The Treasury Bailout Plan (A follow-up from last Friday)

Discussion in 'Economy' started by gonegolfin, Sep 22, 2008.

  1. gonegolfin
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    gonegolfin Member

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    I will discuss (in bullet form) a few of the key points of the proposal by the US Treasury (led by Treasury Secretary Paulson) and why I hate this proposal. By no means is this exhaustive (just ask my fantastic wife as she is subjected to my verbose rantings - and understands them as well), but I wanted to keep this a reasonable read. Here is a New York Times link to the stunningly brief text of the Treasury plan. http://www.nytimes.com/2008/09/21/business/21draftcnd.html?_r=1&ref=business&oref=slogin

    * It looks to me that the $700 billion being touted in the bailout plan seems to be the $500 billion suggested on Friday plus the $200 billion announced in the Treasury's new "Supplemental Financing Program" ... Statement Regarding Supplementary Financing Program). Where do they get the $700 billion? They will auction off more treasury debt, which will suck in US Dollars that have been taken out of circulation as they are residing as reserves in foreign Central Bank vaults and other foreign investor accounts. Thus, this is just as inflationary as money printing because these "dungeon dollars" do not compete for goods and services at present (they are held as reserves). But once they are unleashed ... watch out. Any shortfall in treasury financing will be met simply with quantitative easing by the Federal Reserve (money printing). Also note that the $700 billion is simply a balance sheet item and not an expenditure limit. They can go back for more. Finally, this $700 billion is in addition to all of the other lending programs and bailouts already in service. The total number is approaching $2 trillion. And while we may get some of this back, I do not believe that $700 billion is going to be the total spent under the bailout plan. This number could easily be $1 trillion, if not more. I think we are probably talking about $1.5 -> $2 trillion total when all is said and done. Meanwhile, we will be creating an even bigger problem down the road. As opposed to the less expensive option of taking our medicine now and allowing the free market to purge the mis-allocation of capital and excesses (of course, Wall Street hates this idea as do the politicians that want homeowner bailouts). Of course, politicians always view this option as political suicide. But we need to let them know it is political suicide if they do not elect this option.

    * The most reprehensible part of this entire proposal is the part of the plan that specifies that actions by the Treasury under its authority are unreviewable by the judicial branch (in fact, any court or government agency). This is dictatorial power. Here is the text from the proposal ... "Sec. 8. Review. Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency." The proposal also states that the Treasury has the authority to purchase a range of assets, including mortgage loans, mortgage backed securities, and commercial mortgage related assets. But it also states that "other assets", in consultation with the Fed Chairman, can be purchased as deemed necessary to effectively stabilize financial markets. These two points (lack of any oversight and accountability plus the ability to monetize anything it sees fit) represent absolute power by the Treasury and Federal Reserve and is not representative of a free country with supposed free markets.

    * I do want to emphasize the financial instruments that are eligible for purchase. Everything. From any institution considered to be a financial institution. While all the talk is about toxic mortgage loans, mortgage backed securities, and commercial real estate mortgages, Treasury expects that they will be purchasing student loans and auto loans, as well as CDO (Collateralized Debt Obligations) and other derivatives. I have also heard talk about bailout of the credit card companies. This significantly expands the funds necessary to execute such a proposed bailout.

    * Originally, the pricing mechanism was described by Paulson as being a "market price" bid by the government. But this simply would not work because financial institutions do not want to sell at "market prices". They would go bankrupt. Thus, the bid must be above "market price". Now I am hearing that a reverse auction will be conducted. This is where the lowest price wins. The financial institutions are wary of this option as evidenced by the sell-off in the market today. However, the price they receive really depends on the supply of funds vs. the amount of assets that will be competing for these funds. Given enough money, some very high bids could be accepted (obviously bad for the taxpayer). If the supply of funds is dwarfed by the amount of assets for sale, then the banks could be writing off a lot of losses and the program will not meet the intent of the authors. But one question I have is how this really will be executed. You will need a reasonable complex classification system for the assets being put up for sale.

    * Who will manage the bailout? Treasury proposes that consultants be brought in from the outside to manage this complex bailout. The same financial professionals that leveraged our financial institutions to "kingdom come" and now want to play doctor? No thanks. Do you think there could possibly be some conflict of interest here?

    * This plan is really nothing like the Resolution Trust Corporation (RTC). Historically, financial system rescues have involved seizing the troubled institutions and guaranteeing their debts (such as the RTC). Only after that did the government try to repackage and sell their assets. The federal government took over the S&Ls first, protecting their depositors, then transferred their bad assets to the RTC garbage can. As I mentioned in a previous missive, Sweden took over their troubled banks (nationalized them) in the 90's during their banking crisis, again protecting their depositors, before transferring their assets to their equivalent institutions and recapitalizing the system. Shareholders and bond holders were wiped out. This is not what is happening here. The Treasury and Fed are simply trying to pluck off the bad assets from the financial institutional balance sheets and once that is done, carry on with business as usual. Such that all of this can happen again, but on a grander scale (do not be fooled that regulation alone will solve this, not that any of this is in the proposal). Meanwhile, shareholders and bondholders are made whole and the taxpayer suffers.

    * The litmus test for this entire crisis will be investors' (much of them foreign) willingness to participate in lending to the US for this bailout, as well as the continued required financing of the massive debt accumulated over the years (soon to be well over $11 trillion). Without this support, the bond market will head south and the dollar will be in serious trouble. The lack of sufficient support for our debt markets (which will be triggered by lack of confidence in the Dollar) will send interest rates higher until the bond bids are met. Where we land determines the fate of the bond market, our financial system, and our economy. This could then lead to a challenge of the US Dollar as the world's reserve currency as the world's investors and central banks may unload portions of their existing holdings. If the US Dollar loses world reserve currency status and enough foreigners dump their Dollar holdings, it is game over for the US Dollar and we will be forced to restart our financial system and form a new currency.

    * One final point I would like to make as I have heard some financial analysts refer to this as similar to the problems the Japanese faced in their deflationary crisis of the 90's. How the bailout will be funded is nothing like the Japanese crisis of the 90's. Japan had a positive domestic savings rate (and a good one) from which the government could borrow. Japan was not reliant on foreigners to provide the funding the government needed to borrow. The US must get a significant amount of its funding from foreigners as the US in aggregate has a negative savings rate. What it cannot borrow domestically and overseas, it will print. This threatens the status of the US Dollar as the world's reserve currency. A benefit that I cannot understate. It means everything for the standard of living in this country.

    Brian
     
  2. Zoomie1980
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    Zoomie1980 Senior Member

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    One thing I don't hear much about is that underneath most this bailout are hard assets....houses. They aren't worthless. The government is now going to own interest in houses/paper secured by houses.....
     
  3. gonegolfin
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    gonegolfin Member

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    Sure there are hard assets under this bailout. I alluded to the fact that the government would get some of this money back when I made the statement in the first bullet ...

    "The total number is approaching $2 trillion. And while we may get some of this back, I do not believe that $700 billion is going to be the total spent under the bailout plan."

    But they will be holding assets that still need to fall farther in price (many well respected economists believe 40%) and there will be some additional erosion in value as these homes sit unmaintained.

    Additionally, there is a lot of spending in these proposals that have no hard asset backing. Student loans for example. There is very little asset backing in auto loans (depreciating assets). All of the plans I have seen proposed allow the monetization of anything, including derivatives. There is going to be a tremendous amount of losses to be borne by the taxpayer in any proposal that passes. And I can guarantee you that the overhead cost in implementing any of these plans is going to be phenomenal.

    Brian
     
  4. Paulie
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    Paulie Platinum Member

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    Should we be concerned also, that the government would in essence OWN many of our houses?

    Perhaps I'm wrong about that though, so someone clue me in.

    If they would in fact OWN these houses by buying all that bad debt, they perceivably could do anything they wanted to with the properties, no?

    Is there a private property/eminent domain type issue we should also be concerned about?
     
  5. gonegolfin
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    gonegolfin Member

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    The letters, emails, and phone calls are working. The following is a post from nakedcapitalism.com.


    "Protests Against Bailout Bill Registering With Congress
    Listen to this article. Powered by Odiogo.com
    We received this e-mail today from one of the Congressional staffers who has taken to corresponding with us (boldface ours):

    I know that people are often cynical about contacting their representatives. Frankly, they should be. Most days, the overwhelming volume of constituent contacts is form letter e-mails, pre-printed postcards, blast faxes, and automated phone calls. It's easy for genuine individual requests to get lost in the sea of astroturf (fake grassroots) campaigns.

    But, on this issue, the calls and e-mails are making a difference. Members and staffers are talking about it in the halls and in
    meetings. The volumes are big (although as big as when the NRA or AARP mobilizes their members) but they're all individual. And they're running 99-to-1 against. If you read the capitol hill press (Roll Call, Politico, The Hill, CQ, National Journal), you can see the developing dissent among the rank-and-file on both sides. A lot of that is beign driven by the calls and e-mails from back home. Keep it up!"




     
  6. Zoomie1980
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    Zoomie1980 Senior Member

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    I have a close friend whose parents bought a nice house in Carmel in 1963, overlooking the ocean. They paid $53000 for it in 1963....a pretty expensive house in that day. 3100 sq ft ranch on 1/2 acre plot. In 2005 it appraised for $4,200,000. Now houses nationwide have averaged about 3.5-5.0% appreciation per year. Do the math and tell me how far California prices have to fall to get those houses to what they truely should be worth?

    We are a long way from the bottom yet...

    All that aside, what does the government do with all these houses it now owns or will own? Bulldoze them to reduce inventory and help shore up prices, sell them to get some money back, or rent them out as a HUD program.
     
    Last edited: Sep 23, 2008
  7. Zoomie1980
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    Zoomie1980 Senior Member

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    What is striking to me is so many Americans are more than willing to see Wall St. completely collapse, no matter what it does to their 401k's and Pensions. Have to say, I'm right there with them even though much of my life's savings are at risk.
     
  8. editec
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    editec Mr. Forgot-it-All

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    I agree with everyone of those complaints, GG.

    That this is socialism is without doubt.

    That it is BAD socialist also without doubt.

    Basically we're bailing out rich people who screwed up because failing to do so would cause the nation to go into a depression worse than 1929.

    I STILL think a more sensible plan is to help the home-owners directly.

    Let's try some TRICKLE UP economics for a change, shall we?

    We'd accomplish the same thing (preventing bonds from collapsing) but while we're saving our banking and bond industry, we'd ALSO be saving those people who are screwed, PLUS we'd be shoring up the values of homes of those who are NOT in upside down mortgages.
     
    Last edited: Sep 24, 2008
  9. gonegolfin
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    gonegolfin Member

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    Agreed. Which is why this is really going to cost the taxpayer. The government will be paying a premium (under the current plan) at current valuations for assets that are going to fall even further in price.

    I think that once prices fall to market clearing prices (assuming they are allowed to), then buyers will come for those homes. But if you put an artificial floor under housing, you have a serious problem.

    Brian
     
  10. gonegolfin
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    gonegolfin Member

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    I agree with you on the first half. But as a follower of Austrian economics, you know that I do not agree with you on the second half (homeowner bailout).

    Brian
     

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