Tuesday, March 24, 2009

The Big Plan

Geithner's new, revised version of his original poem has been getting mixed reviews, but for most economists I've been following on the 'net, it still has neither rhyme nor reason. Paul Krugman has been especially eloquent on the failings of the plan as well as the deceptions behind it. Here's a link to the Charlie Rose show from last night, I believe, where he, along with Joe Nocera and Andrew Ross Sorkin, all from the NY Times, participated in a particularly depressing panel discussion. For Krugman the new plan is simply a warmed over version of Paulson's original plan, what he calls a "zombie" plan, that keeps on being killed yet never dies. It's basically, as he sees it, a government bailout with taxpayer money, made over to look like a partnership with "the private sector" solely to avoid the taint of nationalization. Since most private sector risk has been minimalized, private sector involvement is essentially a sham. In fact Krugman goes so far as to describe the scheme as a bribe to private investors. That's how it looks to me as well, but Krugman actually knows enough to give you the reasons and do the math. Here's some more math, from Zero Hedge's Tyler Durden, who calls the plan "The greatest bait and switch of this generation . . ."
1. First the hedge fund buys an asset with a face value of $100 for $80. The hedge fund puts up $2.40, while the Fed contributes the rest, $77.60. Huge leverage.
2. The next day, the hedge fund re-runs the model and realizes that they overpaid the bank. Turns out, it was only worth $20 -- which was where the market had been, sans-government leverage.
3. The hedge fund loses it entire $2.40, and the taxpayer loses its entire $77.60.
4. BUT! The bank buys the asset back from the hedge fund at $20, while paying it a $5 million fee for its trouble.
5. The upshot: The banks sells high, buys low. The hedge fund collects a fee for holding the asset. And the taxpayer is screwed.
An even more devastating assessment appears in an interview with noted economist James Galbraith, who finds the plan "extremely dangerous":
Why? In short, because the plan is yet another massive, ineffective gift to banks and Wall Street. Taxpayers, of course, will take the hit Why does Tim Geithner keep repackaging the same trash-asset-removal plan that he has been trying to get approved since last fall?

In our opinion, because Tim Geithner formed his view of this crisis last fall, while sitting across the table from his constituents at the New York Fed: The CEOs of the big Wall Street firms. He views the crisis the same way Wall Street does--as a temporary liquidity problem--and his plans to fix it are designed with the best interests of Wall Street in mind.

If Geithner's plan to fix the banks would also fix the economy, this would be tolerable. But no smart economist we know of thinks that it will.

We think Geithner is suffering from five fundamental misconceptions about what is wrong with the economy. Here they are:

The trouble with the economy is that the banks aren't lending. The reality: The economy is in trouble because American consumers and businesses took on way too much debt and are now collapsing under the weight of it. As consumers retrench, companies that sell to them are retrenching, thus exacerbating the problem. The banks, meanwhile, are lending. They just aren't lending as much as they used to. Also the shadow banking system (securitization markets), which actually provided more funding to the economy than the banks, has collapsed.

The banks aren't lending because their balance sheets are loaded with "bad assets" that the market has temporarily mispriced. The reality: The banks aren't lending (much) because they have decided to stop making loans to people and companies who can't pay them back. And because the banks are scared that future writedowns on their old loans will lead to future losses that will wipe out their equity.

Bad assets are "bad" because the market doesn't understand how much they are really worth. The reality: The bad assets are bad because they are worth less than the banks say they are. House prices have dropped by nearly 30% nationwide. That has created something in the neighborhood of $5+ trillion of losses in residential real estate alone (off a peak market value of housing about $20+ trillion). The banks don't want to take their share of those losses because doing so will wipe them out. So they, and Geithner, are doing everything they can to pawn the losses off on the taxpayer.

Once we get the "bad assets" off bank balance sheets, the banks will start lending again. The reality: The banks will remain cautious about lending, because the housing market and economy are still deteriorating. So they'll sit there and say they are lending while waiting for the economy to bottom.

Once the banks start lending, the economy will recover. The reality: American consumers still have debt coming out of their ears, and they'll be working it off for years. House prices are still falling. Retirement savings have been crushed. Americans need to increase their savings rate from today's 5% (a vast improvement from the 0% rate of two years ago) to the 10% long-term average. Consumers don't have room to take on more debt, even if the banks are willing to give it to them.

What no one seems ready to discuss at this point is where they think all this poorly conceived planning will wind up. I hear talk about prolonged recession, but what does that really mean? With millions of Americans losing their homes and jobs, out on the street, begging for food, how long a "recession" can be tolerated?

Especially disturbing is that all our high hopes for the newly minted Obama administration seem about to be dashed. His plan is almost sure to fail and the Republicans will certainly be there, ready to pounce when that happens. What we need at this point is exactly what we do not have: a viable party of the left, socialist, liberal, whatever, with no ties to big money and a credible leadership. If some sort of meaningful political alternative doesn't emerge soon, we may all be screwed, and for a long time to come.

2 comments:

  1. It's just another legal robbery by the rich to the public.

    It will burden the state even more, possibly leading to its bankrupticy. Nevertheless it can well be said that the USA is already bankrupt and is living only on the historical weight of the dollar - soon to be history as more and more worthless money is being printed with not practical role other than make sure that the rich don't lose.

    What will happen to those corporations when the state go bankrupt? They will surely collapse anyhow but the people who has been robbing may well be away with a good loot in whatever is still worth something (gold or who knows).

    Maybe a handful of them will be as overconfident as to fall to the fury of the masses and be lynched (because the fury of the masses will eventually lighten, have no doubt) but most of them will just evacuate to somewhere else.

    ...

    The economy is in trouble because American consumers and businesses took on way too much debt and are now collapsing under the weight of it.

    In fact the economy was in trouble before that. Some argue that this crisis is not but the one of the 1970s that was delayed by Neoliberalism, which created a bubble by injecting more and more credit to the consumers. This bubble has delayed the collapse, allowing US citizens (primarily, not only) to live well over their real possibilities for decades and creating a market for European and especially Chinese products, as well as those from the USA. US traders, of course got, a good share of the profit and the US military power has also benefitted from it... but the state and the citizens grew more and more in debt. This has not only happened in the USA but also in many parts of Europe (especially the UK and other ultra-liberal economies that privatized all and promoted the credit consumerist frenzy) but the USA is not just archetypical, it is also central.

    The USA primarily has acted by this credit bubble as the engine of global economy, much like the Spanish Empire of the 15th century acted as the engine of European economy. Like it, it has gone bankrupt because the expenses were more than the real production. They are not yet ready, it seems, but they will eveuntually have to admit it. The Habsburgs financed their imperialist bubble with silver from America, the USA is doing it with paper money and credit cards - but, like the overflowing American silver became less and less valuable, the dollar is suffering from that too.

    ...

    I hear talk about prolonged recession, but what does that really mean? With millions of Americans losing their homes and jobs, out on the street, begging for food, how long a "recession" can be tolerated?

    I don't think US citizens are ready for a revolution. They don't have the mindset. For too many decades they have believed that their country is the best of the best, that they are a "chosen people" of sorts. It will take some time before they really become aware, I suspect, and even more before they can think of reacting in any significative numbers and wit some organization.

    Many (including me) think this is only comparable to crisis of the Ancien Regime in the late 18th century. The French, who were the about the first to react and get some heads rolling, literally, suffered several decades with resignation before the situation just exploded. Maybe today things happen faster but still...

    And we can't exclude the right wing reaction. In historical experience socialism has suceeded best where poverty and opression has been endemic for generations, while where "middle classes" have been impoverished suddenly, often the fascist solutions have suceeded instead. They just have that "burgueoise" mindset, not a truly working class one: they want private wealth, not solidarity of the poor.

    Especially disturbing is that all our high hopes for the newly minted Obama administration seem about to be dashed.

    I am quite surprised that the guy seems to have such a weak leadership and no ideas of his own. He was obviously a mediatic corporate product to a large extent (even if he is clearly a smart charismatic guy) but to me the weakness of his position became clear once the Democratic primaries were over: while he still exploited the fervor of his popular base his discourse became less challenging and much more neutral. I think that only the weakness of the Republican option and the desperation of US citizens for any hope of change, even if slim, made him win.

    If some sort of meaningful political alternative doesn't emerge soon, we may all be screwed, and for a long time to come.

    There's no spontaneous creation. These things have to be worked out and take time. They also need a grassroots network and not just faith in the leader. In fact what it probably needs is less faith in the leader(s) and more real organization and discussion at all levels. This is not built in a day: it can only be done through many years, especially as it's not the kind of party US people is used to.

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  2. Thanks for this very grim but realistic assessment, Maju. What's especially interesting for me are your comments about how the current crisis has its roots so deeply into the past. I recently read a biography of Alan Greenspan, a very admiring and positive biography, by, of all people, Bob Woodward (who blew the whistle on Watergate). I was astonished to see that the Greenspan era was littered with one crisis after another, any one of which could have had devastating consequences of the sort we are seeing now. In each case, Greenspan came up with just the "right" solution that, for Woodward, saved the day. But all of these so-called solutions were really just deferrals, as you say. Each time another layer of smoke and mirrors had to be added in order to fool the public into thinking the problem had been solved and we could now move on as before. In reality the bubble continued to expand and the Ponzi scheme continued to attract the new money (or credit) it needed.

    What the American public, and the rest of the world as well, must learn to understand is that we've been lied to and manipulated for a long time, that the people who seemed so smart and on top of things, like Greenspan, Rubin, Summers, etc., were either little more than sophisticated swindlers or, as I believe the case with Greenspan, deluded dupes of a seductive but fundamentally corrupt ideology. These people and their disciples can not be permitted to continue running things. They don't know what they are doing and they don't want to know. They are at this point simply treading water, trying desperately to keep afloat from one day to the next. But you are right, the American people aren't ready to hear such news. They would rather be lied to one more time and, sadly, our most promising liberal politician is now the one doing the lying -- and he does it really well. What a shame.

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