Krugman: Geithner's Toxic Asset Plan = awful mess + massive moral hazard

[Larkspur]

from Krugman's blog

Despair over financial policy
The Geithner plan has now been leaked in detail. It’s exactly the plan that was widely analyzed — and found wanting — a couple of weeks ago. The zombie ideas have won.

The Obama administration is now completely wedded to the idea that there’s nothing fundamentally wrong with the financial system — that what we’re facing is the equivalent of a run on an essentially sound bank. As Tim Duy put it, there are no bad assets, only misunderstood assets. And if we get investors to understand that toxic waste is really, truly worth much more than anyone is willing to pay for it, all our problems will be solved.

SNIP

... Treasury has decided that what we have is nothing but a confidence problem, which it proposes to cure by creating massive moral hazard.

This plan will produce big gains for banks that didn’t actually need any help; it will, however, do little to reassure the public about banks that are seriously undercapitalized. And I fear that when the plan fails, as it almost surely will, the administration will have shot its bolt: it won’t be able to come back to Congress for a plan that might actually work.

What an awful mess.

Update: Calculated Risk and Yves Smith have similar reactions.

Looks like Geithner and Summers will be Obama's Achilles heels. They are Bush-lite free traders. Hopefully, Congress will scream over and change this toxic plan by Geithner.

[dkf]

1. They should have waited for mark to market rules and then

seen if this was still necessary.

The fact is that obligating money on this stuff does make our fiscal situation look hairy, directly hurting Obama's agenda.

[marketcrazy1]

5. RE: mark to market rule changes

the FASB M to M changes being considered do MUCH more than allow banks reduce mark to market losses on illiquid securities. the changes will totaly Obscure losses to the point where NO ONE will know a bank is in trouble. the bulk of mark to market losses will become realized losses over time as cash flow from these securities dries up! the math NEVER LIES! no matter how hard these banks work to fudge the numbers. the fact that they are going ahead with this ill conceived plan AND changing accounting rules , along with all the OTHER scams they are running scares the living shit out of me!!! things are VERY,VERY bad in the financial sector. MUCH worse than we are being led to believe! if you just look around you can see the problems everywhere here and around the world......... we are in trouble..............................!!

[burythehatchet]

7. this seems to be designed with one purpose in mind - fool the people into thinking

its OK to go out and spend.

[dkf]

8. I do realize that, but if the purpose is to recapitalize banks

then it does do the trick. Besides, balance sheets are already murky. People are keeping their money in banks because the backing of the Federal Government.

[Mojorabbit]

11. I agree nt

[chill_wind]

19. K & R n/t

[Thrill]

2. SHOCKED I tell you. SHOCKED. Krugman feels this way

I for one hope it works

[Larkspur]

3. He's not alone in feeling that Geithner is addicted to zombie ideas

Geithner and Summers are Rubinites and they are as bad on our economy as the Neocons.

[notesdev]

9. More accurately

they are indistinguishable from the neocons

[BzaDem]

4. What do you mean "works?"

It could very well help restart lending, except for the tiny fact that we would have sent hundreds of more bilions to the banks for trash.

[burythehatchet]

6. If this is in fact what is being proposed, my only advice would be to buy

lots of guns, ammo, and stock in gun manufacturers.

[QC]

10. Krugman is just jealous because he's a geek and Obama's dreeeeeeeeeeamy!

:sarcasm: (but what a lot of people have been saying in all seriousness)

[madrchsod]

12. krugman has it all figured out

because obama`s plan has no hope of actually getting out of this mess,we will be living in a great depression that will last for years. then the nation will collectively cry out.....


"where have you gone paul krugman? a nation turns it`s lonely eyes to you"

[nichomachus]

13. Not "Achilles heels"

Achilles didn't shoot himself in the heel. Geithner and Summers are self-inflicted injuries.

[TacticalPeek]

14. This makes pretty clear why Geithner's $48K tax dodge had to be overlooked:

This makes pretty clear why Geithner's $48K tax dodge had to be overlooked: he is the only guy who could get Obama to do this.

[LeftHandPath]

15. So the Hedge Funds are going to save us?

Let me get this right.

Nobody will buy the toxic (worthless) assets on the books of the banks because they are potential debt explosions.

So our government is going to give virtually free loans to Hedge Funds, so they can start buying up all the toxic worthless assets.

If the Hedge Funds can find a greater dummy to buy the crap assets, they get ALL the profit.

If they cant, the garbage asset gets returned NOT to the bank who sold it originally, but INSTEAD to the taxpayer, so we take all the loses.

So now our financial rescue is going to be determined by how much profit the Hedge Funds can make on worthless assets.

Oh yeah, this will restore confidence.

[marketcrazy1]

16. congrats LeftHandPath

nice to see somebody "gets it" hedge funds take the profits, Taxpayers take a bath!!! ( on the losses )

[riverdeep]

17. Summers and Geithner.

And we were expecting what exactly from them? They were neck deep in creating this mess. The fate was sealed when he picked them. Hopefully, Obama may listen to criticism and go back to the drawing board.

[Larkspur]

18. James K. Galbraith agrees with Paul Krugman about Geithner's proposed bank bailout plan

James K. Galbraith Reponds to Geithner’s Toxic Asset Plan
SNIP

The central Treasury assumption, at least for public consumption, seems to be that the underlying mortgage loans will largely pay off, so that if the PPIP buys and holds, at an above-present-market price governed by auction, the government's loan to finance the purchase will not go bad.

Recovery rates on sub-prime residential mortgage-backed securities (RMBS) so far appear to belie this assumption. IndyMac lost $10.8 bn on a $15bn portfolio (and if you count the wipeout of equity, the total loss is about $12bn). That's an 80 percent loss. It's possible that recovery rates at other banks will be better, but how can we know? No one is examining the loan tapes.

SNIP

If I'm right and the mortgages are largely trash, then the Geithner plan is a Rube Goldberg device for shifting inevitable losses from the banks to the Treasury, preserving the big banks and their incumbent management in all their dysfunctional glory. The cost will be continued vast over-capacity in banking, and a consequent weakening of the remaining, smaller, better- managed banks who didn't participate in the garbage-loan frenzy.

This will not achieve the stated goal, of bringing on new lending, for reasons already explained at length. It's all about not-measuring true asset quality at the big banks, permitting them to escape a clean audit, and therefore preserving them as institutions, while forcing the inevitable shrinkage of the financial sector to occur elsewhere. In short, the plan seems to me to be a very bad idea.

But the way to determine whether Geithner's and the banks' stated view of the toxic assets has any merit, is to demand an INDEPENDENT EXAMINATION OF THE LOAN TAPES, particularly looking to establish the prevalence of missing documents, misrepresentation, and fraud...

SNIP

If I were a member of Congress, I would offer a resolution blocking Treasury from making the low-cost loans it expects to offer the PPIPs, until GAO or the FDIC has conducted an INDEPENDENT EXAMINATION OF THE LOAN TAPES underlying each class of securitized assets, and reported on the prevalence of missing documentation, misrepresentation, and signs of fraud. In the absence of a credible rating, this is the minimum due diligence that any private investor would require.

SNIP