Rogoff: Significant Reasons to Doubt Wisdom of Bail-Out

Kenneth Rogoff thinks that the bailout plan "might end up doing more for profits and bonuses in the financial sector than for the rest of the economy":

Significant reasons to doubt wisdom of bail-out, by Kenneth Rogoff, Project Syndicate: With minds concentrated by fears of another 1930s-style Great Depression, America’s politicians have adopted, virtually overnight, a $700bn bail-out plan...

The final deal is an elaborate piece of financial and political engineering whose ultimate effect is almost impossible to predict. There are good reasons, however, to be skeptical...

The plan’s central conceit is that government ingenuity can disentangle the trillion-dollar “subprime” mortgage loan market, even though Wall Street’s own rocket scientists have utterly failed to do so. To boot, we are told that the government is so clever it might even make money... Perhaps, but ... a lot of very smart people in the financial industry thought the same thing until quite recently. ...

This brings us back to the US treasury’s plan to spend hundreds of billions of dollars to unclog the subprime mortgage market. The idea is that the US government will serve as buyer of last resort for the junk debt that the private sector has not been able to price. Who, exactly, does the treasury plan to employ to figure all this out? Why, unemployed investment bankers, of course! ...

Little wonder that academics across the political spectrum have expressed considerable skepticism. True, the treasury will take equity stakes in some firms, so there is some upside potential. But the main concern centers on the treasury’s apparent intention to pay more than double the current market price (20c-30c on the dollar) on the premise that the treasury’s success in untangling the mortgage market will make any discount seem like a bargain.

Does such nitpicking fail to recognize the urgency of fixing the financial system? Isn’t any plan better than none? I, for one, am not convinced. Efficient financial systems are supposed to promote growth in the real economy, not impose a huge tax burden. And the US financial sector, in greasing the wheels of the real economy, has been soaking up an astounding 30% of corporate profits and 10% of wages. ... Isn’t it possible, then, that rather than causing a Great Depression, significant shrinkage of the financial sector, particularly if facilitated by an improved regulatory structure, might actually enhance efficiency and growth?

I am not suggesting that the government should sit on its hands. It needs to provide an expanded form of deposit insurance... That was a big lesson of the 1930s. The government may also need to consider injecting funds more directly into the mortgage sector while the private sector reconstitutes itself. Certainly, the government must also find better ways to help home owners and their lenders work out efficient bankruptcy proceedings. ...

Eventually, ... the US will emerge from its epic financial crisis. But there is a significant risk that this latest step, however grand, might end up doing more for profits and bonuses in the financial sector than for the rest of the economy.

Comments

[melvin polatnick]

The best way that we can get our economy quickly moving again is not by bailing out the big bad banks with 750 billion dollars but by giving that money to the homeless. It is estimated that there are three million homeless people in the United States that are costing the government billions each year to feed and shelter them. A grant of 250 thousand dollars to each person that can prove that they have been homeless for over a year would cost less money then the amount that the government is ready to waste on bailing out the banks. The results would produce the greatest spending spree in American history and jump start our economy. An added benefit would be that many of the homeless would purchase homes that have been foreclosed and bring added life to the housing market. Some Americans would be envious of the new found wealth of our most unfortunate citizens, but instead they should welcome their large contribution to our economy.

[Richard]

Perhaps the bailout is ill-conceived, but my understanding is that the government could do better than the various banks because the government has greater resources and could contemplate a holding period of quite a number of years. Additionally, if the government held a vast quantity of products which more-or-less cancelled one another out, the market could be freed up simply by reducing some of its complexity.

And I don't doubt that additional reflection might create a better approach, but it is also true that additional reflection might cost more time and panic, and offer more possibilities for political shenanigans. The current bill has already moved from a few pages to a hundred pages to over four hundred pages, and it isn't to difficult to imagine any intervention being subject to eventual gridlock. Maybe it's better to do something that is likely flawed than to do nothing at all.

[a]

"Isn’t it possible, then, that rather than causing a Great Depression, significant shrinkage of the financial sector, particularly if facilitated by an improved regulatory structure, might actually enhance efficiency and growth?"

Bravo, exactly.

And might not allowing American consumption to fall be good for the world economy?

And wouldn't it better if companies had cash on hand rather than complaining they won't be able to meet payroll if they can't borrow?

[Michael McKinlay]

$700 Billion for a plan designed to Bail Out Wall Street Criminals ?

The Tarp Plan was never designed to help the credit crunch. It was designed to bail out Wall Street Criminals. We now know thanks to Brad Sherman that the $700 Billion was going to be used to make investors whole so that they wouldn't sue the investment banks for fraud. That's right, a large chunk of the money is hush money so that the investment banks and their bankers could avoid huge judgments and possible indictments for securities fraud.

Not One Dime!

By Mike Whitney

http://www.informationclearinghouse.info/article20915.htm

[Glenda Pagan]

Hi,
I would like to offer a sound reason for the market's reaction over the last
few trading sessions. On Monday, the market sold off severely after the bill
was not passed. Remember that Monday was the LAST day for many institutions
to get stocks off of their Q3 statements (since Tuesday was a Jewish
holiday!). In my opinion, institutions were simply waiting to see if the
bill would pass and that the market would rally very strongly and that they
could then sell their losers into a rally. Classic window dressing. The
rally never came, of course, and so the dumping began. The true market
reaction to the news that the bill did not pass came the next day. The bill
had NOT passed and the market RALLIED...and not meekly...up 400-500 points,
in fact. And it was able to rally because institutions were done dumping Q3
stocks.
Yesterday we were flat...waiting on the bill in the Senate again. Once it
was passed...the market FELL again. In fact, the futures were up all
afternoon and early evening until right after the Senate decision to pass
this bill and then they immediately fell. And here we are again today over
300 points down on the DOW.
The market is clearly reflecting it's dislike of
this bill. Investors are citizens and we are voting with our feet. The only
people that like this bill are mainly political leaders and corporate
financial executives...the very people responsible for creating this mess.
The media keeps trying to convince us 'constituents' that this bill effects
us on Main Street...well duh!!! We, the citizens, the 'pension fund
investors' are trying to send a message to wall street. You're FIRED!!!!!
Read the market reaction! We do not need this bill! Let the market find it's
bottom and capitalism prevail. So what if the market tanks further!
Investors have already suffered the losses and taken a huge hit that is
clearly reflected in the stocks we own....or used to own in the case of BSC
and LEH among others. We have already lost a huge portion of our retirement money...
our nest egg. Last I checked wall street execs received fat paychecks for
their work. And that is not enough? Now you are actually trying to tell us
that this is not a bail out? And that we should invest in the likes of AIG
and distressed mortgages? And that it may be a good investment??? Are you
kidding me?? How can you fix a problem caused by excess debt extended to us
citizens by incurring more debt that is to be paid by those same citizens?
Basic economics.
Thank you.
Glenda Pagan

[paine]

rogue
plays friend of the real sector the toiling masses
this is the guy tha calls for a dose of sub optimal global growth
and implied job holder class misery ???

what could this possibly mean

my god he's calling for a let em drown !!!!

maybe he's just a sadist
but again..

are some folks still able to make money
even maybe got bets down
that pay off only if
the whole hi fi laputa crashes into the frozen north sea???

[paine]

"A grant of 250 thousand dollars to each person that can prove that they have been homeless for over a year would cost less money then the amount that the government is ready to waste on bailing out the banks"

pure number poetry ..i love it

[paine]

"if the government held a vast quantity of products which more-or-less cancelled one another out, the market could be freed up simply by reducing some of its complexity "

nice thought now if u generalize it ....

[paine]

a is a zero

[Doug]

paine - why do you write in such a weird style? It makes you incomprehensible.

[Farrar]

"paine - why do you write in such a weird style?"

Economics as poetry, Doug. You'll get used t it

[Peggy McGilligan]

Did you know many of the fat cats who circulate from board to board and from job to job throughout the financial industry are also members of the Bilderberg Group and or the Trilateral Commission, founded respectively in 1954, and in 1973, in New York City? When someone takes your money and steals your car, it makes an impression. When they belong to such a shadowy political clique, it leaves an indelible impression. Many elected officials even belong to these cabals. When Bill Clinton eased banking restrictions, he dished out $8-billion dollars for “community reinvestment loans.”

When the financing schemes fell through, as is their wont whenever 30-million Mexican nationals buy inflated properties and default, it left banks in the lurch. Senator Hillary Clinton counted on the loan giveaways to buy votes. Interestingly enough, had Hillary secured the nomination; she, instead of Barack Obama would preside over the bailout. So, where’s that $8-bilion plus dollars? Where’s Hillary? Why the caveat in Section 8 of the bailout: 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 Global Initiative people (code speak for car thieves) took my money; they did in fact steal my car. If you or I did half the things these people have done, we’d be serving consecutive life sentences. Wise up, get angry, and let the bubble burst. A bailout buys us nothing. World markets will not rebound; they know the bailout does not address the fundamental reason(s), wholesale corruption, illegal immigration, and dependence on foreign oil, that there is a problem. As a result, after cashing in on the Politically Correct loans, Hillary herself even held her nose and voted yea on the odious bill. Gentlemen, I want my money back: http://theseedsof9-11.com

You are a den of vipers and thieves. I intend to rout you out, and by the eternal God, I will rout you out. –Andrew Jackson, to fraudulent financiers, 1832

[don]

I doubt Ken's last sentences are right. The equity claims will keep the financial sector equity values in check. That is why stocks are not ebullient in the face of the apparent inevitability of the bailout.
We have to keep the sector operating. But ideas of replacing the part of it that is underwater by government are unrealistic - it is just to big. So is the cost of bringing it above water. That attempt will sink the Treasury. We are in a tough spot.
The next Congress and Administration will be Democrat. They will deny undeniable fiscal facts until it is too late (the entitlement overhang poses no eminent danger - Treasury is a bottomless pit - we can afford the bailout, because it does not increase overall debt). The result will be a disaster that will ruin the party, perhaps for decades. Not that the "no tax increase" Republicans would do any better, it's just that they will escape blame.
We need a new Paul Volcker, badly.

[acerimusdux]

Not only that, but where is the $700 billion coming from?

They raised the debt ceiling. So they expect to get this money out of the same stessed capital markets that aren't providing sufficient funds now to businesses. Directing these funds to the mortage lending sector is not going to help stem the current contraction in the business sector, it will worsen it.

We are soaking up another $700 billion of financial capital into Treasuuries, when we should instead be buying them up to try and increase the incentive for those funds to move into better yielding corporate bonds and commercial paper.

OK, maybe the Fed will recognize this and finally lower short term rates. But they've been very slow to react here so far.

[Winslow R.]

I'd like to know what the Fed/Government is targeting.

Asset Prices? Falling
Inflation? Likely soon to be falling
Wages? Falling
Price of Oil? Falling

or

Financial Sector Profits? Falling but soon to be rising?

[paine]

WINSLOW
ON TARGET

[Jas Jain]

--
Wisdom of CON-gress...

Q: “Why isn't congress listening to people [e.g., Hussman] that actually know what they are talking about?”

Because the CON-gress is composed of political gang members belonging to the two major political gangs. The same applies to the Executive Branch and top political appointees. These gangsters are controlled, via money, by financial gangsters, the worst criminal gangs in history, assisted by the Fraudulent Reserve.

What can “the American People” do about it? Nothing. What else is to be expected from political impotent and brainwashed people? These dopes can vote, a useless exercise in self-delusion and self-importance. Your votes are useless, you dopes, in case you have failed to notice.

America’s problems, especially for the past 25 years, can be summarized as:

1. Horrible economic and political leadership (Crooks and gangsters), assisted by e-CON-meisters, a bunch of intellectual whores.
2. Ignorant population when it comes to economics, investments and politics.
3. A bad system that contributes to the above two.

If you are optimistic about America’s future you really need to have sewer (propaganda that you assume is knowledge) pumped out of your head.

AMERICA'S PROBLEMS ARE DEEP AND WIDE.

Jas

[Seven Star Hand]

Greetings all,

One must understand the truth before any true solution is possible. There's much more to this unfolding story than meets the eye. Be a little patient to understand it and then hold their feet to the fire!

It will soon become painfully obvious, to even the most clueless, that it will be far easier to step away from the deceptions of the past (money, religion, and politics) and finally fix our civilization so it works for everyone, not just for a self-chosen and abominably greedy few.

Here is Wisdom...

Peace...

[James Kroeger]

Isn’t it possible, then, that rather than causing a Great Depression, significant shrinkage of the financial sector, particularly if facilitated by an improved regulatory structure, might actually enhance efficiency and growth?Finally, an economist who remembers the importance of Opportunity Cost.

The Wall St. gang (e.g., Paulson, Bernanke) say that American taxpayers may actually break even or turn a profit on the bailout, but that argument ignores the profoundly significant cost of not taking advantage of an ideal opportunity to fix the whole mess and put everything on sound footing. (Yes, the solution to the problem is having financial firms write off all those non-performing assets.)

Stiglitz understands that the $700b. could be spent on the demand side of the economy [and maybe another trillion, if need be?] in order to insulate Main St. from harm if the marketplace were to to wipe out trillions of dollars in paper 'wealth.' One of the huge benefits obtained from this cost? The re-establishment of Moral Hazard to the financial community. Under the Paulson Plan, the potential benefits are not worth the cost. Thank you for highlighting this point, Kenneth Rogoff.

There may be a stiff price to pay if we were to allow the marketplace regulate the financial sector, but what would we gain from the Paulson plan? Yes, there would be suffering if Wall St. were allowed to collapse while Main St. is pumped full of money, but suffering is something that we've all agreed is pretty much inevitable, haven't we?

[Bruce Wilder]

I am with James Kroeger.

I don't know what habit of mind makes this a choice of Paulson's Plan or nothing, but the very fact that reasonable people express their disagreement by, either
1.) kidding themselves and lying to others, by asserting that the original Paulson Plan has been substantially "fixed" by the figleafs pinned to its most pornographic parts by a weak-willed Congress, or
2.) asserting that nothing might not be all that bad, even if it does entail financial collapse.

I am not here to kid anyone. Financial collapse is very possible. The financial markets are in an extremely fragile state, and there's a tsunami of deflation rising just out to sea a short way. This is not a good thing, folks.

The only credible argument for the Paulson Plan is Paulson.

This "plan" consists of giving Hank Paulson $700 billion to do with as he sees fit.

It might work, as an interim measure. Not because there's any real "plan" before us, but, because, in the absence of a plan, or even much of a theory, the Administration is proposing the Authoritarian option. Like the ancient Romans, in a moment of panic, we appoint a Dictator. It is a strategy that depends for success on the luck and acumen of the Dictator chosen.

I pray it fails. Not because I want my country to suffer from financial collapse and panic. Nor because I think some measure of justice would be involved.

But, because the success of a Dictator is a frightful precedent.

It is the possibility that it might succeed, that leads me to oppose the Paulson Plan.

Of course, I think it will only "succeed" by corruptly enriching an elite, at the expense of the mass of people. But, then, that quickly became an integral aspect of the design of the institution of Dictator in the Roman State. That's kind of inherent in the authoritarian design.

Lots of people in this country think Clinton's Administration was scandal-ridden, and George W. Bush is a beleagured Christian hero. If Petraeus can be a hero, Hank Paulson can, as well, creepy as he is.

[btg]

"Economics as poetry, Doug. You'll get used to it"

i never have goten used to it - so i usually don't bother to read paine's posts.

[Smaller]

Ken..."Isn’t it possible, then, that rather than causing a Great Depression, significant shrinkage of the financial sector, particularly if facilitated by an improved regulatory structure, might actually enhance efficiency and growth?"

Unregulated insurance (derivatives) have proven to be more or less worthless as systemic risk reduction vehicles. Giving subsidized negative real short rate money to institutions so that they can leverage 30 to 1 bets increases systemic risk quite a bit. There is little purpose in continuing to subsidize this type of nonsense.

[Patrick]

Bruce

Don't overthink this. Applying Occam's razor would lead me to believe they just don't know what to do to fix the problem... Of course they could still ask Stiglitz, Krugman, Roubini, our gracious host, etc, etc, ... but let's face it - an ex GS CEO is not going to ask for help.

[Patrick]

Smaller - "Unregulated insurance (derivatives) have proven to be more or less worthless as systemic risk reduction vehicles"

If you're talking about CDSs, I would argue that they have had the exact opposite effect: they significantly magnify systemic risk and spread it around to parts of the system that would otherwise have only been peripherally affected by a given 'credit event'.

[Julio]

Bruce Wilder:

"It is the possibility that it might succeed, that leads me to oppose the Paulson Plan."

How will we know it succeeded?

[paine]

"It is the possibility that it might succeed, that leads me to oppose the Paulson Plan"

succeed ???
in doing what ???

reducing the force
of recssion on the real economy's job market ??
closing the trade gap ???
ending de industrialization ???

painlessly
leveling house lot values with incomes ???

the paulson plus plan likely to emerge
may succeed in pulling a bunch of wally world insiders
balls out of the vice.... maybe
and
re-afirm the real production economy's
hideouly crippling
dependence on the privateer
loaded scheinvert dice rollers
but succeed like the surge in iraq ???
ie
succeed even for a short delusionary interval
in the eyes of the job class

not a chance

[paine]

pat
i think they know what they want to fix
and its only their sponsors dilemma
and
i think they want to fig leaf it
with fine populist talk
worthy of an educated s palin

and i think they know time is against them
and not because of imminent irreversible
real production collapse
but because their rescue of this particular titanic
is only aimed at first class passengers

"I would argue that they have had the exact opposite effect: they significantly magnify systemic risk and spread it around to parts of the system that would otherwise have only been peripherally affected by a given 'credit event'"

exactly

if we want to safely increase risk taking
we need state imposed risk premia on all debt securities
ie mandatory state insurance

[paine]

kroeger's hi fi krieg
looks like we oughta destroy it to save it

why bother saving it ????
i heard ben stein
say
"go ahead nationalize it .."
yes deputize em all
make em uncle's credit posse
create a toxic security yuka mountain
run it for recycling
get on with energy indepndence and hyper employment
and
never look back

[Bruce Wilder]

Paine, thank you for your reassurance. But, if the news Media can make Teh Surge™ not just a success, but the gospel definition of success, I fear what twisted narrative they can come up with for Teh Bailout™.

Patrick: "Applying Occam's razor would lead me to believe they just don't know what to do to fix the problem... "

Oh, they know what would fix the problem. But, they don't want the problem fixed, if it requires fixing the problem. Because they are the problem.

[Patrick]

Bruce, paine - I'll grant you that i'm perhaps too reluctant to assign evil genius... and a GS CEO is certainly not to be misunderestimated.

[acerimusdux]

Glenda Pagan says:

"Are you kidding me?? How can you fix a problem caused by excess debt extended to us citizens by incurring more debt that is to be paid by those same citizens?"

That sums it up pretty well.
I saw someone else explain it as:

"They are afraid we'll stop spending
if we can't borrow money.
So they are going to take our money,
and give it to the banks,
so they can loan it back to us
and charge us for it."

[Worker]

"Are you kidding me?? How can you fix a problem caused by excess debt extended to us citizens by incurring more debt that is to be paid by those same citizens?"

Pretty easy. You borrow at 2-4% (via issuing US treasury bonds) and lend at 10%+ (by buying discounted debt).

Basically by becoming a bank with the lowest cost of capital in the world. Of course, you should intend to make money, which the Paulson plan seems to dance around.

[Per Kurowski]

The plan is that “the US government will serve as buyer of last resort for the junk debt that the private sector has not been able to price”.

And so… who can guarantee us this is a bail-out and not a take-down?

Is not the bliss of ignorance being dangerously ignored… in these mark to the market days?

[Per Kurowski]

Rogoff says “The government may also need to consider injecting funds more directly into the mortgage sector while the private sector reconstitutes itself.”

Are we too much focused on what is going on in the Congress? The FHA is in fact trying to do exactly that, for instance with the “Hope for homeowners” launched on October 1st.

[ken melvin]

"They are afraid we'll stop spending
if we can't borrow money.
So they are going to take our money,
and give it to the banks,
so they can loan it back to us
and charge us for it."

Clever

[swells]

I keep thinking there is a spread here that would allow the plan to work. While I agree with mark to market at all times, it does seem to me that over time the stuff that is now marked to a non-fucntioning market can recover and be worth more than is paid for it under a reverse auction scheme. I personally would be willing to buy some of this stuff if it were discounted from par by 35% or so but as I understand it a lot of it is marked to market for much less than that now.

There's a spread here between what this stuff is worth in this particular market and what it will be worth if held for better times. Like I said, I would be personally willing to invest it individually so I'm not against investing in it collectively. AS LONG AS ANY PROFITS COME BACK TO THE TREASURY eventually and as long as equity stakes accompany the taking of positions, ala Buffet.

[hari]

Swell - what if the stuff cannot be valued/priced?

Imagine if investment banks and their smart professionals coildn't value it and/or get rid of it - how the hell are you going to find some value in the trillions amased in CDSs?

Treasury is more likely to write-it-off than sell it, me thinks.

[swells]

hari, what you are postulating is a situation where the reverse auction doesn't work. In which case, nothing would be bought. I do realize that reverse auctions have problems. Desperate sellers might mark down to such a degree that the sale doesn't do them any real good, etc. or the rules can be rigged to screw the taxpayer.

But, I think the question really comes down to whether a reverse auction can be devised that can avoid those extremes. I don't see any intrinsic reason that couldn't be done.

[PghMIke]

I don't see how anyone would buy stock in a bank (and thus help recapitalize it) if they didn't know exactly what SIV debts it was responsible for, and which securities it still holds after selling some of its junk to the Treasury.

I'm assuming that normally this is considered a trade secret or something by a bank, and that there's no regulation that would require public disclosure of this type of information.

So, I'd be surprised if this bailout helps much.

I'm certainly not putting my money into bank stocks :-)