The latest awful idea from Timothy Geithner

You have to read this New York Times article.

The summary at Calculated Risk barely begins to cover what Timothy Geithner is planning.

Here is Geithner’s plan: for every $3 investors put up, the government will match $97. Investors cannot lose anything beyond their initial investment, so the worst outcome for investors is losing that intial $3. The government money will be form of low-interest loans (secured against that $3), so nearly all the profits will go to private investors.

Geithner’s political ability has not imrpoved after the AIG fiasco:

The uproar over the American International Group’s bonuses has not stopped the Obama administration from plowing ahead. The plan is not expected to impose restrictions on the executive pay of private investors or fund managers who participate.

The best part? Only bailed-out zombie banks / primary dealers, like Citi, can participate. So if you want to get in on this, you need to (a) be rich enough to be a hedge funds and (b) pay the appropraite fees to Citi, which will take you on if it wants. You better not hire foreigners, either.

19 thoughts on “The latest awful idea from Timothy Geithner”

  1. Krugman[1] agrees, and compares this to the S&L operations of the 80s .

    Combined with printing a trillion new dollars in the same week Jiabao announces ‘worry’ about his US investment, one imagines his worries are growing.

    I can only honestly express myself on this issue by repeatedly scremaing expletives at the top of my lungs.

    http://krugman.blogs.nytimes.com/2009/03/21/despair-over-financial-policy/?scp=1&sq=The%20Geithner%20plan%20has%20now%20been%20leaked%20in%20detail.&st=cse

  2. From Krugman’s post:

    The Geithner plan has now been leaked in detail. It’s exactly the plan that was widely analyzed — and found wanting — a couple of weeks ago. The zombie ideas have won.

    The Obama administration is now completely wedded to the idea that there’s nothing fundamentally wrong with the financial system — that what we’re facing is the equivalent of a run on an essentially sound bank. As Tim Duy put it, there are no bad assets, only misunderstood assets. And if we get investors to understand that toxic waste is really, truly worth much more than anyone is willing to pay for it, all our problems will be solved.

    I fear this is true. FASB’s proposals on mark-to-market [1] allow zombie banks to go from one delusionally high valuation of their subprime mortgages [2] to another.

    Geithner is the last of the high-ranking executive-branch officials behind the Bush-Pelosi bailout. [3] It shows.

    [1] http://www.reuters.com/article/governmentFilingsNews/idUSN1834601520090319
    [2] http://www.tdaxp.com/archive/2009/03/08/a-novel-criticism-of-mark-to-market-accounting-rules.html
    [3] http://www.tdaxp.com/archive/2008/09/26/the-bush-pelosi-bailout.html

  3. tdaxp – this is my take. The government will provide financing to private investors up to 85%, so that means the private investor would own that 85%. Of the remaining 15%, the government will provide up to 80% of the investment, and private investors as little as 20%.

    So smallest private partnership percentage is 88%, and the largest government partnership percentage is 12%.

    I think those outside numbers would only achieved with the least desirable assets.

    The point of this approach is to get the assets into private hands as quickly as possible while rewarding the Federal Reserve and the federal government with interest income and partnership profit.

  4. ok tdaxp… we understand you love you some kruggie. i think kruggie is right about a lot of this, but i also think he’s totally wrong from a practical perspective.

    first, and most importantly, read anything and everything you can about maiden lane. this was the LLC created to unload the crappy assets and help JPM swallow Bear without too much of a collapse in the derivative markets. Bear was a major counter party remember (and Lehman was much bigger).

    now maiden lane is by no means a massive success. but it should be noted that the collapse of Bear did not cause a massive interruption in basic financial services. it didn’t even wreck the credit markets beyond a temporary “whose on first” scream.

    now remember that Lehman was allowed to file 11.

    these are TWO DISTINCT APPROACHES at dealing with TBTF financial institutions. the first approach is kill it before it falls. the second approach is let it die, but only after plenty of notice for everyone to unwind. the first was designed by Uncle Ben, the second by Hank.

    these are practical problem solving approaches, each of them have pros and cons, but after lehman failed, a lot of folks think Uncle Ben did it right with Bear and Hank did it wrong with Lehman.

    Timmy G clearly believes that Uncle Ben, while not without some difficulty, has the right plan. you kill them before they fall, and you do that by separating impaired assets from good assets, dumping impaireds in a toxic waste container, and letting the market sort through the container.

    further, Timmy G, I think, believes this is going to be a model of how to deal with systemic risk. when / if a bank is allowed to become TBTF, it will trigger some sort of pre-chapter 11 conservatorship where the risk is accumulated in a container, and then the container is sold off pieces at at ime.

    the traditional market for impaired assets is, of course, bankruptcy. but it is believed by Uncle Ben and Timmy G, apparently, that bankruptcy causes the house of cards to unwind too quickly. so a pre-11 system to bring the impaired assets to market is needed.

    now, obviously, i am a bit biased in this. i will like very much to have a NRL assisting me so that i can do the price discovery and due diligence necessary to see if any of the junk is worht bidding on. many vulture funds will jump at this chance. i do not think, however, that there is enough capital in thse funds to deal with $2T of impaired assets. i don’t even think that there is enough capital in these funds to deal with more than 1/3 of the impaired assets.

    but lets see what happens if i’m right. lets say we reduce impaired assets by 1/3. a little over a half-trillion is taken out. at about $0.30/dollar, thats around $200B of additional capital.you combine that with the $700B of TARP money, and you’re almost at $1T. that’s around half of the impaired assets in the US. then take into account major FIGs have already writtend down around $700B.

    you’re not left with much after that, and its so small an amount that managing it is probably within the realm of possible with most banks.

    this all back of the envelope… but i think its close to the scenarios Timmy G and Uncle Ben are using. if they can bring down the hit to just under another $1/2T, then they think we can get back to normal.

    now, to reveal while Nouriel and Kruggie might be right theoretically, but practically are wrong, lets assume instead of this we take over Citi, BOA, and Wells.

    first, you trigger a crisis in the credit market as under most indentures, that would be a default event. second, you absorb approximately 1T of impaired assets, while wiping out some of the very sources of capital you would expect to bid on these impaired assets. in other words, you are faced with a sort of Lehman x10 scenario. in the long run, it probably makes no difference, but in the short run, it would probably accelerate the credit squeeze rather than alleviate it.

    and what if i’m wrong? what if there’s not another $200-$300B waiting to bid on these assets? then you’re back to the Nouriel plan anyway and the govt. hasn’t really outlayed any significant capital as there are just not enough bidders.

    they are trying to create a new market for distressed sales. a pre-11, non-default market. and the downside risks for the govt are minimal. if there are not enough bidders to make a market, then you’re back to plan b.

  5. sonofsamphm1c,

    The point of this approach is to get the assets into private hands as quickly as possible while rewarding the Federal Reserve and the federal government with interest income and partnership profit.

    The conjunction is important, because it hides a lot.

    If the goal was the privization of these assets, that could rapidly be achieved in a number of ways: we could force a legitimze present-moment valuation of these markets (that is, mark-to-market less some discount [1]) and therefor a fire sell; we could eminent domain these assets at their present value and auction them off; we could create shares of a bank holding company for them, and give every American 100 shares in such an institution.

    Likewise, if we believe these assets have value substnatially above their market value, we can hold onto them and make a profit.

    Instead, we seem to be wanting to privitize them in way slower than simply auctioning them, and while enriching speculators instead of the Treasury. I do not know why.

    Fed X.,

    these are TWO DISTINCT APPROACHES at dealing with TBTF financial institutions. the first approach is kill it before it falls. the second approach is let it die, but only after plenty of notice for everyone to unwind. the first was designed by Uncle Ben, the second by Hank.

    Your concern that some of these companies are too important to fail is a valid. If this is true, we should go the utilization route.[2]

    further, Timmy G, I think, believes this is going to be a model of how to deal with systemic risk. when / if a bank is allowed to become TBTF, it will trigger some sort of pre-chapter 11 conservatorship where the risk is accumulated in a container, and then the container is sold off pieces at at ime.

    This is sensible, but not what has been happening. Rather, Geithner has been focusing on preventing the beneficiaries of the TBTF firms from suffering shocks, such a total loss of shareholder values, diluted labor contracts, and so on.

    i don’t even think that there is enough capital in these funds to deal with more than 1/3 of the impaired assets.

    Would it be reasonable to request, as part of the loan, that the firms offer the government terms no worse than the best terms they offer to any other investor? “Most Favored Nations” terms have been used in trade for some time; would a “Most Favored Investor” requirement be sensible? I think you could answer this in more detail than I could.

    [1] http://www.tdaxp.com/archive/2009/03/08/a-novel-criticism-of-mark-to-market-accounting-rules.html
    [2] http://www.tdaxp.com/archive/2009/03/22/the-90-tax.html

  6. We had a fire sale last November It sent the global economy off a cliff. It cost the global economy about 10 to 20 trillion dollars. That’s a pretty costly fire sale. I think the advocates of repeatedly repeating this catastrophe need to better explain why the costliest of all approaches is, in their opinion, the best.

    Besides, this does force an organized fire sale. These assets will be auctioned off in an orderly manner to the highest bidder. My prediction would be around a 40% to 55% discount at first. If it looks like it is working, the next assets at auction will be bid up. Once the market for CDOs is stabilized, many banks will simply elect to pay back the TARP and keep their CDOs.

    Fed Ex is being charitable to Krugman. He’s being a total idiot here. He says Geithner’s approach stands little chance of success. I would take that bet. Geithner’s approach has a better chance of success than of failure. This is a sound plan.

    It’s like Dumb and Dumber. Dumb was the Greenspan crowd. They thought their sophisticated financial instruments and models made it unimportant if 10% or so of the little guys who signed their lives away to buy a little piece of the American dream stopped making their monthly payments.

    We now know that a tidal wave of little guys defaulting will blow up the financial system. It was dumb to believe otherwise.

    But far dumber, the Krugman crowd, would be the people who think it no longer matters that 90% or so of the little people who signed their lives away to buy a little piece of the American dream continue to make their monthly payments. No matter what, that is an asset that is worth far more than fire-sale prices.

    This is the part you don’t seem to get. The fact that they continue to make monthly payments means the CDOs are valuable. They have a significant value that mark to market utterly failed to measure.

    As for the little guys getting in on this, there will be plenty of foreclosed homes and commercial properties that will sell at very attractive prices.

  7. We had a fire sale last November It sent the global economy off a cliff.

    You are the one who argued for getting assets into ‘private’ hands as quickly as possible.

    One could also simple nationalize the zombie institutions, and sell shares in a new institution in a way that does not enrich the shareholders who drove these companies into the ground.

    Besides, this does force an organized fire sale. These assets will be auctioned off in an orderly manner to the highest bidder.

    In the sense that the ‘highest bidder’ and well as the lowest bidders are all financed by the fedearl government. Geithner’s auction in effect has the Treasury compete against itself for the benefit of taking on every-higher degrees of risk, while the zombie primary-dealers and other speculators capture the potential reward.

    But far dumber, the Krugman crowd, would be the people who think it no longer matters that 90% or so of the little people who signed their lives away to buy a little piece of the American dream continue to make their monthly payments. No matter what, that is an asset that is worth far more than fire-sale prices.

    You have a habit of saying numbers that you cannot be true.

    Earlier, you claimed the “mark-to-market” subsidy required banks to write-down assets to zero. In truth, the debate is whether the assets should be written down 60%, or 30%, from bubble-era prices.

    Now, you claim nonsese about “90%” of the “little people.” The concern is the bubble-era increase in home ownership from roughly 33% to roughly 39% of the population. It is this six percent of the population who are at greatest risk of walking away. They hold roughly 15% of mortgages. Additionally, some further fraction of the remaining 33% may take bankruptcy (especailly if cram-down legislation is passed) as a way to avoid the negative consequences of asset-value speculation, and then either keep the home (under cramdown) or later purchase a more affordable one.

    This is the part you don’t seem to get. The fact that they continue to make monthly payments means the CDOs are valuable. They have a significant value that mark to market utterly failed to measure.

    As for the little guys getting in on this, there will be plenty of foreclosed homes and commercial properties that will sell at very attractive prices.

    Please inform be where I can achiveve risk-free 7-1 federal funds?

    Of course you can’t, because this is only available to firms decided upon by Geithner and his underlings.

  8. I see. Oh well, I was so caught up in a Canadian fraud case I saw this, became excited and neglected the April Fools probability of it. In other news, Zinni is our new Secretary of the Department of Everything Else.

  9. I wonder who is in charge of the Iraq portfolio… presumably the Zinni v. Hill dynamic is a result of uncertainty here. Is it Gates? Clinton? Emmanuel? Obama directly?

  10. Allegedly James Jones… allegedly. Gates and CENTCOM damn near blew a gasket over Brownback and others holding up Ambassador Hill’s nomination though, so that seemed to take the wind out of his opponent’s sails.

  11. I wonder what the political source of the winds against Hill are.

    The substance ones should be dishonesty to Congress directly relating to “bilateral” talks with China. Hill’s greatest achievement has been to help make North Korea an area of influence for China, by moving away from the Six-Party framework into a US + PRC + DPRK framework. However, there has been conflicting statements as to whether or not this was maintained, or if we also knocked PRC out of the loop.

    I doubt the Senate has such a sophisticated understanding of the matter, however. Maybe they do.

Leave a Reply

Your email address will not be published. Required fields are marked *