AIG; most commonly, they had bought insurance, in the form of credit default swaps, from AIG and were counting on being paid. And a major usage of bailout money has been to make whole AIG’s counterparties holding those credit default swaps, primarily investment banks trading on their own account or on behalf of their hedge fund customers.

Continue reading “Why Bail Out AIG’s Creditors?” →

Parallel Bankers

AIG is arguing that its people are uniquely qualified to clean up the mess they made and therefore need big retention payments. 

Of course, there are many things that are different and complex about this crisis in general and credit default swaps in particular.  But in every crisis I’ve ever seen, the (banking/corporate/government) insiders responsible for major problems always want to stay on – arguing that they have unique skills and can sort things out better than anyone else.  Countless times around the world I’ve heard some version of, “it’s very complex, no one else can figure it out, and you’ll lose a lot more money unless you keep us on.”

Yet, whenever possible, it’s better to clean house and bring in new talent at all levels to wind down bad business and more generally clean up/recapitalize/reprivatize the financial sector.

In the New York Times print edition (p.A25) this morning and online, James and I elaborate on why this is – drawing particular parallels with the Asian crisis of the late 1990s.

By Simon Johnson

Causes Of A Great Inflation: Tunneling For Resurrection

Here is Ben Bernanke’s problem.

1. The financial sector is busy setting up arrangements in which employees are guaranteed high levels of compensation if they stay on through the difficult days ahead.  These retention-type payments allow firms to survive in their existing form, pursue business-as-usual, and gamble for resurrection, i.e., make further risky investments.

2. But these same payment schemes, e.g., Goldman Sachs’ loans-for-employees deal, are a form of poison pill with regard to further bailouts – the Administration may want to help these firms down the road, but this kind of tunneling means Congress will put its foot down.  Do you think that President Obama’s $750bn for bailouts (scored as $250bn) will survive the budget process?  No New Bailout Money is a slogan reaching from here to the midterm congressional elections. 

3. And the financial system is in big trouble.  Unless the economy turns around, somewhat miraculously, we are in for a big slump.  Or even for a Great Depression – watch closely the words and body language in Bernanke’s interview on 60 Minutes. 

The big banks are essentially making themselves Too Politically Toxic To Rescue, and this has potentially bad macroeconomic consequences.  So what will Bernanke do? Continue reading “Causes Of A Great Inflation: Tunneling For Resurrection” →

Protesting the Banks

In the past, several of our readers have asked if we could help organize some sort of popular political movement to protest some of the policies that we have criticized. That isn’t anything we have any experience or expertise in, however.But in case you are interested, I wanted to let you know about a new group called A New Way Forward that is organizing rallies on April 11. Their platform is pretty straightforward:

NATIONALIZE: Experts agree — Insolvent banks that are too big to fail must incur a temporary FDIC intervention – no more blank check taxpayer handouts.

REORGANIZE: Current CEOs and board members must be removed and bonuses wiped out. The financial elite must share in the cost of what they have caused.

DECENTRALIZE: Banks must be broken up and sold back to the private market with new antitrust rules in place– new banks, managed by new people. Any bank that’s “too big to fail” means that it’s too big for a free market to function.

A New Way Forward is being organized by two people from the Participatory Politics Foundation, although the two groups are not officially related.

By James Kwak

Baseline Blocking

A reader reports his firm has blocked Internet access to BaselineScenario.com, and his requests to change this policy have so far gone unheeded.

Access to our site has been blocked in the past by China – for reasons that should be obvious (if you want to pretend there is no global crisis).  But what kind of firm would not want its employees to access our macroeconomic analysis, Financial Crisis for Beginners, or your continuing debate about how to handle the world’s myriad financial sector problems?

Oh, yes… Continue reading “Baseline Blocking” →

Chinese Dissonance

The G20 needs a deal. It doesn’t make much sense to pull 20+ global leaders together on April 2nd unless you can announce an agreement with some bearing on the current worldwide slump. One more meaningless communique might not go down well with the markets. You can always trot out the same platitudes, but the world’s best journalists will be in attendance and it would be much better to have something concrete on display.

Time is running out for the deal makers. There appear to be no grounds for the US and Europe coming together in a meaningful way on fiscal policy: the US want everyone to commit to some (universal?) target; the Europeans either really don’t want that (Germany) or rightly feel they can’t afford it (most of the rest of the EU). Regulatory agendas intersect but only at the general level of, “we should do better” and ” it was your banks that got us here” – the AIG counterparties list make it clear that already-regulated large institutions in both the US and Europe are the problem. And the US Administration is waiting for Congress on regulation – this will take 6 months or more to sort out.

All of which leaves one main item around which there can be convergence: the IMF. And for this, China’s exchange rate is the issue. Continue reading “Chinese Dissonance” →