Last week Treasury Secretary Tim Geither appeared before Congress to unveil his approach to solve the financial crisis. While many were disappointed with the lack of details, more telling, perhaps, was the lack of any change in approach, from the previous administrations philosophy to his. Rather than forcing the banks to write-off the bad loans on their balance sheet, the plan calls for a $1 trillion investment fund and a $1 trillion consumer and business lending fund. the investment fund appears to be to inject more capital into banks. The top twenty banks will be given a stress test to see if they are strong enough to lend. The fund will be their to provide a safety net for them, if necessary. The lending fund will privide funds to back up to $1 trillion in auto, credit card, and student loan debt. The USA TODAY reported that investors were disappointed that the Treasury was not more creative, hoping it would help weak banks restructure in an orderly way, forcing them to deal with their bad loans. "Investors want the government to stop propping up weak banks, and instead help the losers dissolve," says Axel Merk of Merk Investments. Even without details, it is safe to say that this will not be the approach, though.
The same article further reported that "The administration may have hoped that the sheer scale of the plan would send a strong message that it is committed to doing whatever is necessary to pull the U.S. economy out of its worse crisis since the Great Depression."
The major difference in Geithner's approach and Paulsen's approach is the stress test for the top twenty banks. According to this and the previous administration, last year's capital injection was not enough to make the banks comfortable enough to lend, as they worried that they might need that capital to help their balance sheet, if they had to take any loan losses. Let's not forget we are in a recession. Typically banks and consumers get more conservative during a recession, both worried about whether the loan applicants will have jobs long enough to pay the loan back. Banks are lending, but not at the rate Washington would like to see. Of course, that is what got us in this mess in the first place, so Congress and the administration should be careful for what they wish for.
The crux of the problem is what to do about the bad loans on the banks balance sheets. The plan appears to try to establish a market for these loans with a combination of public (taxpayer) and private (investor) money. This would allow the banks to sell these bad loans, taking the stress off their balance sheets. The problem is that the government risks over-paying for these assets, as it reportedly did last year. An article in the February 6, 2009 WSJ said that theTreasury significantly overpaid for the assets it purchased last year, unde the TARP program. Specifically, it paid $254 billion for assets worth $176 billion.
Why not simply let the market buy the loans? Why involve the taxpayer? An article in the January 27, 2009 WSJ said that investors are ready to buy troubled debt. Two-thirds of those surveyed believe 2009 would be a good year for them to buy and are raising money for just that purpose. The problem is that they would not pay enough to make the banks want to sell, but, that begs the question, why should banks have a choice? Why not force the sale, use the funds to provide for an orderly dismantling of those banks that do not survive, and move forward? Rather than cause a panic, I believe this would be a good first step to restoring consumer and market confidence, which is the heart of any free market economy. Consumers and investors understand that there needs to be winners and losers. No one likes being on the losing end, but that is easier to understand than propping up the folks that are primarily responsible for getting us in this mess, in the first place.
An editorial on January 29, 2009 in USA TODAY suggested bringing back the Resolution Trus Corporation (RTC). this is not the first time the RTC has been mentioned, but it always seems to get swept under the carpet. Paul Volcker suggested this last Fall in the WSJ. I am not a genius, but it is the first thing I thought of when this all started. I still cannot understand how something that was proven, was not used. the editorial recapped the Savings and Loan crisis and discussed how the RTC bought the bad assets, and the governement then the healthy S & Ls used the proceeds to prop up their balance sheets. As I recall, there was not much of a market back then for all of this real estate. Alan Greenspan noted in his book, Age of Turbulence, that the assets included a uranium mine and a resort that no one wanted. yet, everything was sold and the program made a profit. While this current crisis is bigger, the editorial showed that the program could still work. What it would do, more than anything is allow the market, not the banks, to set the price for these assets. This would help restore the confidence in the economy. I believe that the U.S. economy could weather the downturn much easier if the consumers and investors had confidence in the economy and the markets, rather than looking at it as a rigged game. Whoever cries the most gets the handouts. None of the options are pleasant, so let's get past that. There is not short-term solution. However, the basis of any free market economy is allowing the market to determine prices, who succeeds, and who goes out of business. Investors and consumers have come to rely on that. That is why investors flock to the U.S. in times of trouble. They want the reliablility of our free market. Rather than continue to pour money down a hole with no bottom, let's do an about face, set up the RTC again, buy up the assets, and use what ever money is left over to provide for an orderly dismantling of the banks that cannot pass this stress test. Of all the options, this is the only one that allows the market to do its job, and thus, the only one with a chance to work.
Tuesday, February 17, 2009
Streets of fire
Today President Obama signed a $787 bilion economic stimulus package. Even though there was a great deal of debate, I think it was a foregone conclusion that we would have had some type of stimulus package. The question is, will it work? Or maybe the better question is, how will we define whether it works?
One of three things can happen. Either the package will help the overall economy, the economy will get worse, or we will not see any affect on the economy, at all. None of these are really fair. It could help the economy by not letting it get as bad as it could have gotten. I think it will be tough to gauge. As for the job estimates, I have seen everything from 3- 4 million jobs saved or generated from the administration to 1-3 million from the CBO. Again, I am not sure we will ever get a good estimate, but I am willing to wait and see.
I think we can still subject it to some questions and talk about what might or might not happen, with some certainty. We know that it is a mixture of tax cuts and spending. We know that the tax cuts will mostly go to working middle and lower class citizens. We know that most of the spending will go to extending unemployment benefits and health insurance benefits. Here are the specifics, to the best of my knowledge:
$48 billion for highway, bridge and mass transportation
$282 billion in tax cuts
$70 billion for AMT relief
$54 billion for education, of which about $14 billion will go towards modernization
$70 billion for energy efficency programs and tax credits, including about $22 billion for programs that might be considered job creating/saving
Various home buying credits, SSI payments, new car incentive, working families tax credit
So what exactly will be stimulated? Generally speaking, in a recession, increases in government spending will improve the economy. However, we should not make the mistake of thinking that any kind of government spending is good for the economy. If you look at what can possibly create or preserve jobs, I only see about $86 billion in spending. I am skeptical that $86 billion in spending over the next two years will have as much of an impact on the economy or the job market, as everyone hopes. in a $14 trillion economy, that is just not that much.
The rest is tax cuts, and I am not sure they provide the right incentives to help the economy. Rather than lovering tax rates, these tax breaks give one time payments to various groups of people. I am not sure this one-time event will have the desired effect. Time will tell. When you talk about extending unemployment and health benefits, that helps those families put food on the table and keep a roof over their heads, but essentially you are robbing Peter to pay Paul. Those who pay taxes are supporting those who are getting the benefits. the other difficulty with tax cuts and programs like this is that they can become politically popular, and, thus, difficult to dismantle. To his credit, President Obama has addressed this saying that when the economy recovers, we will have to get back to good economic policy, spend wisely, make the tough choices, etc. However, as last Friday's USA TODAY noted, "The stimulus increases spending on a wide array of politically popular social programs, including health care, for the unemployed, college grants, Head Start for disadvantaged kids, biomedical research, law enforcement funding, and so on. These increases are supposed to be only for a limited period, generally this year and next. In budget-speak, however, they raise the 'baseline' amounts forthese programs. any attempt to bring the new baseline amounts down to pre-stimulus levels will undoubtedly be greeted with howls about 'cuts' that would hurt the poor, the infirm, students, researchers and police." In addition, what kind of precedent is being set here. It does not take an astrologer to tell you that more and more we will hear cries of "bail me out" as a result of all the spending, beginning with Bear-Sterns, last year, and now this newest spending package. (I'm not sure that was a sentence, but you get the idea)
Without much in the way of job-creating/saving spending, what happens when things get worse. The discount rate is basically nothing now, so monetary policy cannot be used. The Fed has said it has other means to aid the economy, but they asll involve gauranteeing more bad loans, essentially more of the same. Let's not forget that the root cause of the economic problems we find ourselves in now are the toxic loans on banks balance sheets, now. While I'll touch more on this in my next installment, my position has not changed. As long as the banks are allowed to escape their poor lending decisions, without taking the proper losses, we will continue to suffer, economically. Even when the economy improves, and it will improve sooner or later, those bad loans will act as a drag on our economy. The markets need to have confidence in their freedom to set prices, reward winners and say good-bye (notice I did not say 'punish') losers. That is why whenever a plan has been announced, the markets do not respond in a positive manner. Markets reflect what investors think will happen in the future. We should not make policy to plerase the markets, but that does not mean we should ignore them. In this case they are saying that they do not have any confidence in the stimulus package. And that is a significant statement considering that everyone has been waiting for this since President Obama was elected.
Harvard economist Robert Barro said in last weeks WSJ, "This is probably the worst bill that has been put forth since the 1930s. I don't know what to say. I mean it's wasting a tremendous amount of money. It has some simplistic theory that I don't think will work, so I don't think the expenditure stuff is going to have the intended effect. I don't think it will expand the economy. And the tax cutting isn't really geared towards incentives. It's not really geared to lowering tax rates; It's more aloing the lines of throwing money at people. On both sides I think its garbage. So in terms of balance between the two it doesn't really matter that much."
To his credit, President Obama is providing leadership and continues to tell us that we have a long road ahead of us, as a nation. He inherited a dismal economy that was never lead anywhere except to the edge of a cliff. I wish he had taken a different approach, but, like I have said before, we must keep in mind that both Republicans and Democrats had the same philosophy to this problem. The spending may have been a little different, but, overall, the approach and the effects would have been the same.
With all the question marks, we know one thing: the federal debt will soon stand at $10.7 trillion dollars. President Obama stated that when the economy begins moving again, we will need to start the process of "taming our expolding deficits." This begs a final qeustion for today, what if the economy does not start moving in time to prevent calls for more stimulus. We have seen that when the government gets out the checkbook a line forms of people who try to get what they can.
One of three things can happen. Either the package will help the overall economy, the economy will get worse, or we will not see any affect on the economy, at all. None of these are really fair. It could help the economy by not letting it get as bad as it could have gotten. I think it will be tough to gauge. As for the job estimates, I have seen everything from 3- 4 million jobs saved or generated from the administration to 1-3 million from the CBO. Again, I am not sure we will ever get a good estimate, but I am willing to wait and see.
I think we can still subject it to some questions and talk about what might or might not happen, with some certainty. We know that it is a mixture of tax cuts and spending. We know that the tax cuts will mostly go to working middle and lower class citizens. We know that most of the spending will go to extending unemployment benefits and health insurance benefits. Here are the specifics, to the best of my knowledge:
$48 billion for highway, bridge and mass transportation
$282 billion in tax cuts
$70 billion for AMT relief
$54 billion for education, of which about $14 billion will go towards modernization
$70 billion for energy efficency programs and tax credits, including about $22 billion for programs that might be considered job creating/saving
Various home buying credits, SSI payments, new car incentive, working families tax credit
So what exactly will be stimulated? Generally speaking, in a recession, increases in government spending will improve the economy. However, we should not make the mistake of thinking that any kind of government spending is good for the economy. If you look at what can possibly create or preserve jobs, I only see about $86 billion in spending. I am skeptical that $86 billion in spending over the next two years will have as much of an impact on the economy or the job market, as everyone hopes. in a $14 trillion economy, that is just not that much.
The rest is tax cuts, and I am not sure they provide the right incentives to help the economy. Rather than lovering tax rates, these tax breaks give one time payments to various groups of people. I am not sure this one-time event will have the desired effect. Time will tell. When you talk about extending unemployment and health benefits, that helps those families put food on the table and keep a roof over their heads, but essentially you are robbing Peter to pay Paul. Those who pay taxes are supporting those who are getting the benefits. the other difficulty with tax cuts and programs like this is that they can become politically popular, and, thus, difficult to dismantle. To his credit, President Obama has addressed this saying that when the economy recovers, we will have to get back to good economic policy, spend wisely, make the tough choices, etc. However, as last Friday's USA TODAY noted, "The stimulus increases spending on a wide array of politically popular social programs, including health care, for the unemployed, college grants, Head Start for disadvantaged kids, biomedical research, law enforcement funding, and so on. These increases are supposed to be only for a limited period, generally this year and next. In budget-speak, however, they raise the 'baseline' amounts forthese programs. any attempt to bring the new baseline amounts down to pre-stimulus levels will undoubtedly be greeted with howls about 'cuts' that would hurt the poor, the infirm, students, researchers and police." In addition, what kind of precedent is being set here. It does not take an astrologer to tell you that more and more we will hear cries of "bail me out" as a result of all the spending, beginning with Bear-Sterns, last year, and now this newest spending package. (I'm not sure that was a sentence, but you get the idea)
Without much in the way of job-creating/saving spending, what happens when things get worse. The discount rate is basically nothing now, so monetary policy cannot be used. The Fed has said it has other means to aid the economy, but they asll involve gauranteeing more bad loans, essentially more of the same. Let's not forget that the root cause of the economic problems we find ourselves in now are the toxic loans on banks balance sheets, now. While I'll touch more on this in my next installment, my position has not changed. As long as the banks are allowed to escape their poor lending decisions, without taking the proper losses, we will continue to suffer, economically. Even when the economy improves, and it will improve sooner or later, those bad loans will act as a drag on our economy. The markets need to have confidence in their freedom to set prices, reward winners and say good-bye (notice I did not say 'punish') losers. That is why whenever a plan has been announced, the markets do not respond in a positive manner. Markets reflect what investors think will happen in the future. We should not make policy to plerase the markets, but that does not mean we should ignore them. In this case they are saying that they do not have any confidence in the stimulus package. And that is a significant statement considering that everyone has been waiting for this since President Obama was elected.
Harvard economist Robert Barro said in last weeks WSJ, "This is probably the worst bill that has been put forth since the 1930s. I don't know what to say. I mean it's wasting a tremendous amount of money. It has some simplistic theory that I don't think will work, so I don't think the expenditure stuff is going to have the intended effect. I don't think it will expand the economy. And the tax cutting isn't really geared towards incentives. It's not really geared to lowering tax rates; It's more aloing the lines of throwing money at people. On both sides I think its garbage. So in terms of balance between the two it doesn't really matter that much."
To his credit, President Obama is providing leadership and continues to tell us that we have a long road ahead of us, as a nation. He inherited a dismal economy that was never lead anywhere except to the edge of a cliff. I wish he had taken a different approach, but, like I have said before, we must keep in mind that both Republicans and Democrats had the same philosophy to this problem. The spending may have been a little different, but, overall, the approach and the effects would have been the same.
With all the question marks, we know one thing: the federal debt will soon stand at $10.7 trillion dollars. President Obama stated that when the economy begins moving again, we will need to start the process of "taming our expolding deficits." This begs a final qeustion for today, what if the economy does not start moving in time to prevent calls for more stimulus. We have seen that when the government gets out the checkbook a line forms of people who try to get what they can.
Everyone saw this coming
Does anyone think it is ironic that oil comes from decayed dinosaurs? GM and Chrysler have come back to Congress asking for an additional $21.6 billion. they promise that this will be all they need to bring new cars to the market, bring people back into their showrooms, and pay back the other loans. The companies have said that bankrupcy is not an option, because it would keep customers out of their showrooms. As others have pointed out, though, bankrupcy would allow the companies to renegotiate labor contracts and force the necessary concessions from bond holders and others to begin the road to recovery.
Last week a headline in the WSJ read that GM was giving the Federal Government a choice. Bail them out or they go bankrupt. At least we are given a choice. While there was some speculation whether the Big Three would get bailout money a few months ago, there is little suspense now. President Obama repeatedly said that he favored helping the U.S. automakers, during his campaign. he may be rethinking that commitment. Back then, the price tag was only (only?) $50 billion. They settled for $25 billion. (Actually $16 billion becasue $9 billion went to Ford) Now, the Feb 18 WSJ reports that GM and Chrysler need $21.6 billion. That brings it closer to the $50 billion originally asked for. They went through $16 billion in three months. At that rate, they will go through this next request in four months, yet they are not going to be able to complete their restructuing until 2011. this amount also does not include pension fund contributions over the next few years. Given that their plan includes eliminating five factories and 47,000 jobs by the end of the year, but how much will that cost in severence and other expenses? And, let's not forget the most recent reports of declining auto sales. (55% and 49% declines in year over year sales for Chysler and GM respectively, in January)
The alternative, according to GM is to spend $100 billion in fees if they go into bankrupcy. "GM said it might need as much as $100 billion in financing from the government if it were to go through the traditional bankrupcy process," reads the WSJ on Feb. 18, 2009. I think I missed the part where the taxpayers are supposed to pay for bankrupcy fees. This should not be one of those "in for a dime, in for a dollar" situations. What is the harm in just saying "no?" None that I can see. It wold force GM and Chrysler into bankrupcy, and lawyers and creditors would have to work everything out on their own. The workers would be hurt, but my guess is not for long. I still cannot believe that another car company would not find a way to purchase GM and it's factories, then rehire the workers. Foreign car makers already make cars in the U.S. But I wonder if it would even get that far. My guess is everyone would be forced to the bargaining table and something sustainable would be worked out. this will never happen, though, as long as there is the possibility of a government bailout.
Bankrupcy would force a reworking of all the poorly conceived contracts that are currently burdening GM. Even with bankrupcy hanging over their heads, the UAW is still hesitant to new terms for how the car makers will fund the cost of future health care for retirees. There are billions of dollars at stake in this alone. The UAW is right to look out for it's workers, but this should be a sign to President Obama and Congress that this bailout is just not going to work.
In case you have any doubts, you can look at the plans on the WSJ website. They gave a nice synopsis of the plans on their editorial page, though. The entire car industry sold 9.8 million units in January. The plans call for profitability with rates of 12.5 to 13 million units. With the recession possibly lasting past 2010, if you take the Federal Reserve study published last week as a barometer, that is a tough row to hoe. Bankrupcy allows all of these contracts to be renegotiated. We need to look at this through clear financial glasses, rather than politically-colored rosey ones. Everything has to change to save these jobs, and the taxpayers more ineffective bailout tax dollars.
Last week a headline in the WSJ read that GM was giving the Federal Government a choice. Bail them out or they go bankrupt. At least we are given a choice. While there was some speculation whether the Big Three would get bailout money a few months ago, there is little suspense now. President Obama repeatedly said that he favored helping the U.S. automakers, during his campaign. he may be rethinking that commitment. Back then, the price tag was only (only?) $50 billion. They settled for $25 billion. (Actually $16 billion becasue $9 billion went to Ford) Now, the Feb 18 WSJ reports that GM and Chrysler need $21.6 billion. That brings it closer to the $50 billion originally asked for. They went through $16 billion in three months. At that rate, they will go through this next request in four months, yet they are not going to be able to complete their restructuing until 2011. this amount also does not include pension fund contributions over the next few years. Given that their plan includes eliminating five factories and 47,000 jobs by the end of the year, but how much will that cost in severence and other expenses? And, let's not forget the most recent reports of declining auto sales. (55% and 49% declines in year over year sales for Chysler and GM respectively, in January)
The alternative, according to GM is to spend $100 billion in fees if they go into bankrupcy. "GM said it might need as much as $100 billion in financing from the government if it were to go through the traditional bankrupcy process," reads the WSJ on Feb. 18, 2009. I think I missed the part where the taxpayers are supposed to pay for bankrupcy fees. This should not be one of those "in for a dime, in for a dollar" situations. What is the harm in just saying "no?" None that I can see. It wold force GM and Chrysler into bankrupcy, and lawyers and creditors would have to work everything out on their own. The workers would be hurt, but my guess is not for long. I still cannot believe that another car company would not find a way to purchase GM and it's factories, then rehire the workers. Foreign car makers already make cars in the U.S. But I wonder if it would even get that far. My guess is everyone would be forced to the bargaining table and something sustainable would be worked out. this will never happen, though, as long as there is the possibility of a government bailout.
Bankrupcy would force a reworking of all the poorly conceived contracts that are currently burdening GM. Even with bankrupcy hanging over their heads, the UAW is still hesitant to new terms for how the car makers will fund the cost of future health care for retirees. There are billions of dollars at stake in this alone. The UAW is right to look out for it's workers, but this should be a sign to President Obama and Congress that this bailout is just not going to work.
In case you have any doubts, you can look at the plans on the WSJ website. They gave a nice synopsis of the plans on their editorial page, though. The entire car industry sold 9.8 million units in January. The plans call for profitability with rates of 12.5 to 13 million units. With the recession possibly lasting past 2010, if you take the Federal Reserve study published last week as a barometer, that is a tough row to hoe. Bankrupcy allows all of these contracts to be renegotiated. We need to look at this through clear financial glasses, rather than politically-colored rosey ones. Everything has to change to save these jobs, and the taxpayers more ineffective bailout tax dollars.
Wednesday, February 4, 2009
Of mice and politicians
It's been a while. Sorry about the delay. I intended to update over the holidays, then over MLK weekend, but the best laid plans of mice and economists....
The last few weeks have brought a plethora of speculation regardingwhat President Obama's economic stimulus package and bank bailout plan will look like. Over the next few blogs I intend to give a preview of possibilities, and then comment on them, once they are unveiled. Whatever your thoughts, keep in mind that both candidates were basically going to do the same thing regarding banks and the economy. both candidates supported and lobbied for the initial bank bailout and both said they were going to spend hundreds of billions of dollars to help homeowners and stimulate the economy. Some details were different, but the approaches were essentially the same. And the approach is what I will concentrate on, because, as you will see, no one is really sure about the numbers.
Since I am a banker (Please don't throw rotten tomatoes. You'll mess up your screen), I'll start with the bank bailout. If you have read the other blogs you will know that I do not agree with theapproach the initial bailout plan took. In addition, I do not agree with any of the changes that have been made. My feeling, and that of many prominent economists is that since toxic housing assets are the root cause of this mess we are in, banks must write them off their balance sheets. while this may cause some banks to fail, that is necessary to bring confidence back to the economy. Banks complain that if they had to sell the assets in todays market, they wojuld take too much of a lose. That's the point, though. The market will define the price of the houses. When the price reaches a certain level (and no one knows what that level is) investors and home buyers will get back in the market. Any plan that involves keeping any toxic loans on the books will only prolong the crisis.
With that in mind, lets get to what might happen. The Obama administration has proposed setting up a bad bank in which the Treasury would buy the bad loans from banks and hold them. The theory is that if the bad loans are off their balance sheets banks will lend again. That may or may not be so. What is certain is that if the banks are allowed to lend again, they have no incentive to mend their ways. What has caused some banks to tighten their lending standards is the prospect of bad loans coming off their books. They could not take as much risk as they once did (and never should have), hence the somewhat misleading headlines about lending standards tightening. (most likely they are going back to what they always should have been) It is estimated that a bad bank would cost the tax payers $4 trillion (yes, that is a "t"). In addition, according to the Washington Post, the idea, as proposed, would allow the banks to set the price of the assets. As I recall, the market, not the investor should be setting the price of investments when they are sold. To his credit, Treasury Secretary Geithner is against setting up a bad bank. The debate has (finally) started to go against any policy that does not make banks write off the bad mortgages and related investments. In the same Washington Post article former Federal Reserve governor Frederic Mishkin said that "Tough decisions need to be made. You have to make sure that when all is said and doen, you actually have financial firms that are either healthy and the ones that are not healthy can't stay in business." I do not think that is a sentence, but you get the point.
As for the economic stimulus package passed by the House, it includes $544 billion in spending and $275 billion in tax cuts for a total package of $819 billion. The spending includes money to extend unemployment benefits, money for health care coverage for the unemployed, money for infrastructure improvements, and various other program expenditures. The tax cuts include tax credits for workers, children, homeowners, and college, as well as money to subsidize local school bonds and infrastructure projects. I'll try and touch on these in the next few blogs.
As always, thanks for taking the time to read this. I hope you find it helpful.
The last few weeks have brought a plethora of speculation regardingwhat President Obama's economic stimulus package and bank bailout plan will look like. Over the next few blogs I intend to give a preview of possibilities, and then comment on them, once they are unveiled. Whatever your thoughts, keep in mind that both candidates were basically going to do the same thing regarding banks and the economy. both candidates supported and lobbied for the initial bank bailout and both said they were going to spend hundreds of billions of dollars to help homeowners and stimulate the economy. Some details were different, but the approaches were essentially the same. And the approach is what I will concentrate on, because, as you will see, no one is really sure about the numbers.
Since I am a banker (Please don't throw rotten tomatoes. You'll mess up your screen), I'll start with the bank bailout. If you have read the other blogs you will know that I do not agree with theapproach the initial bailout plan took. In addition, I do not agree with any of the changes that have been made. My feeling, and that of many prominent economists is that since toxic housing assets are the root cause of this mess we are in, banks must write them off their balance sheets. while this may cause some banks to fail, that is necessary to bring confidence back to the economy. Banks complain that if they had to sell the assets in todays market, they wojuld take too much of a lose. That's the point, though. The market will define the price of the houses. When the price reaches a certain level (and no one knows what that level is) investors and home buyers will get back in the market. Any plan that involves keeping any toxic loans on the books will only prolong the crisis.
With that in mind, lets get to what might happen. The Obama administration has proposed setting up a bad bank in which the Treasury would buy the bad loans from banks and hold them. The theory is that if the bad loans are off their balance sheets banks will lend again. That may or may not be so. What is certain is that if the banks are allowed to lend again, they have no incentive to mend their ways. What has caused some banks to tighten their lending standards is the prospect of bad loans coming off their books. They could not take as much risk as they once did (and never should have), hence the somewhat misleading headlines about lending standards tightening. (most likely they are going back to what they always should have been) It is estimated that a bad bank would cost the tax payers $4 trillion (yes, that is a "t"). In addition, according to the Washington Post, the idea, as proposed, would allow the banks to set the price of the assets. As I recall, the market, not the investor should be setting the price of investments when they are sold. To his credit, Treasury Secretary Geithner is against setting up a bad bank. The debate has (finally) started to go against any policy that does not make banks write off the bad mortgages and related investments. In the same Washington Post article former Federal Reserve governor Frederic Mishkin said that "Tough decisions need to be made. You have to make sure that when all is said and doen, you actually have financial firms that are either healthy and the ones that are not healthy can't stay in business." I do not think that is a sentence, but you get the point.
As for the economic stimulus package passed by the House, it includes $544 billion in spending and $275 billion in tax cuts for a total package of $819 billion. The spending includes money to extend unemployment benefits, money for health care coverage for the unemployed, money for infrastructure improvements, and various other program expenditures. The tax cuts include tax credits for workers, children, homeowners, and college, as well as money to subsidize local school bonds and infrastructure projects. I'll try and touch on these in the next few blogs.
As always, thanks for taking the time to read this. I hope you find it helpful.
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