Bailout -- Part 3, The Legislation
The Imperial three-page bill that the Bush Administration gave Congress 10 days ago, giving it unreviewable power over $700 billion, has not morphed into a 106-page compromise bill. And oh is it ever a complex piece of compromise.
The bill establishes a Troubled Asset Relief Program or TARP.
A quick review of the bill shows that:
provisions putting "limits" on executive parachutes and bonuses for bad performance, are about as tough as wet paper since they apply only "for the duration of the period that the [Treasury] Secretary holds an equity position in the financial institution." In plain English, this means "I will gladly delay into the future my bonus in return for the taxpayers paying today the costs of my atrocious judgment."
Further weakening these provisions is language that will "exclude incentives for executive officers of a financial institution to take unnecessary and excessive risks that threaten the value of the financial institution during the period that the Secretary holds an equity position in the financial institution" while other provisions let banks give bonds instead of equity (an easy drafting error that can be fixed on the House and Senate floor). The real problem here is that none of the affected executive ever took "unnecessary" risks, making this not a limit but a loophole through which billions of dollars can pass. Surely the taxpaying public will not be fooled by such meaningless language - or will it?
Conflicts of interest (which means profiteering) are likely to abound because the legislation says only that the Treasury Secretary shall issue ""regulations or guidelines." Guideline here is a synonym for meaningless. And if anyone doubts that. Read Gretchen Morgenson's blockbuster story on the front page of the Sunday New York Times about how when government officials decided to bail out the insurance giant AIG they had one private citizen in the room, the CEO of Goldman Sachs, which is owed about $20 billion by AIG.
The sections on minimizing negative impact to taxpayers and market transparency appear to be well drafted so watch for efforts to weaken them on the floor or in cloakroom deals.
Question.
Won't TARP, in the end, operate as a bailout of motgagors -- that is, once the Program has these MBSs in its possession it will start modifying the individual mortgage loans which are security for the MBSs? And all to be done in secret by bureaucrats operating without any rational incentive (except the lure of their annual bonuses calculated on the basis of number of loans modified).
If done with any rigor modifications will keep home owners paying mortgages on homes which are still overpriced and will keep the "value" of residences propped up, artificially.
Many on this board want the home owners bailed out and Senate Democrats are already pushing the conservators of Fannie and Freddie to do just that.
It may be a good idea; it may be a bad idea.
In the event if we are to operate as a democracy the residential mortgage bailout plan (its effect on the price of housing and its cost*) should be subject to Congressional hearings and debate. It should not be done without thoughtful discussion and robust debate.
* The claim is that these "financial instruments" will, when everything settles down, be sold back into the market, and the taxpayers' costs recovered. But as the income streams of the mortgages underlying the securities are modified (that is, reduced) the MBSs become less valuable and the ultimate cost to the taxpayers rises.
September 28, 2008 5:52 PM | Reply | Permalink
Ellen, I thought, in reading your many excellent posts, to be a realist, if not a cynic.
This country is not, nor ever been a democracy and is no longer a republic, but a plutocracy, run by a political class and Imperial Presidents. If any benefits accrue to a trustor or mortagor it'll be throwing a bone to the hoi polloi. The main thrust is protecting wealth in the guise of protecting credit liquidity and dollar strength.
Your in hyperbole
Bushie
September 28, 2008 6:28 PM | Reply | Permalink
Bushie, please fuck off.
Your post is a distillation of the dumbest elements of lefties. As such, it is completely disconnected from reality.
September 28, 2008 7:49 PM | Reply | Permalink
Hey, back attcha. I used to be a right-winger, then I grew up. Now it's your turn.
September 29, 2008 2:41 PM | Reply | Permalink
Ellen, you know I'm in the bail out the homeowners camp. But we can agree that we need more hearings.
If bailing out the homeowners turns out to be the right way to go, then we don't need to throw $700 billion into the system. We just need the government to force the lenders to renegotiate the terms of the mortgages so that people don't have their homes seized. It's really simple. It likely won't cause the banks to suffer losses, they would just get less return than they wanted.
Maybe I'm wrong. But that's what the hearings you're talking about should try to determine.
I'm more than willing to admit I'm wrong. But the government should show me. There's no rush here. I object to the rush most of all.
September 28, 2008 6:58 PM | Reply | Permalink
Obama Statement on Financial Plan Breakthrough
Chicago, IL | September 28, 2008
http://www.barackobama.com/2008/09/28/obama_statementt_on_financial.php
September 28, 2008 6:43 PM | Reply | Permalink
Does anyone understand the back-end part of the deal? The part that says if the country loses money, after five years, the participating institutions have to pay?
If that part is sealed tight, doesn't it make it hard-to-impossible for the institutions to rebound? It's a mystery liability, of unknown scale, and each one is on-the-hook for things others control.
And if the seal has a single hole the size of a pinprick, can't the banks juggle around the assets so we can't collect? The same way large corporations can duck out on pensions?
September 28, 2008 7:14 PM | Reply | Permalink
One of the many unknowns is a clear definition of exactly what assets the government would be buying. Mortage contracts for properties currently in active foreclosure? Actual real estate already seized by the mortgagor? Mortgages that are in default but not in forclosure proceedings? Something else? Just a mess of paper?
In other words, are we buying into the original bet that a mortgage represents, or are we buying into a bet on that bet?
If the government is buying control of a bunch of properties and mortgages, it seems like it could do much to soften the terms of the mortages to make them viable. If it's getting actual properties, it has the long-term financial ability to use them to manipulate the housing market for the better.
But it doesn't sound like that's what's happening.
September 28, 2008 7:16 PM | Reply | Permalink
The financial crisis discussions at TMP have been good as have many of the primary contributions.
You may want to read this 9/18/2008 press release from the Levy Institute.
Federal Government in Better Position Than Federal Reserve to Support Faltering Economy
Note that the date is prior to the current crisis. I think you need to seriously consider that this is a symptom much bigger problem and whatever they do now will not address our outstanding economic difficulties. I think that it is difficult to believe that that the current administration or anything similar to it will seriously pursue the needed regulatory reforms and aggressive fiscal (not monetary) actions needed to avoid a very deep and long recession.
I think you should consider that the urgency on the part of Paulson and Bernanke is partially justified but their thinking about how to solve the real problems in the economy falls short. This press release even has a sentence that starts, "Even if a deep depression and debt deflation can be avoided..." I don't want to cause undo alarm. They think Bernanke knows how to do that but they don't think he knows how to get out of an extended period of stagflation, i.e., no growth plus inflation.
September 28, 2008 7:20 PM | Reply | Permalink
Point taken -- and it's a good point.
While we all tend to talk about the specifics of the bailout proposals, I get the sense that we're really talking about the Congress's continuing abdication of its Constitutional powers [war powers, treaties(Geneva Convention), oversight -- and now, being rushed into opaque cloakroom bargains with the Executive, the two bodies working against the people's interest].
I know my rage arises more out of how this is being done than what is being done.
As to the substance of your point, the question is whether we are standing where Japan was standing in 1989.
The conventional wisdom is that Japan delayed removing toxic assets from bank balance sheets until 1998 -- eight years into its "lost decade."
Since up till then Japan had followed Bernanke's(1990) prescription without success, he and Paulson have apparently decided that it must have been the toxic assets left on the balance sheets which prevented recovery rather than a failure of Bernanke's diagnosis and recommended treatment.
Ergo: the Paulson and Bernanke (now, Dodd/Frank) bailout plan.
September 28, 2008 8:06 PM | Reply | Permalink
We pass this we are going to get it hung around our necks..politically speaking.
September 28, 2008 8:39 PM | Reply | Permalink
Hung around D's necks in the next 40 days, or in the next 4 years? I'm hoping President Obama can undo what he wants to, and then make HUGE demands on future legislation re: a new Debt Reduction Act (where it is seen as vital to National Security), Various Consumer Protections, and hopefully a whole slate of new regs.
September 28, 2008 9:28 PM | Reply | Permalink
Might I suggest that there is a very decent chance that this plan will actually work, and restore confidence and boost markets, in which case those who voted for the plan will actually be fighting in a few weels for the honor of wearing the plan proudly around their necks? Democrats can then make the points that:
1. Unlike the do-nothing radical Republicans in the House, responsible Democratic leaders acted promptly to pass a bailout plan that saved the country from a very deep recession and possible depression.
2. They did not simply accept the Bush/Paulson plan that was brought to them, but used their legislative muscle to insert protections for homeowners, executive salary provisions, equity purchase provisions and back-end protections that gave the country a much better plan. And they did this fairly quickly.
3. John McCain almost wrecked the passage of the plan, and almost sabotaged global confidence in the ability of the US government to act promptly in a financial crisis, by engaging in a reckless display of political grandstanding, and by interceding with House Republicans after an agreement was nearly in place last Thursday to stall the plan in the nation's hour of need, and hold it hostage to electoral politics?
September 28, 2008 10:18 PM | Reply | Permalink
Knowing your bias in favor of a sooner than later plan -- and disagreeing with that view -- I do agree with your political judgments, above. I'd add, only, that Democrats now own the bailout.
It will take about 12-18 months for this plan to show what it did or did not do for the economy and to the taxpayers (the so-called "crisis" will have been long forgotten as well as the names Bush and Paulson) -- about the time it took for the Iraq War's "benefits" to fully disclose themselves.
Just hope we don't lose the Congress come November 2010.
September 29, 2008 12:52 AM | Reply | Permalink
Yes, it will take a long time before we know whether the taxpayers lost money or made money on the bailout deal.
But, hopefully, the bailout will quickly accomplish its primary intended effect of restoring confidence, preventing the failure of more large financial institutions, and preventing more days like we had last week of panic and nearly frozen liquidity in financial markets.
If that happens, those who voted for the bill can begin taking credit right away for ending the crisis and preventing the worst.
And once we have the bailout bill passed, surely we have the makings of a very compelling case that the Iraq war has become completely unaffordable, and that we need to begin rapidly divesting ourselves of our extravagant commitments in Iraq, and stop piling up debt in a war that was unnecessary in the first place.
September 29, 2008 1:28 AM | Reply | Permalink
Here's our Bill!
Click on "full screen" after the jump:
http://www.huffingtonpost.com/2008/09/28/bailout-legislation-full_n_130063.html
September 28, 2008 9:54 PM | Reply | Permalink
Prepare to be fleeced all you little people who pay taxes. Here's how the sheep will be shorn.
1) The Program gives Paulson complete latitude to buy whatever toxic waste his cronies want to unload -- not just MBS but CDOs and CDS (swaps).
2) There's no way to value the paper Paulson will buy with our money -- which is why "the market" (i.e., investors like Buffet who know better) don't want to touch them. These securities are predicated on extremely complex transactions that are anything but transparent. This is called information asymmetry -- when the seller has all the information about the asset let the buyer beware.
Although one might assume that the banks holding the paper have an idea of the underlying value, in many cases they may not. The swaps and other financial gimmicks have to be "unwound" to find out who owes what to whom and whether they can pay up. (It's like a game of musical chairs with hundreds of players.)
3) Workout of the mortgage debt for homeowners is highly unlikely because in many cases, nobody knows who owns the mortgage. The underlying debt was sliced and diced so many ways and sold far and wide, so it's not clear just who has a legally enforceable claim on the property. (There have been courts that have refused to foreclose because the banks couldn't prove they were entitled to the property.)
4) The bailout will be ineffective because it doesn't get at the real problem. Americans are way over-extended and can't pay their debts. Right now the focus is on home mortgages but it's soon going to spread to credit cards, auto loans, student loans, corporate debt and government debt. It's foreign banks and "sovereign wealth funds who will have to put up the $700 billion Paulson wants to dole out. And the question is, how much interest will we have to pay to make them willing to do this?
September 28, 2008 10:38 PM | Reply | Permalink
Just finished reading the draft bill myself. A few comments so far - there's so much it's hard to know where to start.
Ellen, the mortgage modifications will be done by the new Secretary and using the Secretary's plan, though the plan can be reviewed and there are reporting requirements for each asset purchased - it's just post factum. I wonder why the Fed or Executive branch hasn't already ordered a massive due diligence program. Why wait? You can always fold it into the Secretary's flock. I'd rather have the data first than rush this package, but it's clear the leadership doesn't think there is time.
Destor - the new Secretary can modify mortgages as needed- the power is pretty broad. Though it will keep some homes out of foreclosure, I think there have already been enough that current real estate appraisals, which are mostly based on comparable sales or construction costs, are already showing sharp declines in value.
Justica notes and I agree that the valuation of these requires them to be unraveled first, which will be very time consuming, though I disagree it will be hard to track the mortgage owner. A title search can show how mortgages were sold, that is the clearest part. But keep in mind, for example, that many counties are usually 30-60 days behind on filing, so there is a further delay.
The swaps and CDOs, on the other hand - the seller is the real key, and I can't comment there as I don't have the same direct experience I have with mortgages.
Finally, Justica, your point 4 is very good - this can't prevent a dropoff in consumer spending and I do think most people are maxed out. I'd argue with the Keynesians that now is the perfect time for deficit spending (during the depression it was about 30% of GDP - a staggering number compared to now) to boost aggregate demand -just not with a war, like before. To fund it, we'd need a "bond" drive from US citizens. Several of the younger seniors I know have liquidated money market funds and have them in treasuries; they would take a better return if it was offered.
If Obama is elected and things still are bad (very likely), it's the perfect time to increase government spending on domestic needs such as energy, health care, and infrastructure. As for McCain, who foolishly floated the idea of a spending freeze, he may as well have proposed a massive tariff to help as well.
September 29, 2008 12:13 AM | Reply | Permalink
It's refreshing to know there's such good sense in Alaska.
My concern about the mortgage re-negotiations is that the paper work has been so sloppy it will be hard to trace title. From the legal side one sees creditors who can't prove what they own. This could create legal brawls and I'm not sure the Sec of Treasury will be able to impose order in a timely manner to work things out.
I'm struck by the fact that I see better informed opinion and insight on this website (and others) than we are getting from the MSM or our politicians. One would think they might have learned a lesson from the fraudulent WMD scare that got us into the Iraq war. Alas, one would be wrong.
September 29, 2008 9:56 AM | Reply | Permalink
The legislation is nothing more than a test to see if our Congress has a spine. So far, it looks like they have a lot of evolution to go through before they develop one.
Do we need a bailout? The crisis is very real, and it's been 15 years or more in the making. The bubble in tech stocks rolled over into the supposedly safer real estate market just as the bubble in automotive stocks did in the 1920s (if it was more limited to urban areas at that time). That bubble took on a life of its own as the system raced to find income streams large enough to maintain itself.
Like all Ponzi scams, it eventually collapsed.
What we should do about this, as a people, is another matter. Propping up this system based on incompetence is not a viable option. We have to learn that we don't get something for nothing and that we can't guarantee a 6% return on our 401(k) forever just for having it.
The bailout, as it appears to be going through, is little more than enough money for a new fix. This is an addiction we are funding, and we have to treat it as such. I saw this coming a year ago, and commented specifically on the actors 6 months ago and the cost 2 months ago. We should have seen it coming, but didn't. Now, we are being asked to pay the tab.
Congress is not doing its job at all, even though the Imperial Edict was modified some. Our entire system is rotten from the inside out. New Deal scale reform is needed. This ain't it.
September 29, 2008 10:26 AM | Reply | Permalink
A quick read of the bill summary suggests that it's almost as stinking a heap as the Big Sh*tpile itself. Ugh. And people are drinking the koolade on it right and left. See, for example, this piece of "analysis" from the CBO:
"Net gains or losses on the TARP transactions. As noted in CBO’s recent testimony before the House Budget Committee, the net gain or loss on the TARP transactions would reflect the degree to which the federal government sought to obtain, and succeeded in receiving, a fair market price for the assets it purchased, and the degree to which, because of severe market turmoil, market prices would be lower than the underlying value of the assets."
No, no, and No! The underlying value of the assets is not what they were once sold for, because many of them were created specifically to game the rating system. And the underlygingying value of the assets isn't even what it might once have been, because economic condtions have changed. There might be a hold-to-maturity value in some of the assets, but I wouldn't be on that, given a) the aid expected to be given to foreclosure targets and b) Paulson's authority to pay any price he pleases, including above face, for any security acquired.
Hands up, anyone who thinks that any substantial amount of the $700B will be unobligated by January 20, 2009.
September 29, 2008 11:21 AM | Reply | Permalink
Let's not forget another unspoken problem:
When have we raised that kind of dough that quickly? Who is going to buy the T-Bills at auction? What interest rate will they demand?
This $700B does not count the amount needed for the normal operations of the government, which will be about $150B by the end of the year, nor does it include the $100B the Federal Reserve is raising by selling bonds through the treasury.
We have to sell about a Trillion in bonds in the next 3 months. I realize that everyone thinks China will quietly ante it up, but do you really think they can print Yuan that quickly, or that they want to?
This discussion could be academic. Think about what that will look like.
September 29, 2008 11:26 AM | Reply | Permalink
I'm writing this as a person without much in-depth knowledge of the markets, or understanding of how the bill will actually work, so consequently I have more questions than answers.
I'm wondering why the Congress gave Paulson so much latitude. Are there other important (to the American people, that is, not to the Wall Street guys per se) goals being served by doing it that way? I mean, in order to achieve the things that will create the liquidity that will prevent another depression, does the Treasury Secretary need the ability to move quickly, with no worries by investors that he might be second guessed? In other words, is part of the reason for the wide latitude given to Paulson merely psychological? I myself am only guessing that might be a reason why the bill was structured as it was.
My understanding of markets and how they operate is so limited that I hesitate to venture an opinion, but it sure does seem to me that Paulson is still left with an awful lot of personal discretion. Do the oversight measures really have enough bite?
And what about the excessive speculation that did so much to create the problem in the first place? Is there anything in the bill to permanently rein the worst of that in? Is anyone thinking about how to moderate the market so that we won't keep experiencing these boom-bust cycles in the future? If not, why not? Don't we need to do something akin to the "trust-busting" of Theodore Roosevelt's time in order to reduce the size of these huge financial giants so that a failure or stumble of just one doesn't spread throughout the entire economy?
September 29, 2008 1:03 PM | Reply | Permalink
Well, Wabbit, it looks like Congress has evolved and grown a spine.
I never thought I'd see the day when I'd praise the likes of Shelby of Alabama but he and the courageous Democratic House members who bucked leadership deserve some kudos.
It's interesting how the far left and right -- often the only ones who adhere to principles -- can sometimes agree on some issues, albeit for very different reasons. (And I do so regret that TPM has supported this ill-conceived and ineffective sham solution.)
The test will now be to see if they can come together to craft and effective response to the credit crisis that protects home owners in occupancy and puts a floor under rapidly declining home prices. This would be the ultimate rebellion against the "go along to get along" hacks in the House and Senate.
September 29, 2008 4:48 PM | Reply | Permalink
I admit, I'm impressed. Perhaps something good will come of this.
Keep in mind that this is far from over. The results from the summer of $4 gas are just coming in with Best Buy (BBY) today. Retail has been taking it for a while, too.
I tried to post some links to what I said on my blog, but apparently I'm not allowed. The short version is that we may already be in a Depression since GDP growth in the last seven years minus excess spending and bad loans is just about zero. That's a long time for zero growth.
We need basic structural reforms. I know some of the areas, such as derivatives, but the whole system is failing right now. Throwing money at this would be like more smack for an addict.
I'm very glad I was wrong and Congress has a spine. Let's see what they do with it! Huzzah!
September 29, 2008 5:10 PM | Reply | Permalink