x Abu Dhabi, UAESaturday 29 July 2017

Senate stuffs nose cut off by house; face still spited

Okay, let's try this again. Bounced by the House, the US government is trying to get its rescue package through the Senate, which addressed concerns about the US$700 billion price-tag by, what else, raising the cost to the taxpayer by larding the legislation with tax cuts and other provisions.

Okay, let's try this again. Bounced by the House, the US government is trying to get its rescue package through the Senate, which addressed concerns about the US$700 billion price-tag by, what else, raising the cost to the taxpayer by larding the legislation with tax cuts and other provisions. There still seems to be widespread misunderstanding about what having the government buy toxic assets means. The general misconception seems to be that it represents a handout to bankers on Wall Street and therefore withholding it hurts them individually and personally. It doesn't. Bankers will continue to collect their fat salaries as long as their banks are in operation. Their bonuses are tied to performance and so disappeared a while ago. Also gone from Wall Street are most of the so-called Masters of the Universe who created the subprime mortgage mess and that commentators imagine are now waiting with hands outstretched for their bailout money. According to Tom Wolfe, who coined the MOTU term, most of these guys are long gone from investment banking, having set up hedge funds in Greenwich Connecticut and now sheltered from the storm by massive cash deposits whose interest pays the rent on their country homes. They, unlike poorer Americans led astray by mortgage brokers, aren't dumb enough to get so overleveraged that rising rates put them out in the street. Most bankers do collect stock options as part of their compensation package, but they do not actually own the banks. Public shareholders do, many of them big pension funds or people trying to save for retirement. It is these shareholders, particularly those whose shareholdings represent a larger sum relative to their own salaries, who are getting hurt most by falling share prices and bank failures. True, bankers lose their jobs when banks fail. But this is like pulling the plug on a patient because you don't get along with his diagnostician. Besides, the bankers will find other jobs at other banks. It is also these shareholders who stand to be punished by TARP. Selling toxic assets to the government at a premium to the market price sounds like a sweetheart deal. But considering that the market price for these assets right now does not exist, that price may not be too high. If nothing else, it will be far below its book value, meaning banks that sell them will have to writedown the loss they suffer. This could force them to hit shareholders up for more cash or find a buyer to recapitalise them, diluting existing shareholders' equity. Even banks that sit back and refuse to sell assets to the government will have to writedown the value of their toxic assets, because the sale of them will establish a benchmark to which all banks will have to "mark to market." Write-downs so far have been based on guesstimates of the securities' value. As if that already wasn't bad enough, the revised TARP now requires banks to give the government warrants on their stock, which further depresses its value. Once warehoused in the government's new $700 billion "bad bank," there's no law that says these securities are going to turn sour. In time, as the financial system rights itself and the economy stabilises, many of them will rise in value. Homeowners who now look like they might default and whose mortgages underpin many of the toxic assets, will struggle through. In these cases the government will make money on its purchases, offsetting the losses it might suffer on others. As this becomes apparent, many banks may decide not to sell their toxic MBS at all, but rather let them appreciate on their own balance sheets, thereby recapitalising themselves without government money. This is what officials mean when they say TARP will establish "a floor" under the market. Delaying the package in order to saddle it with regulatory provisions defeats its purpose, which is to arrest the asphyxiation of credit markets that now imperils the global financial system. TARP isn't about fixing the subprime mess and the excesses of the economy, it's about making sure there is an economy left to fix.