Gaming the Geithner plan, part II

by on April 6, 2009 at 7:09 am in Economics | Permalink

From a recent Business Week article, here are some suggested possibilities:

Banks may be able to finance the sale of their own troubled loans, lending money to the public-private partnerships that buy the assets. A bank's loan to the partnership would be buttressed by an FDIC guarantee. Administration officials confirm that the Treasury may allow such seller financing. The move essentially replaces junky mortgages on the bank's books with an FDIC-guaranteed loan.

…Say a private investor in one of the partnerships owns big stockholdings in a bank putting assets out to auction. By overbidding for the bank's sludge loans, the investor could help drive up the banks' shares and make a tidy profit.

…Perhaps the most intricate maneuvers will likely stem from "layering" the government's many programs of the last six months. Starting with some of the capital infusion received last fall from the Treasury, a bank could invest in a private partnership that buys toxic assets using a loan guaranteed by the FDIC. Those assets could then be chopped up and sold as securities to other investors–who put together the financing for the deal by availing themselves of another program of low-risk loans from the Federal Reserve. Thus the original bank's capital at risk in this web of deals would be almost nil. "[This] is going right back to the practices that got us into this problem–except using government leverage," Young says. "It might lead to an even wilder party than we saw before."

You should not assume that all of these strategies will be legally possible or that they necessarily work.  Furthermore the greater danger may be that banks are afraid to make money in a partnership with government aid, for political reasons.  Still, if you are seeking to think through possible problems in the Geithner plan, the article is a one good place to start.

Ricardo Caballero's defense of the Geithner plan is here.

Addendum: Jeff Sachs is worried.

Adam April 6, 2009 at 10:18 am

Why is this gaming the system? Isn’t the purpose to replace the risky assets of uncertain value with cash or a cash substitute like safe debt. Jc Flowers or blackrock still has to put up an equity stake. Why would they agree to put their equity at risk just to facilitate such a plan. I wouldn’t call an outcome where banks ditch their assets to risk bearing equity funds in return for riskles assets ‘gaming’ I would call it success.

Noah Yetter April 6, 2009 at 11:44 am

Frankly, Caballero comes off like an idiot.

“Persistence is good. If a strategy fails the best course of action is to repeat it and hope for different results.”

“The problem was too much leverage, so this solution involve even more leverage is totally the answer.”

“We’re not gonna have zombie banks like Japan, ours are going to be bigger and better.”

“Liquidation is bad, because the best way to address a bubble industry is to keep it propped up. Want to buy some buggy whips?”

And this guy is head of economics at MIT? God help us all.

JK April 6, 2009 at 12:43 pm

If you want a really good explanation of what the underlying problems and risks with the Geither Plan are you should have a look at the brilliant series of You Tube chalkboard videos by Sal Khan which explain how the whole thing works

Geithner Plan 1
http://www.youtube.com/watch?v=ervHbKa7R5g&feature=related

Geithner Plan 2
http://www.youtube.com/watch?v=0FxRYePmogU&feature=related

Geithner Plan 2.5
http://www.youtube.com/watch?v=n-arbfLTCtI&feature=related

Geithner Plan 3
http://www.youtube.com/watch?v=_ka1HZS-Egc&feature=channel

Geithner Plan 4
http://www.youtube.com/watch?v=ajl1UdtYUCA&feature=related

Geithner Plan 5
http://www.youtube.com/watch?v=kpqSeXpiM6k&feature=related

Geithner Plan 6

http://www.youtube.com/watch?v=xp_feHfbIZU&feature=channel

Geithner 7: Like US Taxpayers Giving Arms to Al Qaeda
http://www.youtube.com/watch?v=zW2vRzO0678&feature=channel

Andrew April 7, 2009 at 5:36 am

I’m already sick of this BS. Can we not just shoot the bastards?

The answer is obviously some form of mortgage renegotiation. I favor a 40-50 year mortgage. The government can change the rules they use to threaten banks with death to make this happen.

They are doing nothing aside from thinking up creative ways to lube the taxpayers.

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