Will the US Fashion a Smarter Bailout Plan?
So far, we in the US have had an ad hoc, half-assed, on-the-fly approach to resolving the credit and financial crisis.
The smartest bailout approach to date has been the British/Swedish/Buffett approach: Inject capital at a corporate capital structure level by buying preferred stock, rather than at the balance sheet level by buying bad assets.
Now, we read that the Treasury is considering following these other, smarter approaches:
"Having tried without success to unlock frozen credit markets, the Treasury Department is considering taking ownership stakes in many United States banks to try to restore confidence in the financial system, according to government officials.
Treasury officials say the just-passed $700 billion bailout bill gives them the authority to inject cash directly into banks that request it. Such a move would quickly strengthen banks’ balance sheets and, officials hope, persuade them to resume lending. In return, the law gives the Treasury the right to take ownership positions in banks, including healthy ones.
The Treasury plan was still preliminary and it was unclear how the process would work, but it appeared that it would be voluntary for banks.
The proposal resembles one announced on Wednesday in Britain. Under that plan, the British government would offer banks like the Royal Bank of Scotland, Barclays and HSBC Holdings up to $87 billion to shore up their capital in exchange for preference shares. It also would provide a guarantee of about $430 billion to help banks refinance debt."
Sure its a year late, and a trillion dollars short. Yes, this would have saved most of the firms that went belly up.
Better late than never . . .
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UPDATE: October 9, 2008 2:18 pm
The way we have the government buys into a cop-any via prefereds is to match any private sector investment into banks on the same terms. So GE and Goldman Sachs get double the capital injection, and since Warren did it on those same terms, we know Uncle Sam isn't getting ripped off.
If you cannot raise dollar one, Uncle Sam doesn't waste any good money on you.
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UPDATE 2: October 9, 2008 2:40 pm>
Greg Mankiw discusses a similar approach: How to Recapitalize the Financial System
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Previously:
5 Historical Economic Crises and the U.S. (February 09, 2008)
http://bigpicture.typepad.com/comments/2008/02/5-historical-ec.html
Global Financial Crises, Part II: Norway 1987 (February 10, 2008)
http://bigpicture.typepad.com/comments/2008/02/global-financia.html
Sources:
U.S. May Take Ownership Stake in Banks
EDMUND L. ANDREWS and MARK LANDLER
NYT, October 8, 2008
http://www.nytimes.com/2008/10/09/business/economy/09econ.html
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A few additional takes on this:
Reuters:
"The U.S. Treasury Department plans to start directly injecting capital in U.S. banks as soon as the end of October in exchange for passive investment stakes, according to a financial policy source familiar with Treasury Secretary Henry Paulson's thinking.
Using authority granted to it by last week's $700 billion market rescue legislation, Treasury would get common or preferred shares in the banks it capitalizes, the source told Reuters on Thursday. The government does not intend to seek seats on companies' board of directors in the voluntary capitalization program.
White House spokeswoman Dana Perino said later on Thursday that Paulson is "actively considering" capital injections into troubled U.S. banks.
"Secretary Paulson is looking at all the different tools to figure out which ones should be used at what time and how robustly and how much money to put into each," she said.
A Treasury spokesperson declined to comment in detail but said: "Treasury has broad, flexible authorities under the financial rescue legislation to buy assets, provide guarantees and inject capital and intends to consider all of them."
NYT:
"Britain’s government offered banks like Royal Bank of Scotland, Barclays and HSBC Holdings up to £50 billion, or $87 billion, to shore up their capital in exchange for preference shares. It will also provide a guarantee of about £250 billion to help banks refinance debt and the Bank of England will double the amount it lends to banks under the special liquidity scheme to £200 billion.
“This is not a time for outdated thinking,” Prime Minister Gordon Brown said Wednesday. “We had to do more than just buy up assets.”
The package, mainly put together in the last 48 hours, was intended to restore trust in British banks that saw billions of pounds wiped off their market values. Its aim is to allow banks to again lend to each other and as a result to consumers and companies to try and prevent a dramatic downturn. Executives, investors and lawmakers welcomed the package as a first step to stabilize the banking system."
Bloomberg:
"Treasury Secretary Henry Paulson signaled the government may invest in banks as the next step in trying to resolve the deepening credit crisis.
Paulson told reporters in Washington yesterday that legislation Congress passed last week to rescue financial institutions gave him broad authority that he intends to use, beyond just buying mortgage-related assets on banks' balance sheets. He indicated that an option available may be boosting companies' capital with cash infusions.
"It is the policy of the federal government to use all resources at its disposal to make our financial system stronger,'' Paulson said. "We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalization of financial institutions of every size.''
Banks worldwide aren't raising enough capital to offset losses: while posting $592 billion of writedowns and losses during the crisis, they have added just $442.5 billion of new capital, according to data compiled by Bloomberg. The International Monetary Fund anticipates losses will more than double to $1.4 trillion."
AP/IHT:
"Hard-hit British banking stocks recovered after the government announced a 50 billion pound ($88 billion) plan to partly nationalize major banks and promised to guarantee a further 250 billion pounds ($438 billion) of bank loans to shore up the beleaguered sector amid the world financial crisis.
But the drastic moves failed to soothe wildly fluctuating markets, and many shares ended Wednesday sharply lower.
Prime Minister Gordon Brown billed it as a "radical" plan to stabilize banks so that they could resume normal lending and other operations, rather than trying to buy up bad assets as the United States is doing.
"All these are investments being made by the government which will earn a proper return for the taxpayer," he told a news conference. "This support is on commercial terms. We expect to be rewarded for the support we provide."
At the same time, the Bank of England made at least 200 billion pounds ($350 billion) in short-term loans available to banks to help restore liquidity to the frozen credit market."
Telegraph:
"The Bank of England has extended the collateral it will accept for the Special Liquidity Scheme (SLS) and other open market funding operations. Use of the SLS, which allows banks to swap untradeable mortgage securities for liquid Treasury assets, is also being extended from the early estimate of £50bn to £200bn.
Widening the range of collateral that is eligible will make it easier to access the SLS as well as the Bank's weekly funding operations, for three month, one week and overnight money. Any asset that is backed by a Treasury guarantee will now be eligible for acceptance by the Bank of England when previously only AAA-rated mortgages qualified. The collateral extension will allow the banks to replace with lower quality assets the estimated £100bn of AAA-rated securities already deposited at the SLS. The banks will then be able to use their best assets in the money markets to help get them moving again.
The Bank of England will continue to demand a "haircut" on the assets, swapping gilts worth less than the assets being deposited, and charge a punitive rate for use of the scheme, which remains open until January 31. A long-term replacement will be unveiled next week."
Sources:
Paulson Signals Treasury May Invest Capital in Banks
Rebecca Christie and Simon Kennedy
Bloomberg, Oct. 9 2008
http://www.bloomberg.com/apps/news?pid=20601087&sid=au4PnE_L1TCQ&
How authorization to recapitalize banks via public capital injections (“partial nationalization”) was introduced - indirectly through the back door - into the TARP legislation
Nouriel Roubini
RGE, Oct 9, 2008
http://tinyurl.com/public-capital-injections
Treasury may capitalize banks by end of October
Reuters Oct 9, 2008 1:27pm EDT
http://www.reuters.com/article/businessNews/idUSTRE4986RB20081009
Financial Crisis: What does the bail-out plan actually mean?
Telegraph 1:10AM BST 09 Oct 2008
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/3160484/Financial-Crisis-What-does-the-bail-out-plan-actually-mean.html
UK steps in to save its banks, cuts interest rates
Associated Press, October 9, 2008
http://www.iht.com/articles/ap/2008/10/09/europe/EU-Britain-Bank-Turmoil.php
Britain Announces Huge Bank Bailout
JULIA WERDIGIER
NYT, October 8, 2008
http://www.nytimes.com/2008/10/09/business/worldbusiness/09britain.html
Thursday, October 09, 2008 | 12:15 PM | Permalink
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Better late than never. I hope it happens. The only reason it hasn't it bad )and sad) ideology, the notion of the government owing banks and essentially (even if only temporarily) 'nationalizing' the industry is just too much for the old political establishment obsessed with Laissez-Faire (pronounced dead by the President of France on Sept. 25th) and free markets.
The bigger problem is viewing this crisis as only an Atlantic Alliance event. Yesterday's "coordinated effort" included a rate cut by China although it was not widely reported or discussed. Fact is China, Japan, Russia, and the Mid East hold trillions of dollars. We need a true international summit between US, EU, and China, with the resource nations and fx holders like Japan, in the process, to fashion a new Bretton Woods type order. All of these measures seem to be band-aids.
Posted by: Sinomania! | Oct 9, 2008 12:23:18 PM
Yes, bit by bit, the execution of measures to get us out of this hole will get better. C'mon, Barry, we are a democracy. Everything we do is supposed to be messy and subject to constant re-evaluation. That's the way it has worked in the past and the way it will work this time. Meanwhile we get to complain and criticize and that is all part of the process. Keep it up. Ultimately this is a system that works. God protect us from one depending on philospher-king technocrats who come up with the "proper" answer every time.
Posted by: PureGuesswork | Oct 9, 2008 12:26:21 PM
Doug Dachille was on TV briefly this morning explaining the problems of the present plans, including how the bailout plan to buy MBS was a complete piece of idiocy, and also how nobody will buy (and hold) equity in banks because of the FDIC takedowns that have occurred with recent failures. I am holding some bank stock right now, but it has been a bad policy to own banks on Fridays...
Posted by: leftback | Oct 9, 2008 12:26:53 PM
How much do you want to bet that JPM will be the first government aquisition?
Posted by: E Thomas | Oct 9, 2008 12:30:33 PM
Leftback,
What kind of bids for the Lehman dregs tomorrow?
Posted by: Bruce in Tennessee | Oct 9, 2008 12:35:53 PM
Beginning to look more than just a credit crisis. Seems like they can't give away the money. The banks don't want it cause they don't want to lend. The consumers, finally,don't want to consume. Without consumption businesses start layoffs prior to going belly-up. Consumers hurt more and tighten further. And the viciousness sets in. The whole economy seems to be seizing up. What to do? What to do?
Posted by: Bluzer | Oct 9, 2008 12:36:07 PM
Kucinich already introduced a bill for a similar plan, before the existing one got pushed through. He was swept under the rug. The problem is the Kucinich bill didn't help the wealthy stay that way. When will he ever learn?
Posted by: Victor | Oct 9, 2008 12:38:28 PM
It's about time. Given the AIG boondoggle debacle, you have to wonder how much government bailout money kleptocratic "capitalists" have pocketed or spent cavalierly in this process of maintaining the facade of capitalism in this country.
Is this topic in your new book? It should be.
Posted by: CNBC Sucks | Oct 9, 2008 12:39:52 PM
“The smartest bailout approach …[is to] …inject capital at a corporate capital structure level by buying preferred stock, rather than at the balance sheet level by buying bad assets”.
I agree with the foregoing. If this proposal had been on the table two weeks ago, I would not have been so opposed to the bailout bill.
Equally important is quickly shutting down those banks that are both insolvent and hopeless. We have far more banks and financial institutions than we need.
Of course, one sticky question is, who gets to decide who lives and who dies?
Posted by: DL | Oct 9, 2008 12:43:26 PM
Like I've said a number of times, America is so afraid of socialism that everything will be done to avoid any semblance of it until it realizes that it has no choice because ageing Americans want their social net.
Posted by: D. | Oct 9, 2008 12:43:59 PM
Idiots. I can't decide what makes me angrier, (1) the failure to grasp the situation and act appropriately and forcefully, (2)the fact that ex-Goldman types, PIMCO and others will make billions again as the Ferris Wheel is repaired through TARP, commercial paper purchases, private equity investments, etc., or (3) the frightening lack of knowledge about economics and the financial markets being exhibited by the two presidential candidates.
Iceland might not be so bad after the fall. According to Wikipedia, it enjoys a superior quality of life ranking and boasts the second highest lifespan in the world - over 81 years.
Posted by: lithuania | Oct 9, 2008 12:45:46 PM
Anyone besides me think that tomorrow will bring a hellish squeeze on the shorts? It's just odd to me that with all the down lately, the ban lift today and hungry shorts licking their lips for the financials, that it is beginning to feel like a setup!
Posted by: Rob P | Oct 9, 2008 12:47:15 PM
What fun to watch an airhead idealogue like Michelle Caruso-Cabrera report on how the socialists in Europe are leading us to a solution.
Such irony. As the sun sets on the worst presidency in history, the Bush Administration again finds itself groveling for help from Old Europe.
Posted by: The Original DC | Oct 9, 2008 12:51:40 PM
The U.S. always does the right thing after exhausting all other alternatives.
Posted by: johnnyvee | Oct 9, 2008 12:52:44 PM
Don't miss the British/Swedish buffet at the Sacramento Airport Hilton. Delicious (everything comes with gravy), and you get unlimited trips to the salad bar.
Posted by: Rosabarba | Oct 9, 2008 1:04:38 PM
Sweden had 7 banks at the time of that rescue. The U.S. has 7,000 and all publicly traded banks in the U.S. are potentially at risk for this type of bailout plan, which includes punitive action to existing shareholders. It is no wonder why bank shares are plummeting today. Great idea, Paulson! As Bill Seidman said, this is not a vote of confidence, but rather, a wholesale injection of fear and the loss of confidence.
Posted by: Mike Norman | Oct 9, 2008 1:05:53 PM
@ Bruce:
I haven't the remotest idea what will happen with the Lehman dregs tomorrow but I do know that fear of the unknown in terms of the lack of transparency of CDS positions is a big part of the mess and is keeping a lot of people away from investing.
I would note that there has been a fair amount of selling of Treasuries in the last few days and that is an awfully large market, so there is fuel to start a big fire under equities, or even some of those despised MBS products.
Barry is completely correct. The government should be an investor here just like Buffett, and get preferred stock - of course if there hadn't been so many fools on the hill this would have been in the original bailout bill.
Posted by: leftback | Oct 9, 2008 1:06:28 PM
We should get something at least half as good as Warren: preferred stock that primes others, paying maybe 5% to start. They can keep their crappy MBS and they can figure out what to do with them. The interest rate can increase steeply yearly to create an incentive to buy us out. Why is is so hard to figure out?
But, these guys only want us to buy their crap because no one else will and they have no faith it will ever be worth anything.
Anyone see Chanos on CNBC this morning? He made a lot of sense. How did he get on?
Posted by: Mike in NOLa | Oct 9, 2008 1:10:59 PM
Article by Roubini today in Forbes:
http://www.forbes.com/opinions/2008/10/08/recession-depression-keynes-oped-cx_nr_1009roubini.html
Posted by: DL | Oct 9, 2008 1:15:39 PM
@Rob P...what shorts? new shorts are just being placed on financials...as for QQQQ, short ratio is .5 days...laughable short interest. Index futures are flat in terms of trader positions. We are going down sir.
Posted by: Steve Barry | Oct 9, 2008 1:17:10 PM
let them die. what the hell are we doing propping up bad managers and bad banks? a cleansing purge will be good for us in the long run.
Posted by: robert | Oct 9, 2008 1:17:41 PM
Without better oversight on what banks do with the new capital, this will be an even worse disaster than the first ideas of TARP.
Posted by: Anonymous | Oct 9, 2008 1:21:37 PM
lithuania - Also, Icelandic women are known to be partiers and tend to, shall we say, "associate" uninhibitedly.
Posted by: CNBC Sucks | Oct 9, 2008 1:22:38 PM
Does anyone ever stop and say to themselves: "this is complete insanity, how on earth did this happen?". I have found myself saying this quite often lately.
It seems to me that it will be a long time before the financial industry is turned over to the "quants" again. The financial "engineering" that gave us MBS and CDS was never well tested. It is very important to test models to destruction.
In science there is occasionally a mania for mathematical modelling of everything that absorbs a vast amount of time, money and energy until a simple experimentalist (like Copernicus) comes along and points out that one of the underlying principles is obviously wrong (sun does not rotate around the earth) so that all of the models are worthless. That is sort of where we are now, with Roubini and others playing the role of the observer of the obvious.
Posted by: leftback | Oct 9, 2008 1:28:09 PM
Shorting all US banks is a patriotic duty this week so Hank can buy in at the lowest possible price and hose the existing shareholders, fire incompetent management and close down/sell off most of the banks. Sooner the better. Maybe he has a mate helping him do just this. I would in his position :-)
Posted by: t2k | Oct 9, 2008 1:37:41 PM
