naked capitalism

It’s telling that the Fed was dumb enough to try upping the ante in its ongoing fight with Bloomberg News over the central bank’s refusal to disclose many critical details about its emergency lending programs during the crisis. Any poker player will tell you you don’t raise with a weak hand when the other side is pretty certain to call your bluff.

For those who have been too preoccupied with Europe to keep track of this wee contretemps, Bloomberg last week released a news story that received a great deal of follow through in the media and the blogosphere on the latest information it extracted from the Fed under duress.

Bernanke sent a letter that is pissy by the standards of Fed discourse to Tim Johnson, Richard Shelby, Spencer Bachus, and Barney Frank (the big dogs of banking in Congress). Given that Obama had to whip personally to get Bernanke reappointed, and that antipathy towards the central bank is a rare bipartisan cause, writing an aggrieved letter to powerful Congresscritters is not an obvious way to win friends and influence people.

And particularly a letter like this one. Get a load of how it begins:

First, it tries the sneaky device of complaining about all the bad press it is getting, and alludes in passing to the latest Bloomberg report (“one last week”). So are we dealing with the general or the specific? The attachment to the letter, which makes a series of specific claims of where the coverage allegedly was off beam, was rebutted with great speed and vigor by Bloomberg. So trying to have it both ways (attacking Bloomberg but trying to depict it as part of general critic wrongheadedness) backfired.

But what is even more striking is the tone and substance of the letter: overreaching words like “egregious,” the patently false claims that there is nothing new in the latest (and by implication, earlier) Bloomberg stories, that the disclosure issues are settled. If there was no new information given to Bloomberg, then why did the Fed fight so hard to prevent the release of information? The Fed has never been cooperative. Even with the Congressional Oversight Panel, the so called Sanders report coming out of Audit the Fed (and remember, the Fed succeeded in lobbying to narrow the scope of Audit the Fed), a new GAO report, the latest Bloomberg FOIA still pried loose more information. The Fed is clearly not interested in transparency, but keeps trying to claims that everything that anyone would want to know is public, and there really is nothing here to discuss any more.

Bloomberg, as indicated, offers a virtual paragraph by paragraph rebuttal of the attachment to the Bernanke letter prepared by Fed staffers. The funniest part is the way in the both the overview and the attachment, the Fed tries to maintain that it kept Congress fully appraised. The staff and Bernanke apparently don’t have great reading comprehension. The Bloomberg report points out that in its article of last week, it quoted one of the recipients of the Bernanke letter, Barney Frank, who said that Congress was kept in the dark on key details, and other Congressmen confirmed his view:

Response: Bloomberg’s story said Congress wasn’t fully apprised of the details of the Fed’s efforts. “We were aware emergency efforts were going on,” U.S. Representative Barney Frank, who served as chairman of the House Financial Services Committee, said in the Nov. 28 story. “We didn’t know the specifics.” Other members of Congress on both sides of the aisle also said they weren’t aware of the details.

The Bernanke letter also complains of possible double counting of borrowings due to rollovers while deliberately failing to say where they allege it took place or doing anything to help clear any actual confusion up. It was the Fed that caused any confusion by refusing to say which loans were rolled over and for how long.

The Fed also keeps thumping the Obama party line that it made money on these programs. That’s not yet certain (they have not yet all been unwound) and not the right metric. The Fed is playing three card monte, trying to distract the public from two critical facts. First, these programs are only a subset of the total subsidies extended to the banks. Andrew Haldane has taken a stab at what they save in borrowing costs via being too big to fail and having a state guarantee. Ed Kane has estimated they ought to pay $300 billion a year more in insurance premiums. The entire banking system is also getting massive subsidies via super low interest rates, which is a transfer from savers to banks.

The Fed has also taken the unusual step of hoovering up securities in an effort to lower spreads on certain types of longer term assets. It would show real losses from a taxpayer perspective if this were accounted for properly; the vagaries of Fed/Treasury reporting allow for this sorry fact to be masked. Per former Fed economist and research director Bob Eisenbeis via The Big Picture:

The essential argument is that the Fed has earned interest income on its large holdings of securities, and after deducting expenses and required contributions to surplus and capital, the remainder is remitted to the Treasury as “profit” and is scored by the Treasury as revenue. The sums are huge; and last year, for example, the Fed transferred $ 79.258 billion to the Treasury.

From the Fed’s perspective, this transfer of funds may look like a remittance of “profits,” but despite that claim, these are not profits from the taxpayer’s perspective. In fact the Fed cannot make a profit for the taxpayer, related to its asset acquisition activities, whether as part of the bailout or in its normal course of business. To understand why, it is necessary to engage in what some readers will regard as a mind-numbing discussion of Treasury and Federal Reserve transactions and accounting. Intrepid readers can find the detailed analysis posted on Cumberland’s website at http://www.cumber.com/commentary.aspx?file=072111a.asp.

For those who choose to read no further, the bottom line is that, from the taxpayer’s perspective, the government (Treasury) is paying interest to itself (the Fed). The Fed takes out its operating expenses that are now growing because of the interest the Fed is paying on excess reserves. The remainder is returned to the Treasury. In the process, under current government accounting conventions, an expense is magically converted into revenue. This is financial alchemy, but from the taxpayer’s perspective it unambiguously represents a net loss. The amount returned to the Treasury by the Fed will be less than what the Fed receives as an interest payment.

Moreover, the central bank has indicated that it does not intend to sell those securities until it needs to mop up liquidity. As the old traders’ saw has it, it is easy to manipulate markets, but really hard to make money doing it. Per its own plan, the Fed will sell its holding into the market when interest rates are higher…guaranteeing losses (high interest rates = lower prices on bonds). So the Fed is most certainly going to show losses (or find new clever ways down the road to disguise them).

Consider the dead bodies in this room: the costs of the REAL programs are not yet known, so any made money/lost money declaration is premature. In addition, the aggregate support, which comes out of more buckets than just the emergency lending programs, and the total support was necessary for the banks to be able to pay back the facilities they did pay down. How much of this operation is really tantamount to someone refi-ing their house (an analogy the Fed uses), except the nature of the inflows and outflows is masked by all the other action on bank balance sheets?
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And there are other assertions that the Fed makes that are questionable, for instance, that the facilities were adequately collateralized. Felix Salmon, among others, have questioned whether that was true in the case of Morgan Stanley. In addition, adequacy of collateral is a function of price as well as quality. If the Fed was accepting collateral at what amounted to stale marks (not at all unlikey, given its objective of propping up banks) then loans would NOT have been sufficiently collateralized.

Moreover, the Fed tries to make much of its lending to the real economy, via programs such as the TALF. Erm, the TALF was so loosely run that it was used by all sort of healthy players who didn’t need help, such as, infamously, two Wall Street housewives. And the loans under that program were non-recourse.

But the biggest lie in this fabric of Big Lies is that the banks were just suffering a wee liquidity crisis in the crisis, not a solvency crisis. If that was true, why did we need a TARP plus making failed credit default swap hedges good via the AIG rescue? In addition, Steve Waldman has described, long form, that bank equity is such an abstraction, in that there is a very high degree of uncertainty in the value of both assets and liabilities, that you need much bigger buffers of equity than anyone now has to properly deem a bank to be solvent. And Bloomberg tartly points out:

From Fed memo: “The articles misleadingly depict financial institutions receiving liquidity assistance as insolvent and in ‘deep trouble.’”

Response: Bloomberg never described any of the financial institutions mentioned in its bailout stories as insolvent.

The New York Fed’s report on Jan. 14, 2009, called Citigroup Inc.’s financial strength “marginal” and dependent on $45 billion in TARP funding. Citigroup’s Fed borrowing peaked six days later at $99 billion. Other numbers tell a similar story. Morgan Stanley’s borrowing totaled $107 billion on a single day. Royal Bank of Scotland got $84.5 billion from the Fed at about the same time it was taken over by the U.K. government.

The largest banks later had to raise billions of dollars of capital to assuage investor concerns that they might not be solvent, and they took capital injections from the Treasury Department. Former Treasury Secretary Henry Paulson wrote in his book, “On the Brink,” that “our banking system was massively undercapitalized.”

Under the terms of the Fed’s lending programs, the determination of whether a bank is “solvent” is based on the opinions of bank supervisors. These examinations are confidential.

The last comment, perhaps a deliberate tongue in cheek, points out why the Fed’s argument re solvency is disingenuous. There was a clear political decision made, both during the head of the crisis and in early 2009, when Citi and Bank of America were clearly on the ropes, not to put either one into resolution. That appeared to be based on fear of the complexity of the task, and the possibility, like the resolution of then number 4 bank Continental Illinois, in 1984, that the US might wind up owning a big chunk of the business for a very long time. And there is no evidence that during the crisis or the phony stress tests of 2010 that any nitty gritty examination of solvency was made, particularly samplings of the whether valuations of risky assets and liabilities were realistic.

But the regulators determine whether a bank was insolvent. And since no regulator was willing to say a bank was insolvent (although Sheila Bair was clearly close to doing so with Citi), ipso facto, they were all solvent. Nice to have such accommodating people handing out grades.

There is more fun reading in the Bloomberg piece. As reader Hugh summed up,

All in all this is a reprise of the Fed’s standard defense. On the one hand, it alleges that it was fully forthcoming and, on the other, it blames its critics for their faulty conclusions although these are based on the (incomplete) data the Fed provided. The shorter form of the Fed argument is and remains: Fuck you.