The G7 and Geithner Refuse to Take the Financial Bull by the Horns

I’d say Simon Johnson has it about right when he says the G7 are asleep at the wheel.  A combination of mild squabbling and feel good statements about how wonderful Geithner is can’t conceal the fact that they don’t actually have anything like a unified plan of action

Part of the issue seems to be that no one is taking control and leadership.  Geithner’s plan is too vague to point the way for other nations, or even for the US.  If he’s really planning on taking bold steps such as putting banks that fail his stress test into receivership or nationalizing them, that’s simply not clear from his proposal. 

Nor have any other of the G7 nations been acting in more than an ad-hoc fashion.  No one really has a plan, and everyone is muddling through because no one is willing to admit the simple fact: that the majority of the world’s largest banks are bankrupt.

The Geithner plan may back into this admission through its stress test, but who knows? As it stands right now, the plan seems to actually say, in effect "we’ll use the stress test to figure out how much money we have to back the bank with":

While banks will be encouraged to access private markets to raise any additional capital needed to establish this buffer, a financial institution that has undergone a comprehensive “stress test” will have access to a Treasury provided “capital buffer” to help absorb losses and serve as a bridge to receiving increased private capital.

If that’s an all out commitment, something Geithner appeared unwilling to commit to during Congressional hearings, then it is actually a plan (a bad plan, but a plan).  If it’s not an absolute commitment, then it still leaves the fate of bankrupt banks up in the air.  

The other question is transparency.  The Geithner plan talks a lot about it, but it’s unclear whether the full results, including methodology of the Stress Tests, will be made public.  If they were, that would go a long, long way to reassuring private funds.  The problem right now with ponying up money to help a bank is that you don’t know if you’re getting a bargain basement price for something which could recover, or a pig in a poke.  That won’t change unless you have real transparency. 

The problem with real transparency, though, is that it’ll also make clear which banks are effectively bankrupt, and could cause a run on them.  (Which is why you should declare a bank holiday and have the FDIC lined up before releasing the results).  But stress tests which aren’t made public won’t reassure investors, they just amount to the Treasury saying "trust us" and at this point no one does.  Full numbers including methodology have to be released or the stress test will be useful only to the Treasury and the Fed for their operations and not to private capital. (more…)

Krugman: Sustained Public Good Spending Required to Save American from Deflation

krugman1.thumbnail.jpgKrugman spoke at the Thinking Big, Thinking Forward Conference on the economy.

He started by debunking the idea that this isn’t as bad as the 82 recession because the US hasn’t lost as many jobs, first quipping "just wait a couple months" then noting something more important: the 82 recession was caused by the Fed. We knew what caused it and we knew how to end it. It was ugly, but it was something we could fix.

This downturn was caused by factors we still don’t entirely understand, the Fed can’t end it with normal monetary policy because rates can’t go below effective zero and while other policies might work, we don’t know for sure what they are or how to do them.

His fear is that deflation might set in permanently, as people’s expectations of lower prices and wages become set and as a result they keep spending and investing less and less. While we may not know exactly what will work, especially because of the financial component, the best tool in the toolbox to stop deflation remains Keynesian stimulus spending.

The best type of Keynesian stimulus spending is sustained (there must be an expectation that it will continue for some years) and on public goods like infrastructure, education, research and so on. This sort of public spending peaked under Eisenhower.

Since Reagan it’s been at about only 2%, and that has left a huge deficit in public spending, which has shown up in education statistics, collapsing bridges, declining research, lousy broadband and a transportation network which is falling apart. Krugman argued, therefore for multi-year spending on public goods as the primary stimulus method.

Ed Rendell Speaks: 2.2 Trillion Infrastructure Deficit


Rendell spoke and he noted that the House bill is much better than the Senate bill, but that the Senate bill is better than nothing and that means keeping the support of the 3 Republican Senators.  He’s particularly concerned with Specter, because Specter is back up for reelection in 2010 and very vulnerable to a primary challenge.

Rendell feels that major changes are needed in almost everything in the economy and that Roosevelt’s big failure was when he backed off his big plans in his second term.

For alternative energy to work needs:

Make Alternative energy tax credit permanent

Federal government use its purchasing power to become a big factor in buying alternative energy.  Very upset that the purchases of hybrid cars taken out. 

Should use its regulatory power to require utilities to use more alternative energy sources.

Redirect oil subsidies to alternative energy

Direct financial support for alternative energy


200 billion of infrastructure in the stimulus, but 2.2 trillion infrastructure deficit in the country.  And it’s the best type of stimulus spending.  

Thinking Big Forward Convention: New Deal Thinking


I’m down in DC attending the Thinking Big Forward Conference on the economy.  The second speaker was Alan Brinkley, who summed up the history of the New Deal, it’s successes and failures.   Perhaps of most interest was his list of the first things Roosevelt did:

1) Bank Holiday (shut them down briefly)

2) Send in the Auditors

3) Creation of the FDIC to guarantee bank deposits and stop bank runs

4) A very large works program (jobs, not handouts)

But also of interest was that Brinkely doesn’t seem to think that keeping prices up was a good idea.  I may misunderstand him, since it was said as a side remark when discussing how the early Roosevelt government encouraged cartels, but it’s still an interesting point.  In deflation keeping both prices and wages up is one approach (and one I favor) and the other is to start slashing wages and prices.  

Perhaps of most interest, he was asked if the stimulus bill was big enough, his answer was equivocal–that it’s bigger than anything the New Deal did, but not structured very well, and not as big as he would like.

Geithner’s Plan: Bail out the Banks, Keep the Same People in Charge and Let Them do what they Want

geithners-fed-reserve-pic.thumbnail.jpgSeriously.  Per the NYTimes:

Mr. Geithner largely prevailed in opposing tougher conditions on financial institutions that were sought by presidential aides, including David Axelrod, a senior adviser to the president, according to administration and Congressional officials.

Mr. Geithner, who will announce the broad outlines of the plan on Tuesday, successfully fought against more severe limits on executive pay for companies receiving government aid.

He resisted those who wanted to dictate how banks would spend their rescue money. And he prevailed over top administration aides who wanted to replace bank executives and wipe out shareholders at institutions receiving aid.

In other words, taxpayer money will be used to prop up banks.  The same executives who caused the problems will be allowed to continue paying themselves huge bonuses for destroying the economy and bankrupting their banks and they won’t be forced to use the money to lend to actual consumers.  Nor will shareholders be replaced so that taxpayers investing hundreds of billions and taking on trillions in risk can have all the upside instead of all the upside (yes, they’ll probably get some shares.  They should get 100% ownership.  You should get 100% ownership. It’s your money Geithner’s spending).

This is the real nub:

It intends to call for the creation of a joint Treasury and Federal Reserve program, at an initial cost of $250 billion to $500 billion, to encourage investors to acquire soured mortgage-related assets from banks.

If private investors wanted to buy such assets, they already could.  They don’t, because the prices they want to offer are lower than the prices banks are willing to accept.  This cannot work unless Geithner either subsidizes them or guarantees their losses. My bet is that he will in fact guarantee any losses, calling it "insurance".  They will leverage up the 250 to 500 billion and use it to insure losses from private investors who buy up the toxic waste.  If it goes bad (and it will), you, the taxpayer, won’t be on the hook for 250 to 500 billion, you’ll be on the hook for however much goes bad.  And the amount will be in the trillions.

Trillions of dollars will be taken off the banks books with all the risk on taxpayers.  And in exchange they will not have to give up their huge salaries or their huge bonuses, the shareholders won’t be wiped out, the creditors won’t take a bath.  None of that.  The only person who’ll take a bath if it goes all wrong is you – the American taxpayer.

President Obama’s Press Conference

It’s on, tell us what you think. 

Transcript of his opening remarks (as prepared for delivery)

Good evening.  Before I take your questions tonight, I’d like to speak briefly about the state of our economy and why I believe we need to put this recovery plan in motion as soon as possible. 

I took a trip to Elkhart, Indiana today.  Elkhart is a place that has lost jobs faster than anywhere else in America.  In one year, the unemployment rate went from 4.7% to 15.3%.  Companies that have sustained this community for years are shedding jobs at an alarming speed, and the people who’ve lost them have no idea what to do or who to turn to.  They can’t pay their bills and they’ve stopped spending money.  And because they’ve stopped spending money, more businesses have been forced to lay off more workers.  Local TV stations have started running public service announcements that tell people where to find food banks, even as the food banks don’t have enough to meet the demand.

As we speak, similar scenes are playing out in cities and towns across the country.  Last Monday, more than 1,000 men and women stood in line for 35 firefighter jobs in Miami.  Last month, our economy lost 598,000 jobs, which is nearly the equivalent of losing every single job in the state of Maine.  And if there’s anyone out there who still doesn’t believe this constitutes a full-blown crisis, I suggest speaking to one of the millions of Americans whose lives have been turned upside down because they don’t know where their next paycheck is coming from.

That is why the single most important part of this Economic Recovery and Reinvestment Plan is the fact that it will save or create up to 4 million jobs.  Because that is what America needs most right now.  (more…)

Stimulus Bill Compromise Passes Cloture

Recession Job Losses

Nope, nothing to worry about here…

The final Senate vote will come tomorrow, but in effect, it’s done.  This is the Gang of Four Compromise which cuts millions of jobs from the budget (600 thousand per Krugman).  Collins, Snowe and Specter voted yes.  Kennedy was brought in to vote as well.  Other than them, straight partisan though there appear to have been some absences. After the vote tomorrow, the next step will be a conference between the House and Senate to determine a final version to be voted on by both bodies.

At this point we can only hope that more elements from the vastly superior House version make it into the final bill.  Given that even the House version was too small, I suggest we all bunker up for the continuing economic meltdown.  It is going to be… ugly.

Evaluating Geithner’s Financial Stabilization Plan

geithners-fed-reserve-pic.thumbnail.jpgTreasury Secretary Geithner has pushed back his announcement of the details of his plan to stabilize the banks to Tuesday, wishing not to throw another controversy into the middle of Congress’ debate on the stimulus.

The details of Geithner’s plan are as important as the details of the stimulus.  This crisis was precipitated by problems in the financial sector and the contraction of credit makes a real recovery difficult, if not impossible.

According to Bloomberg, Geithner’s plan may involve the following:

The Treasury may increase its stake in lenders that are judged short of capital, the people said on condition of anonymity. Should extra taxpayer funds result in majority ownership by the government, officials would then decide whether to liquidate the institutions, place them into receivership or retire the companies’ assets over time, they said.

Sounds good, but the question here is how much equity they will require for money.  In the past, money given or loaned has been much larger than the required equity and the equity taken has been in preferred non-voting shares.  If Treasury is willing to go dollar for dollar and to take voting shares, then this is a good idea.  At the very least, if the government winds up with 51% ownership then it should insist on having the majority of the board members and using those board members to appoint its own CEO.  That may not be official receivership, but it amounts to nationalization, which is only reasonable if the government has spent more than half the stock value of the company.  

In a second key feature of the plan, the Federal Reserve will likely expand what is now a $200 billion program to revive consumer loans, according to two people briefed on the talks.

Again, not a bad idea, but if the Fed continues only to support the secondary market and rely on banks to make consumer loans when the banks are seeking to reduce their exposure, this may not work very well.  The Fed may well need either to loan directly or to have the FDIC take over a major bank and use that bank to do the loaning.  Another good idea is to rewrite mortgages: (more…)

How to Perform Triage on the Banks and Stop the Bleeding

With Geithner set to announce his plan for fixing the banks on Monday Tuesday it’s time to look at one of the biggest issues in the financial crisis: the fact that no one knows how bad the damage is.

Not only is the financial situation  getting worse, but a lot of securities either really have no market (they’re hardly ever sold) or the market price is actually below their probable long term value.  If the government is going to take over banks, or insure the securities, or set up a bad bank, they need to know whether they’re solvent and how risky the securities they hold are—how likely they are to go bad in the future.  Once they know that, they know how much to pay, which banks to take over and which banks can be saved.


Most Senators Are Economic Morons

On Friday the Senate approved a Coburn amendment 73-24 that states,

None of the amounts appropriated or otherwise made available by this Act may be used for any casino or other gambling establishment, aquarium, zoo, golf course, swimming pool, stadium, community park, museum, theater, art center, and highway beautification project.

For the purpose of a Keynesian stimulus it doesn’t matter if it’s spent on a park or a highway beautification project.  Any spending is better than tax cuts, you could pay people to dig holes and fill them up again and that would be superior to tax cuts.  Spending on parks or museums would also be better than military spending, which most of these fools have no problem with, because military spending tends to be very inefficient at creating jobs.

A concept that’s important here is that of positive externalities.  A park or a museum or a theater or an art center is a positive externality for the community it resides in.  It brings in tourists and gets them to spend money.  People go to Chicago or Paris or New York just to see the theaters and museums, they go to Banff, for, well Banff. The museum or theater or art center doesn’t get all the money, but the community does and is richer for it.  And, for the record, the original New Deal spent a good chunk of money on both the arts… and parks.  This is a good time to spend on both, since they will be there for Americans essentially forever and they’re cheap right now. (more…)