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The Geithner plan in 3 minutes and 30 seconds

When government actually does something, emotions run high. Particularly when the stakes are high. So everyone is on their worst behavior; in fact, we have Yves Smith over at naked capitalism doing the “we’re all going to die” routine (“the banking system is insolvent. Got that? Insolvent”). Admittedly, there was very little plan and a whole lot of pretty words. And it’s probably a safe bet that all those pretty words were there because, well, there’s no plan yet. Anyone who’s ever had to take a written exam and faced a question on some assignment you neglected to read know this dodge as well as the next person.

Pretty words aside, here’s the plan that does come through:

We’re going to put more capital into the banks
The original TARP was almost solely intended to recapitalize banks (not get the wheels moving on lending, as so many seem to misunderstand). Like TARP, the government would get preferred stock, but that stock would be convertible into common stock in seven years. The biggest difference with TARP is that the capital infusions would only go to weak banks that, if they receive the capital infusion, will then be strong enough to resume lending or, if the economy gets worse, they will at least be able to survive the further downturn with the capital infusion (rather than go out of business taking taxpayer money with them). So this leaves out very weak banks (just like TARP) and strong banks (unlike TARP, where the bulk of the capital infusions went to strong banks). This time around, the government will actually have requirements such as detailed reporting, increased lending, and, of course, compensation limitations.
From everything I’ve seen, this is a smart, targetted, and effective recapitalization program (isn’t that what Yves Smith is calling for?), but it may not be enough. This is the right idea and, I believe, the right approach.

A “bad bank” partly owned by the government and partly owned by investors that will by up all the so-called toxic assets held by banks
This is the part that doesn’t seem to have been worked out. No wonder, because it’s a pretty complex and treacherous idea (simply guaranteeing the assets would have solved the problem at a much lower cost to taxpayers). The idea, as I understand it, is that the government will encourage private investors to purchase these assets from the banks by providing either a guaranteed floor price or actually subsidizing the purchase. Everyone and their cousin is guessing what this might be, but suffice it to say that we really don’t know.
This is the bad idea in the plan — and economists and financial experts have been saying this for a while. There is no mechanism to figure out what the “price” of these assets, a problem exacerbated by the fact that private investors are in the deal to make money for themselves, so there’s the danger that they’ll get a great deal at taxpayers’ expense. Finally, as Robert Reich points out, who are these “private investors”? Hedge funds? How do we know they won’t go belly-up? All in all, this seems to be moving the “toxic asset” problem down the river rather than solving it, so we may be in for another “crisis.”

Expanding the TALF program
In the what-the-hell category for most non-economists, TALF is one of those acronyms that are worse for the definition. Simply put, TALF (term asset-backed lending facility) was designed by the Federal Reserve to get lending started again. Under TALF, high-grade securities that are packaged from student loans, SBA loans, auto loans, credit card loans, etc., can be purchased by financial institutions using up to $200 million in very low-interest loans from the Federal Reserve. TALF was put in place because the market for asset-backed securities dried up quickly in September and interest rates on the highest rated asset-backed securities hit historic highs. Much of consumer and small business credit depends on being repackaged and sold as asset-backed securities, that the Fed had little choice but to make money available or have the whole system seize up.
TALF has been a successful program and its expansion is absolutely spot-on. This is excellent news for the economy, big business, small business, and entrepreneurs everywhere.

Incentives for banks to restructure mortgages rather than foreclose on homeowners
Geithner gave us a big “TBD” on this one.
Sounds good. And if we ever decide what’s going to go on this plate, maybe I’ll bite.

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  1. [...] exactly the dilemma faced by banks holding mortgage-backed securities (and exactly the dilemma that Geithner’s plan kicks down the road rather than solves — one reason Wall Street voted with its feet in [...]


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