Smarter than the average Bair
April 6th, 2009By David Goldman
FDIC chief Sheila Bair has gotten beaten up in the blogs, e.g. by the often perspicacious Bronte Capital:
The seemingly criminal Sheila Bair*
I am not opposed to the Geithner Plan – but the execution is bordering on criminal. This article in the FT runs as follows:Bailed-out banks eye toxic asset buysBy Francesco Guerrera in New York and Krishna Guha in WashingtonPublished: April 2 2009 23:20 | Last updated: April 2 2009 23:57US banks that have received government aid, including Citigroup, Goldman Sachs, Morgan Stanley and JPMorgan Chase, are considering buying toxic assets to be sold by rivals under the Treasury’s $1,000bn (£680bn) plan to revive the financial system.The plans proved controversial, with critics charging that the government’s public-private partnership - which provide generous loans to investors - are intended to help banks sell, rather than acquire, troubled securities and loans.Spencer Bachus, the top Republican on the House financial services committee, vowed after being told of the plans by the FT to introduce legislation to stop financial institutions ”gaming the system to reap taxpayer-subsidised windfalls”.It is so blatantly obvious that the people that should not participate as buyers in the Geithner funds are the conflicted. This was first pointed out by Steve Waldman – but I thought his dark thoughts were too dark. However Clusterstock argues that Sheila Bair is seemingly oblivious to the corruption possibilities.She isn’t seemingly oblivious. She is totally captured by JPM and Citi.After all WaMu was gifted to JP Morgan in a reckless and irresponsible manner and she attempted to gift Wachovia to Citigroup. It should not surprise me that Sheila Bair continues to act as if she is on the take. That represents no change in behaviour.Recommendation: Indict Sheila Bair if she won’t resign. Indict her now.*Note - I have always believed that Sheila Bair is either incompetent or corrupt. She seems to be corrupt - but incomeptence in her case is probably a sound defence. She should resign before she is (perhaps mistakenly) indicted for corruption.
This seems overwrought and quite unfair to me. Readers of this blog know that I am no admirer of the present administration. But I don’ t think that Ms. Bair is the right person of whom to make a horrible example. She’s a Kansan who started out in politics as an aide to Sen. Robert Dole, with a long career in government service and no $5 million paydays from hedge funds.
Governments must play the hand that they are dealt. If the banking system were to go under, and no alternative were available but nationalization (per Krugman and Stiglitz), the results would be catastrophic, for reasons I have laid out elsewhere. The banking and insurance systems are a pyramid, in which the capital of the insurance companies in effect is invested in the capital of the banks. WIpe out bank capital, and insurance goes down, too.
In order to stay in business banks require earning assets, and the most attractive assets availabe are the “toxic” mortgage-backed securitie backed by less-than-prime collateral, now trading with the dollar prices in the $20s for so-called AAA’s, and offering unlevered returns in a worst-case scenario of around 15%. Senator Bachus is shocked — shocked – to find cannabalism going on in the banking system. The same banks that are supposed to get rid of toxic assets want to go out and buy more.
The trouble from the beginning has been that the Geithner plan had the wrong idea about banking and economic growth. You don’t need to shuffle toxic assets around to get the banks to lend. The Fed can take care of the mortgage market, and has done so impressively. Mortgage rates have collapsed thanks to Fed purchases of MBS and first-time buyers are buying foreclosed properties, keeping the recovery rate in most markets at around 50% (and that keeps the toxic assets paying with limited impairment).
But you do need the banks to earn enough to compensate for the loan write-offs that inevitably must pile up during a deep economic downturn. That is why cannabalism is the cheapest and easiest solution. Of course Citi and JPM should be net buyers rather than net sellers of toxic assets. In the case of Citi, the taxpayers will come out with a profit if the bank survives, since the Treasury will own about 36% of the bank at $3.25 a share (vs. $2.90 in early trading this morning).
It’s dirty, messy, and downright cannabalistic, but it’s by far the cheapest way out of the mess.
April 6th, 2009 at 5:29 pm
“This is part of the muddling through scenario where we are going to keep zombie banks alive,” Soros, 78, said today in an interview with Bloomberg Television. “It’s going to sap the energies of the economy.”