Tag Archives: Obama administration

The Great Bailout Debate.

The great bailout debate.

Tim Geithner, claims that bank bailouts were a critical part of getting the economy running again, while Neil Barofsky, says the Obama administration should have spent more time bailing out underwater homeowners who were crushed by the housing bust. Who’s right?

Well, like it or not, the banks had to be bailed out, the same way you’d bail out electrical utilities rather than let everyone go without electricity. They’re just too important to the rest of the economy. They clearly should have been more punitive but frankly, given the speed at which the tide rose back in the closing chapter of the Bush administration, there wasn’t time to structure anything. Morally right or wrong, we needed to spend a ton of money to rescue the banks, and stop the bleeding. Did they do what anyone would do if someone handed over a bag of money? Of course they did.

On the other hand, Mr. Barofsky makes a good point: consumer debt overhang has been hobbling the recovery ever since 2008, and it’s outrageous that so little money was spent rescuing consumers right along with the bankers. Obama should have pushed a lot harder for “cram down” legislation; Fannie and Freddie should have been enlisted to rewrite mortgages; money should have been airlifted into consumer pockets, either to spend or to pay down debt; and schemes should have been set up for homeowners who were too far gone, that allowed them to rent their homes back from the banks that foreclosed on them. In fact, my earlier proposal was and still is, force the banks to re-finance all mortgages at current assessed market values without owner qualification.

So, they are both right, but neither of them can get us out of this mess. The only way we are going to start this thing up again is for the US Government to force banks to open their credit spigots, ignore strategic mortgage defaults, start loaning money to sub-700’s again, and re-write all of the existing mortgages, essentially marking them to market (lovely irony here).

And we need to do this before Europe crashes and burns next year. How? We have leverage. What do the banks want more than anything? Where is their greatest source of potential profit? Investment banking. We make a devil’s bargain. The banks come to the credit and mortgage table, and the Government lets them continue to operate as a single entity, with commercial and investment combined.

We stop talking about Glass-Steagall, and we stop threatening to regulate derivatives. The banks open their checkbooks to small business, and they re-write all of the underwater mortgages. That stops the bleeding in housing, jump-starts the small-ball economy, and boosts consumer confidence.

Short of such a drastic measure, we head into 2013, sailing a doomed ship following a doomed course on a fatal journey into the abyss. 


A Banking Strategy That No One Likes.

Ever since the $25 billion settlement over foreclosure abuses between five of the nation’s biggest banks and the state attorneys-general was announced, there’s been a steady drumbeat of naysayers who’ve asserted the deal does more for the banks than it does for homeowners. And barring some happy accident in which the settlement somehow inspires banks to behave, they’re probably right: In comparison with the estimated $700 billion difference between what people owe on their mortgages and what those homes are actually worth, $25 billion is peanuts.

But the problem isn’t that the settlement is part of some grand plan by the government to help out the banks. Maybe. Rather, the problem is that the government doesn’t seem to have a grand plan for the banks.

For all the current and well-deserved bank bashing, few question that a well-functioning economy is predicated on a well-functioning banking system. And few question that confidence is a critical ingredient. So then the issue becomes: What kind of banking system do you want to have, and how do you inspire confidence in it?

At two major junctures, our government (Congress went along with the Bernanke-Paulson-Geithner triumvirate) made the call that it wanted the banking system we had, not a radically reshaped one. First, the government bailed the big banks out in the fall of 2008. Perhaps more critically, the Obama administration made the call not to break them up or nationalize them in early 2009. In a sense, this new settlement is a continuation of that call. As Yves Smith at Naked Capitalism has pointed out, it’s a bailout for the banks: It will reduce the amount that people owe on their mortgages, thereby helping them afford their home equity lines of credit, roughly $400 billion of which are parked on the balance sheets of the big banks. And Scott Simon, the head of the mortgage business at bond giant Pimco, has argued that investors, not banks, will bear the brunt of the cost of any mortgage modifications.

But most important, the settlement lets the banks off the hook for repeatedly breaking the law in the foreclosure process. One analyst who has studied this tells me that their legal transgressions alone could have been used to rip apart the banking system, had the government desired to do so. Even if it’s true that the banks merely violated technical aspects of the law, and didn’t kick anyone out of a house who deserved to stay, that still flies in the face of everything we’re supposed to believe about the importance of the rule of law. Next time you get a ticket for running a red light, try arguing that you shouldn’t have to pay because you didn’t hit anyone.

But at the very same time, the government is doing a host of other things that look like they’re designed to undermine confidence in the banking system, if not the system itself. The news of the settlement broke at about the same time President Obama announced a new task force that would delve into the crimes of the bubble era. It’s not clear how this task force will differ from the one he announced in 2009, but the point — look out below, banks and bank investors! — is consistent with his anti-bank rhetoric. And the settlement is only a small piece of the litigation facing the banks. As Obama said: “This settlement also protects our ability to further investigate the practices that caused this mess … we’re going to keep at it until we hold those who broke the law fully accountable.” Indeed, multiple other investigations and lawsuits are ongoing; the Wall Street Journal also reported that the SEC might soon bring cases involving the packaging of mortgages.

The litigation isn’t all. Investors express a whole host of other worries, including Dodd-Frank’s so-called resolution authority — which dictates the way big banks in crisis are supposed to be unwound, and basically means that politicians will pick the winners and losers in the next crisis. These concerns also include new capital requirements, President Obama’s proposed $61 billion bank tax, and the Volcker Rule. It’s death by a thousand cuts. All those things, plus a much tougher operating environment, help explain the continuing dismal performance of bank stocks. Yes, they’re up from the lows of last fall, thanks to the general market rally, but bank stocks are still depressed, thanks in part to the political risk they face. And the mere fact that political risk exists is a big problem in and of itself. (One smart investor uses the phrase “political finance” to describe the dangerous intertwining of two spheres that should be separate.)

You might say: So what? Surely the banks deserve to die for the agony they’ve inflicted on our economy! Which is probably true. But that’s a reaction, not a policy. Now, the prudent policy might well be to kill the big banks. Plenty of very smart people, like Simon Johnson, the former chief economist of the IMF, Mervyn King, governor of the Bank of England, Paul Volcker, and Thomas Hoenig, the next vice-chairman of the FDIC, have inveighed against the dangers posed by banks that are too big to fail. So then, let’s kill them outright! While we’ve missed our best chance, there would still seem to be some fairly simple ways to do that, like reinstating the Depression-era Glass-Steagall law separating commercial and investment banking or mandating sky-high capital requirements for any firm over a certain size. That would bring its own set of challenges — most notably a drift of activities to the shadow banking system — but I’m not sure anything could be more challenging than regulating today’s big banks, given not just their complexity but also their well-oiled political and regulatory influence machine.

There’s an argument that articulating a clear policy, let alone executing it, is simply beyond Washington’s capabilities. Which is scary, because right now, we have the worst of both worlds: A banking system that the population at large abhors, and one that investors can’t trust.