Nouriel Roubini Really, Really Hates the Bailout Plan

Did we say really? Even by the normal standards of Roubini’s tendency to hyperventilate state his case forcefully, the good professor rises to levels of choler heretofore unseen.

Roubini focuses on many of the issues we have discussed in our earlier posts (most notably this one) but he teases out some of the issues in more detail. And he really hates it, whoops, I think we covered that already.

His big bones of contention are, like ours:

1. The plan is inefficient (ie, it doesn’t discriminate between who ought to be saved or not, and in fact rewards those who created dud assets)

2. It runs counter to the best models of how to deal with this sort of problem

3. It does not punish current shareholders or management

But he uses words we haven’t dared to, like “rip-off”, “pathetic” and “disgrace”. Go Roubini!

From RGE Monitor:

Whenever there is a systemic banking crisis there is a need to recapitalize the banking/financial system to avoid an excessive and destructive credit contraction. But purchasing toxic/illiquid assets of the financial system is not the most effective and efficient way to recapitalize the banking system…..

In the Scandinavian banking crises (Sweden, Norway, Finland) that are a model of how a banking crisis should be resolved there was not government purchase of bad assets; most of the recapitalization occurred through various injections of public capital in the banking system. Purchase of toxic assets instead – in most cases in which it was used – made the fiscal cost of the crisis much higher and expensive (as in Japan and Mexico).

Thus the claim by the Fed and Treasury that spending $700 billion of public money is the best way to recapitalize banks has absolutely no factual basis or justification. This way of recapitalizing financial institutions is a total rip-off that will mostly benefit – at a huge expense for the US taxpayer – the common and preferred shareholders and even unsecured creditors of the banks. Even the late addition of some warrants that the government will get in exchange of this massive injection of public money is only a cosmetic fig leaf of dubious value as the form and size of such warrants is totally vague and fuzzy.

So this rescue plan is a huge and massive bailout of the shareholders and the unsecured creditors of the financial firms (not just banks but also other non bank financial institutions); with $700 billion of taxpayer money the pockets of reckless bankers and investors have been made fatter under the fake argument that bailing out Wall Street was necessary to rescue Main Street from a severe recession. Instead, the restoration of the financial health of distressed financial firms could have been achieved with a cheaper and better use of public money…

….via public injections of preferred shares into these firms; via required matching injections of Tier 1 capital by current shareholders to make sure that such shareholders take first tier loss in the presence of public recapitalization; via suspension of dividends payments; via a conversion of some of the unsecured debt into equity (a debt for equity swap). All these actions would have implied a much lower fiscal costs for the government as they would have forced the shareholders and creditors of the banks to contribute to the recapitalization of the banks…..For example if the private sector had done its fair matching share only $350 billion of public money could have been used; and of this $350 billion half could have taken the form of purchase of bad assets and the other half should have taken the form of injection of public capital in these financial institutions. So instead of purchasing – most likely at an excessive price – $700 billion of toxic assets the government could have achieved the same result – or a better result of recapitalizing the banks – by spending only $175 billion in the direct purchase of toxic assets. And even after the government will waste $700 billion buying toxic assets many banks that have not yet provisioned for such losses/writedowns will be even more undercapitalized than before. So this plan does not even achieve the basic objective of recapitalizing undercapitalized banks….

Thus, the Treasury plan is a disgrace: a bailout of reckless bankers, lenders and investors that provides little direct debt relief to borrowers and financially stressed households and that will come at a very high cost to the US taxpayer. And the plan does nothing to resolve the severe stress in money markets and interbank markets that are now close to a systemic meltdown. It is pathetic that Congress did not consult any of the many professional economists that have presented – many on the RGE Monitor Finance blog forum – alternative plans that were more fair and efficient and less costly ways to resolve this crisis. This is again a case of privatizing the gains and socializing the losses; a bailout and socialism for the rich, the well-connected and Wall Street. And it is a scandal that even Congressional Democrats have fallen for this Treasury scam that does little to resolve the debt burden of millions of distressed home owners.

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24 comments

  1. Anonymous

    Yves,
    Who said the purpose is to re-capitalise the banking system?

    The real purpose is to conceal systemic politically sponsored theft from abroad.

    That is why the “plan” centres on the instruments rather than on the holders of the instruments.

    That is why the “hold to maturity” value is computed by using the RISK FREE DISCOUNT RATE.

    This methodology specifically validates the “magic dust” concept underlying CDOs. You are discounting BBB- securities at the Treasury rate!

    That’s even better than transmuting BBB- into AAA, is it not???

    This plan will conceal how much money has been sucked out of the United States by London, utilising fraudulent charitable trusts created under the English common law.

    Did you not notice that Lehman, Merril and AIG were sunk by losses at their London subsidiaries? That’s not by chance, you know.

    Mission accomplished!

    John C

  2. dearieme

    Dear American cousins, if you insist on electing two dud Presidents in a row, each for two terms, you must expect that there will be a price to pay. We British understand these things, having repeatedly elected the dud Blair.

  3. Charles Butler

    We’re not sure, given the Chicago experience of the last few years, that having a program recommended by ‘professional economists’ is necessarily a desirable feature.

    Or does Roubini recommend dividing academia into good/bad, à la Swedish banking model?

    CB

  4. baychev

    this is monetization of fraud by the government: funny money was created with maximum 8% reserves. now this funny money backed by cronies get swapped with funny money backed by the taxpayes becuase the former have run out of confidence. what a con trick!!!

  5. Anonymous

    Roubini comes from Italy so he knows istinctively how to disguise the "private profits & public losses" model. Fairly strange that Zingales and Alesina, from Italy too, are completely off the debare (on US media at least, on Italian one's they are but this is not something to be prouf of) lost the voice. Maybe is just a matter of price, isn't it?

  6. Amnon Portugaly

    Yves,

    Key features of the Norwegian banking crisis resolution:
    • Private solutions were explored before the government intervened.
    • Share capital was written down to zero before committing public funds.
    • The government acted swiftly to limit contagion, but did not provide a blanket guarantee.
    • Liquidity support was given to illiquid, but solvent institutions.
    • The government did not use an asset management company – as the other Nordic countries did later on.

    Source
    A Norwegian perspective on banking crisis resolution by Kristin Gulbransen
    http://www.norges-bank.no/templates/article____13822.aspx

  7. Anonymous

    Nouriel for TreasSec! It takes a lifetime of effort to cultivate a visage that dour. You gotta walk the walk, even learning to scowl in your sleep. Nouriel is a bear’s bear, for damned sure!

    Dr. Hussman has a good essay this morning, over at hussmanfunds. Starting with basic balance sheet analysis, he shows that substituting government cash for busted CDOs on the asset side will have NO EFFECT in bolstering equity — UNLESS above-market prices are paid.

    This, of course, is the point that Yves and others here on nudecapitalism have been hammering on for the past week.

    Guess we needed a bigger damned hammer …

    — Juan Falcone

  8. Anonymous

    You are right . Roubini is right. I even received an email today from a colleague from the left citing Michael Moore (presumably the film director) castigating this bail-out.

    Moore, predictably, blames the Republicans, although clearly the Democrats have voted this through (and perhaps Paulson going on one knee before Pelosi helped in this regard).

    Blame cannot be placed specifically on either party. The whole system is totally corrupt and rotten to the core. Nobody can stand for election in either party and hope to win without millions of dollars of support. And where do these come from? The general public hears a gelded farce from a Presidential puppet and a compliant docile media. Nothing discussed here, or by Moore, or by Roubini or anyone else will ever be seriously reported in the popular press or on tv. They too are bought.

    This is the end of the Empire and the oligarchs have won. But it will be a pyrrhic victory. Now, the previously unimaginable sum of $700 billion will not prove to be enough since their greed is unbounded and it too will be squandered. Eventually there will be no money left, then it is time for another Benjamin Franklin or an American Putin.

  9. jb

    Suppose this really was an emergency and businesses were going to be unable to roll over short-term debt next week and thus unable to finance operations, pay-employees, etc. Why would the Treasury decide to infuse capital into the system via a complicated and drawn out process that requires them to value this myriad of mortgage back securities and then conduct reverse auctions for their acquisition?
    So maybe this is not an emergency but just a Wall Street-centric bailout?

    Or maybe this is an emergency and a Wall Street-centric bailout?

    Maybe this fair process is window dressing. Maybe the purchases won’t be drawn out. Now the draft bill removes the requirement that firms market to market and the oversight of the Treasury is ex-post, so maybe the Treasury’s plan is to have the now inflated book values for these assets give them cover for overpaying and then they can purchase the hundreds of billions all next week and say goodbye in January?

    Thoughts?

    I cannot believe both candidates are for this giant lie. who ever balks first wins.

  10. Anonymous

    “we have discussed in our earlier posts (most notably this one)” is missing a link to the previous post.

  11. Anonymous

    I spoke with a staffer at my reps office. He said that the republican was leaning toward supporting it. I asked why? He said that if I wanted to use my atm card I should too.

    This was coming from a representative of the government. That kind of talk starts “real world” bank runs. This is shameless.

  12. Anonymous

    “I spoke with a staffer at my reps office. He said that the republican was leaning toward supporting it. I asked why? He said that if I wanted to use my atm card I should too.”

    seriously – this is the party line from your rep?

    “i say so, so it is…”?????

    instead of our reps having empathy ?- what we ought to be thankful for is dictated to us by a minion?

    what is left? our morally bereft leaders, bankrupt of intelligence, our ethically challenged finance wizards? who are we that we have come to this, who are we as a nation? as a people?

    shame on all of us.

  13. Matt Dubuque

    Matt Dubuque

    I felt my comments on the widely discussed Swedish model from another thread are germane here as well.

    Please excuse me if you have previously read my discussion of a quotation from the former head of Securum, the Swedish agency that ran the bailout:

    Matt said:

    “A couple of points about the Swedish model may prove helpful. I have not previously embraced that model (even though it was wildly popular among bloggers) because it was by no means clear how it would be scaled up.

    Note that Jan Kvarnstom, a former CEO of Securum (which was the agency in charge of all this) has stated that:

    “You have to get your hands on the underlying assets quickly, get control over the cash flow and MANAGE THE ASSETS TO ADD VALUE TO THEM. It is very important to prove your professional credentials in the market and NOT to be seen simply as an asset dump.”

    The Swedes were very talented asset managers. That is how they saved money to the Swedish taxpayers, by ADDING value.

    That approach would have to be massively scaled up to succeed in the USA.

    How we would obtain the thousands of brilliant asset managers, actively ADDING value is by no means clear to me.”

    Matt Dubuque
    mdubuque@yahoo.com

  14. DailyVus

    I hope this isn’t too far off-topic, but a little bit of history may serve to show just how onerous this thing really is.

    It is Treasury that gained total autocratic control at the beginning of the century over narcotic drugs with no oversight as to drug classification (marijuana is the most dangerous drug), laws, penalties and funding.

    Because laws created through drug treaties circumvent the Congress and enforced by the UN, reform is almost impossible.

    And we are increasing the power the agency responsible for this monstrosity?

    Treason! Once given, you never get the power back.

  15. Anonymous

    Oddly, Roubini may be overstating the case here. Listen to the SIFMA Analyst Call, which can be downloaded at

    http://www.filesavr.com/sifma

    and you’ll see that they are going to wait a few weeks for more banks to fail, and even then they will just help their friends using “broad discretion”. Everything is TBD, the exec comp. limits are totally fluff. It’s a fraud, but it may not have the specific problem Roubini is complaining about.

  16. Anonymous

    The core problem is political corruption that will only be addressed when the economic pain breaks the bounds of traditional two party politics. The destruction of the American Dream spun by both the Republican and Democratic party will also be their undoing as the middle class will no longer be able to live off the wealth effect and turn their anger towards those in high places.

  17. Jerry T.

    A majority of our Congress critters will vote Yea verily and sink us further into debt and further accelerate inflation while doing NOTHING to stave off the credit crisis from collapsing. European Central Banks just threw hundreds of billions of liquidity in today and the Fed more than doubled dollar swap lines to $620 billion.

    This legislation is merely a Get Out of Jail Free Card for the Wall Street criminals.

  18. Anonymous

    WE DIDN’T TWICE ELECT HIM:

    1. 2000: Stole Florida and stopped the recount by winning a 5-4 vote in the Supreme Court.

    2. 2004: Stole Ohio and a few other states using the same tactics of denying minorities the vote, magic Ohio counties where more people voted that were registered and shunting people off onto provisional ballots that were never counted.

  19. Anonymous

    Here are the things I hate about this bill:

    #1 reason I hate: Yes, it is aimed at privatizing the gains and socializing the losses.

    The vagueness regarding the “insurance” program.

    Allows unjust enrichment for financial institutions who sell troubled assets acquired in a merger or acquisition, or a purchase of assets acquired in a merger or acquisition or a purchase of assets from a financial institution in conservatorship or receivership, or that has initiated bankruptcy proceedings…i.e, Freddie Mac, Fannie Mae, JPMorgan Chase, Bank of America, AIG, Leman Brothers.

    The unexplicable cutoff date of March 18, 2008 for the issuance of troubled assets.

    The membership of the Financial Stability Oversight Board limited to the same banking regulators and Presidential appointees who are largely responsible for the finanical problems.

    The authority of this program is concentrated in the Executive Branch.

    The Secretary is granted the authority to override specific provisions of the Federal Acquisition Regulation in contracting procedures.

    Golden parachute restrictions only being applied to employees hired AFTER the auction purchases of troubled assets exceeding $300 million in aggregate. Why not to employees hired BEFORE?

    The nonsensical provision for the Secretary to pursue measures outside of a market mechanism to ensure that prices paid for assets are reasonable and reflect the underlying value of the asset since such values can only be set by the market.

    The limitations on debate to 10 hours, the disallowance of a postponement motion or an amendment, or a motion to reconsider, or a motion to refer to committee.

    The clause regarding termination and subsequent extension being set for December 31, 2009 – before the President-elect and newly-elected Congressional representatives take office. This certainly ties the hands of the next administration and Congress. In order to protect citizen taxpayers, why not require public referendum to extend this Act beyond December 31, 2009?

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