Geithner's plan: Self-dealing will solve the banking crisis.

Secretary Geithner has put forth yet another version of the bad bank plan. Several pundits have already pointed out shortcomings in the bidding process.

So far, none of the discussions that I have seen are including the possibility that both the buyer and seller might have related interests. For instance: Citi will invest $1B with a fund that bids on the assets. The gov't will provide another (say) $9B to match Citi's $1B as a nonrecourse loan.

Citi will then provide personal incentives for the fund managers to bid 100 cents on the dollar for an BBB MBS tranche that is currently trading for 1 cent on the dollar. Naturally, the market is valuing this tranche at 1 cent because there is no hope of being paid back, and the tranche will eventually be a total loss.

But when that total loss occurs, Citi now only loses 10 cents on the dollar because the gov't just put up the other 90 cents.

This plan is in fact relying on disguised interests to bid the prices up to absurd levels and have the taxpayer foot the bill.

Size of the Mortgage Problem

Bloomberg's chart of the day on Feb 12th showed the size of the mortgage problem quite nicely (click for bigger version):

U.S. home loans exceeded the total cash available in the country by $3 trillion at their peak, showing the size of the mortgage problem to be fixed," said Michael Shaoul, chief executive officer of Oscar Gruss & Son Inc.

While M2 might not be the best measure of money for this purpose, it certainly puts it into perspective.

HatTip: Alybaba in the comments of CalculatedRisk.

Arithmetic Requirement at the Treasury?

The government has responded to cries that its "stress testing" is not considering the worst case. I have not digested the whole of the document, but one part stuck out at me:

But, a key fact is that recessions are followed by rebounds. Indeed, if periods of lower-than-normal growth were not followed by periods of higher-than-normal growth, the unemployment rate would never return to normal.

Really Mr Treasury? Never return to normal?

It turns out that with an old fashioned pad and paper, you can convince yourself that constant positive real growth, however slow, will cause even 100% unemployment to ultimately return to normal.

The statement above is supposed to convince me that your previous documents are well-thought through? Precise? Prudent?

These people are managing our national treasury, they sure aren't Einstein.

Einstein is not at the Treasury

Insanity is doing the same thing over and over again and expecting different results.

-- Albert Einstein

Sadly, it seems that the above quote qualifies as profound wisdom to our folks in government. In the past week, we have seen the re-bailout of Citi, the re-bailout of AIG, and the re-birth of the bad bank.

Do we really need someone of Einstein's intelligence to realize that the same-old bailout is just not working?

Four Bad Bears and a Crystal Ball

Doug Short has a plot of The Four Bad Bears on his website that has made the rounds among the finance blogs. But this version from my inbox includes the all-important crystal ball projection of the future of the current bad bear. (Click for bigger version.)

Sugar-coating unemployment

Former president Jimmy Carter comparing the unemployment now to the Great Depression:

In announcing the renovation of the Carter Center, former President Jimmy Carter went off topic for a minute to answer a question comparing the current economic climate to the Great Depression of his childhood.

”There is no comparison to the Great Depression and where we are now,” he said. “The Great Depression was much more severe. Right now, we have 7 percent unemployment. In the Great Depression, it was four times that. Back then, there was no money.”

Why is this so hard? As we commented previously, there are six different measurements that the BLS puts out. Carter's 7% value neglects large swaths of the unemployed. Right now, the government's unemployment rate is 14% if you want the closest apples-to-apples comparison that can be made.

Public Service Announcement:

It's just shaping up to be one of those days. What are the NYSE circuit-breaker levels? As of first quarter:

CIRCUIT-BREAKER LEVELS FOR FIRST-QUARTER 2009
In the event of a 850-POINT decline in the DJIA (10 percent):
Before 2 p.m. 1-HOUR HALT	2-2:30 p.m. 30-MIN. HALT	After 2:30 p.m. NO HALT
In the event of a 1700-POINTdecline in the DJIA (20 percent):
Before 1 p.m. 2-HOUR HALT	1-2 p.m. 1-HOUR HALT	After 2 p.m. MARKET CLOSES
In the event of a 2600-POINTdecline in the DJIA (30 percent), regardless of the time, MARKET CLOSES for the day.

GM wants another $16B

According to the WSJ, GM wants another $16.6B. Their plan to achieve stability requires cutting 47,000 people. And the carrot? If you don't give them the money, it'll cost $100B.

Let us hope that the arithmetic is not lost on the treasury: You can shutdown GM pay every single employee (all 252,000 of them) $30K per year for two years for $16.6B.

No doubt, $30K/year would cause pain to those without savings. But what exactly is the taxpayer getting by dumping this money into GM? Since the current management has run the company into the ground, shouldn't we consider letting nature take it's course and apply $16.6B to the mop-up operation after the bankruptcy?

Unemployment Apples and Oranges

Frankly, I don't care about republicans or democrats. But the last thing that the current economy needs is folks who are foolishly ignorant about government statistics with bully pulpits, because it is already a hard economic problem to solve. In a politically motivated op-ed that should never have made it past the editors:

Consider the job losses that Mr. Obama always cites. ... The latest survey pegs U.S. unemployment at 7.6%. That's more than three percentage points below the 1982 peak (10.8%) and not even a third of the peak in 1932 (25.2%). You simply can't equate 7.6% unemployment with the Great Depression.

Sadly, nobody has informed Bradley Schiller about the difference between how stats were collected in 1932 and how BLS publishes the numbers now.

Currently, there are in fact 6 different measures of unemployment, and they are labeled U1 to U6. The current 7.6% number quoted in the WSJ is U3, and it omits "discouraged workers" (among others) who would like to work but have not yet found work. In a protracted slump, U6 will increase as people become "discouraged" and are dropped from U3.

The current U6 is already 13.9%, and it is rising. Do you really want to let that number hit the 25.2% like in the first Great Depression?

Cows and Nationalization

All cows are brown.
Here is something brown.
Therefore, it is a cow.

Let's apply the same logic to nationalization:

Socialist countries nationalize their banks.
Our banks are insolvent and so we nationalize them.
Therefore, we are a socialist country.

________________________________________


More and more, we find talking heads and blog writings equating "Nationalization" with "Socialism". Historically, this knee-jerk reaction originates by examining the history of countries that have gone socialist: One of the first actions is to nationalize major businesses.

In reference to the potential US nationalization of the banks, this argument is completely misplaced. When a company is run so badly that it files for bankruptcy, it is run by a judge until it emerges from bankruptcy (or is liquidated under the judge's supervision.)

Are there really people that want to argue that bankruptcy is a socialist trait, because a government representative runs the company for a while?

The banks are insolvent; they need to be dealt with. Unless somebody has a better way of dealing with these resets, the banks are going to be government-run entities for a while.

Mark to Market Suspension?

The market rumor this morning: Mark-to-market accounting will be suspended.

This rumor is consistent with the current bailout rumor of gov't purchase of assets. If the government were to buy assets below the banks carrying value, then the banks will have to take additional write-downs and would require more capital.

By suspension of M2M, then the gov't purchase can occur below carrying value, but the banks don't have to treat that purchase as a new valuation for their crap. Solvency is therefore maintained without new capital being injected. (ha ha).

The New Welfare Queens

The NYT has an article on salary caps for banks taking taxpayer handouts. You should be amazed by the sense of entitlement:

“That is pretty draconian — $500,000 is not a lot of money, particularly if there is no bonus,” said James F. Reda, founder and managing director of James F. Reda & Associates, a compensation consulting firm. “And you know these companies that are in trouble are not going to pay much of an annual dividend.”

Well then, it sure is a shame that you ran your business into the ground and required a taxpayer bailout, isn't it? Frankly, $500K is still excessive considering the poor business leadership that has been demonstrated.

Damn welfare queens want to keep driving their cadillacs.

Bonuses are Required? Bah.

The Wall Street Journal is having terrible cognitive dissonance this morning. On the one hand, we are told that:

It won't be easy to upend a compensation system that is woven into the fabric of the U.S. financial system. Many Wall Street employees work under employment contracts that can't be unwound.

On the other hand, bankrupt Lehman is getting swamped with resumes despite low pay:

"We're getting swamped with résumés," says Bryan Marsal, a turnaround expert who is now Lehman's chief executive officer. The inquiries, he says, are from people affiliated with marquee names such as Bank of America, Citigroup Inc., and Morgan Stanley.

"It's just a tough, tough time, and there are a lot of good people out there looking for work."

The wages are not great by past standards.

I'm sure that Erin Burnett, with her keen financial insight and deep understanding of corporate compensation, will have soothing words to help the WSJ editors get off the couch by noon.

Who Pays?

By now it is painfully obvious that the nation's banks have driven their businesses into insolvency. Fundamentally, the banks bet their businesses on a perpetual rise in housing prices. Their bet was wrong, and now they are not merely illiquid, but insolvent.

It appears to me that the discussion over how to fix this problem omitted the first logical step: Who pays for the mistakes?

The realm of possible solutions really has only three possibilities:
1. The Treasury (and permit me to lump Congressionally-mandated solutions here.)
2. The Federal Reserve (Note that the Fed is not part of the government.)
3. The shareholders/bondholders of the banks.

Who are the actual people behind each of those broad groups?

If the banks' problems are solved by the treasury (and the stimulus package, if it passes): This money is nothing more than a loan guaranteed by future income taxes. Put simply, we are committing the money of the next generations for the errors of this generation.

If the banks' problems are solved by the Federal Reserve: The Fed would necessarily create money out of thin air. Who does this hurt? In short, anybody who was thrifty and who saved dollars in the past years. Those who lived beyond their means are rewarded by paying off debt with dollars that are now easier to come by.

The third group is those who ran the banks, and those who lent money to the banks in the form of bonds. At present, there seems to be little to no discussion about putting the burden squarely on the shoulders of these folks.

In summary, we can either make future generations pay, or we can make savers pay, or we can make those who made poor investments pay.

A future post will discuss more about the ramifications of holding shareholders/bondholders responsible.

Avoiding the Issue

Amazingly, the folks in Washington are STILL not able to face the music. The latest plan from Sheila Bair (as outlined by the NYT):

"She, Mr. Bernanke and Treasury officials have begun talking about a new kind of bank, one that would be created and capitalized by the federal government, and whose sole purpose would be to buy up bad assets."

This is insanity. If the banks were able to sell these assets at a price that made them solvent, they would. It isn't like the value of these assets are going to RISE in the future; The assets are worthless for a reason.

So we might as well stop fooling ourselves: The assets are worth less than the banks paid for them, and the banks have bankrupted themselves by exhibiting bad business sense. They hired the wrong people to make decisions, and their boards are full of folks that endorsed this policy. To buy the "bad" assets is simply a face-saving gift to the banks and a giant middle-finger to the taxpayers by pretending that they don't really know what is going on.

It is time to put a stop to this stupidity: Wipe out the shareholders, haircut the bondholders, fire the boards and management, recapitalize and reboot.

Resets updated with Principle Cap

A number of folks were interestined in the Reset Graph post, but several were looking for more info:



From my inbox: a Business Week graph with resets updated to include NegAms hitting their principle caps.

Update of the Mortgage Reset Graph

Long ago, Credit-Suisse compiled the dollar volume of mortgage resets per month. (I believe it was driven by Ivy Zellman. Anyone know for sure?) If you were lucky enough to see that graph, then the subprime-mortgage meltdown went from "insightful prediction" to "completely obvious."

It is a good time to revisit that graph:



The Obama administration has just about one year of a lull before the next wave hits in 2010. The third year of the Obama administration 2011 is going to see similar pain to 2008.