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Questions on the Bush Bailout Package
The NYT missed the obvious questions with the Bush bailout proposal. The most obvious question: is how will paying market price for near worthless assets prevent the collapse of zombie institutions like Bear Stearns, Lehman Brothers and AIG? These institutions needed money. They won't get it from selling mortgage backed securities, that are chock full of bad mortgages, at the market price. We already know this, because they already had the option to do so.
The Bush proposal to throw out hundreds of billions of taxpayer dollars to buy up this debt will do little if anything to prevent another round of collapsing banks. We will again see desperate weekends with Treasury and Fed honchos running around trying to save the next major basket case.
The other big question is: how will we get the banks to honestly describe the assets they throw into the auction? Will we rely on the rating agencies?
Maybe the Bush crew missed this one, but a big problem in the housing bubble financial flow was the fact the rating agencies accepted many false claims by the banks and therefore rated a lot of junk as investment grade debt. Has the Bush administration figured out how it will get around this problem with its reverse auction system?
Question II is directly related to question I, because a poorly designed auction system will be a fiasco, wasting taxpayers dollars and rewarding the most effective liars. If we have more time to design the auction system, then we can minimize this risk. There would be urgency if the auction system was the mechanism that would prevent the sort of freeze up of the financial system that we saw this week, however if the auction system will not accomplish this goal, then we can take the time necessary to get it right.
--Dean Baker
COMMENTS (10)
I'd have to say that's the second most obvious question. The first question should be "where did this unlimited supply of credit to make all these bad loans come from?"
Just like the foreign debt bubble, the S&L bailout, the dot com bubble, and if you want to dust off the history books, the massive stock market bubble of the 1920's, this was fueled by the inflation of the money by the Federal Reserve, an institution whose entire purpose is to inflate a fiat currency.
It's time to stop this boom-and-bust cycle by following the constitution, abolishing the central bank, and returning to sound money.
-jcr
Posted by: John C. Randolph | September 20, 2008 1:05 AM
>
At the bottom of a panic, liquidity dries up and it becomes impossible to sell even decent assets at anything except distressed prices which, if realized on, will trigger a deflationary spiral and waves of liquidation.
We're seeing this with the hidden panic of the last few days: the imminent collapse of the commercial paper market after Lehman failed and the Reserve Fund, which had bought too much Lehman paper, broke the buck. Reserve dropped its price to 97 cents a share -- i.e. only a 3% loss -- yet a massive run on money market funds began (many losing 5% of their deposits per day). If it hadn't been arrested, it would have become impossible for Wall Street firms (and maybe issuers from all industries) to roll over their commercial paper. This would have resulted in defaults and bankruptcies from a short-term liquidity crunch hitting otherwise sound businesses.
So it's a good idea to have RTC2 buying these assets at something above their distress value. But as Dean notes, this poses huge pricing problems, and gives Wall Street the incentive to dump worthless assets on RTC2 at a premium price.
Posted by: Jay Weiser | September 20, 2008 5:15 AM
From what I can see, I think the Fed saw the potential collapse of Goldman and Morgan Stanley as something that might change the world's financial landscape. In other words, maybe not today, but they thought there was a possibility that New York would no longer be the financial capital of the world.
I'm really interested in Question I though, because I'm still not so sure that the bailout saves Morgan, banks, etc.? There's still so much bad debt out there. Isn't that still the fundamental problem? People can't pay the mortgages they have. That's not going to end right away. I liked Dean's rent-to-own housing proposal - I think that might have helped a lot. Too bad it made so much sense...
Posted by: Jared | September 20, 2008 6:47 AM
Please keep writing on this, Dean. As I write, I am watching a couple of snake oil salesmen/women on CBS Morning News telling us how this latest move will solve all of our problems. Yeah, right! Sadly, the only believable sources are you, CEPR, and Paul Krugman.
I heard Kudlow blaming the sub-prime crisis on the poor. He is so representative of the Nimrods who dominate the discussion.
Posted by: John Hand | September 20, 2008 8:13 AM
Joe Nocera's column in the NYT:
http://www.nytimes.com/2008/09/20/business/20nocera.html?ref=business
gives a better assessment than the story Dean refers to, at least for day-after second guessing.
Posted by: skeptonomist | September 20, 2008 9:48 AM
The poor are not to blame. If anyone is to blame it is some combination of their "leaders" and PC liberals ... and political leaders deathly afraid of being called racists.
Who wanted to rein in lending standards when that would result in more minorities and "no-doc", "no-income" immigrants being unable to buy a house and participate in the bubble.
When those standards were loosened many non-minorities piled on and took out home equity loans that left them underwater when the low-standards bubble burst.
Posted by: Robert Hume | September 20, 2008 10:27 AM
few people are willing to admit this because of the PC liberals, but it was also the niggers' fault that the KKK burned crosses in their yards and lynched them.
go crawl back under your rock, Robert Hume. We've had about enough of your type.
Posted by: r€nato | September 20, 2008 9:20 PM
I'd avoid that word, renato, even deployed ironically--the internet is not full of good readers.
I agree with you 100%, of course...
Posted by: nick | September 21, 2008 12:11 AM
Renato- I began reading an article this AM. It was in that conservative bastion "The Village Voice" and it was about the role Andrew Cuomo had in all this. It was making a fairly similar point to Robert Hume so I wouldn't assume that this is just racist talk. You must listen to other people's arguments even if they seem to violate your sacred beliefs.
Of course all these things are just contributing factors and mechanisms. The root problem was the expansion of the money supply.
Posted by: Erik L | September 22, 2008 9:04 AM
Stop Dreaming Start Action
Posted by: rusli zainal sang visioner | August 28, 2009 12:16 AM