Only thing more insane than financial crisis is government's response

The Fed and Obama Administration are proposing massive subsidies to private investors to buy toxic bank assets:

The F.D.I.C. will provide nonrecourse loans — that is, loans that are secured only by the value of the mortgage assets being bought — worth up to 85 percent of the value of a portfolio of troubled assets.

The remaining 15 percent will come from the government and the private investors. The Treasury would put up as much as 80 percent of that, while private investors would put up as little as 20 percent of the money, according to industry officials. Private investors, then, would be contributing as little as 3 percent of the equity, and the government as much as 97 percent.

Ironically, the Fed’s proposing more non-recourse loans after non-recourse loans helped get us into this mess. Millions of people who bought homes and can afford to make their mortgage payments are instead abandoning their homes now that they’re worth less than their remaining mortgages. Buyers have the option to “un-buy” their homes and stick banks with the loss because mortgages in America are non-recourse.

Now we want to gift taxpayer money to wealthy investors to do with toxic assets what Americans did with their homes? If the economy recovers, wealthy investors keep the upside. If the economy remains weak, taxpayers eat the losses. And, either way, banks sell their toxic assets for far more than they’re worth to investors playing with Monopoly money. Insanity.

The two possible interpretations of the Treasury’s plan to let private investors play “heads-we-win-tails-you-lose” with taxpayer money to overpay for toxic bank assets is: 1) The Treasury’s stupid; or, 2) The Treasury cares far more about banks and hedge funds than taxpayers.

Paul Krugman explains the plan’s “logic”:

The Obama administration is now completely wedded to the idea that… there are no bad assets, only misunderstood assets. And if we get investors to understand that toxic waste is really, truly worth much more than anyone is willing to pay for it, all our problems will be solved.

To this end the plan proposes to create funds in which private investors put in a small amount of their own money, and in return get large, non-recourse loans from the taxpayer, with which to buy bad — I mean misunderstood — assets…

Treasury will be creating — deliberately! — the functional equivalent of Texas S&Ls in the 1980s: financial operations with very little capital but lots of government-guaranteed liabilities. For the private investors, this is an open invitation to play heads I win, tails the taxpayers lose. So sure, these investors will be ready to pay high prices for toxic waste. After all, the stuff might be worth something; and if it isn’t, that’s someone else’s problem.

The Naked Capitalism blog is even blunter:

[The plan] appears to be consistent with (low) expectations: a lot of bells and whistles to finesse the fact that the government will wind up paying well above market for crappy paper…

Notice the utter dishonesty: a competitive bidding process will [supposedly] protect taxpayers. Huh? A competitive bidding process will elicit a higher price which is BAD for taxpayers!

Dear God, the Administration really thinks the public is full of idiots. But there are so many components to the program, and a lot of moving parts in each, they no doubt expect everyone’s eyes to glaze over.

Posted by James on Saturday, March 21, 2009