IRA has a great analysis of the PPIP. Their conclusion? Eventually we will pay the piper when the conflicting Mark to Fantasy rules and the Geithner/Summers plan both fail to cure the banks’ problem and liquidation becomes the new political expediency:
“When General Motors (NYSE:GM) is forced into an inevitable bankruptcy this June, however, doing similar for American International Group (NYSE:AIG) and the large banks will become a political inevitability and the notion of storing toxic waste will be shown to be a truly harebrained idea. As the Obama Administration begins to understand how deep the rabbit hole does indeed go in terms of subsidizing the continued existence of the growing collection of zombie financials, liquidation will become the most popular topic in Washington.
The tragedy is that the time lost between now and when the President realizes he is getting bad advice from Summers & Geithner could be the difference between a very bad recession and a crippling meltdown that is, in part, made worse by a PPIP that represents virtually no change from previous policy.”
Elizabeth Warren, chair of the congressional oversight committee monitoring the government’s $700B Troubled Asset Relief Program (TARP) bank bailout plan, will call for the removal of top executives from Citigroup, AIG and other institutions that have received government funds in a damning report that will question the administration’s approach this week, according to The Observer. Warren, a Harvard law professor, will also call for equity holders of these companies to be wiped out and believes the “open-ended subsidies” that treasury Secretary Geithner is giving to the banks are inherently dangerous.
She said she did not want to be too hard on Geithner but that he must address the issues in the report. “The very notion that anyone would infuse money into a financially troubled entity without demanding changes in management is preposterous.”
The report will also look at how earlier crises were overcome – the Swedish and Japanese problems of the 1990s, the US savings and loan crisis of the 1980s and the 30s Depression. “Three things had to happen,” Warren said. “Firstly, the banks must have confidence that the valuation of the troubled assets in question is accurate; then the management of the institutions receiving subsidies from the government must be replaced; and thirdly, the equity investors are always wiped out.”
On Wednesday FT points out that:
“Amid the general euphoria over Tim Geithner’s plan to tackle toxic assets there is one note of caution: while bank stocks have rallied strongly on the plan, the underlying toxic assets have not.
…the liquidity risk premium – the price discount imposed by difficulty obtaining financing – in these Âmarkets may not be as big as policymakers hope, implying that prices may not rise very much when government financing comes on stream, leaving banks with still large capital holes.”
But, if the the fix is in, then the PIMCO’s and Blackrocks, while appearing to be studiously analyzing the underlying assets, really plan to pay whatever price the banks ask. Then, while they will lose their small equity investment in the bank assets as parts of them eventually default, they recover more than enough to profit from the CDS’s they purchase “as insurance”. Meanwhile, taxpayer money has been given to bank stockholders…but this is another issue. See the Giethner plan explained at FT.
Even so, Roubini is right: if the bank is, at the time of these transactions, insolvent, then turning assets to cash at book value does not change this fact and these pricing activities may make it more obvious. See the previous video of Roubini.
Nouriel Roubini on Bloomberg says the bank plan will help banks that are not already insolvent, but those that already are insolvent will have to be taken over.
Henry Blodget may be disgraced as an internet stock analyst but his argument makes sense. We raised a similar idea. The basic idea is that when one bank receives and accepts an offer on a particular asset, the argument that “there is no market price” can no longer be used by that bank or others. Thus, banks all over will be forced to take additional write downs, making insolvency in many cases not just rumor but fact. Bank reluctance to participate may be moot as they may be forced.
If the banks go through the exercise of putting assets up for sale only to have the bids come in at, say, 40 cents instead of the 60 cents on the books, the banks’ accountants and/or federal regulators might notice. So even if the banks recoil in horror and refuse to sell at 40 cents, someone somewhere might insist that assets now carried at 60 cents be written down to 40 cents (after all, they won’t have the “temporary illiquidity discount” excuse anymore, will they?). This will blow another huge hole in the banks’ balance sheets.
Given this, banks would probably be wise not to participate in Geithner’s plan. Which is why the government is already talking about forcing them to:
As the FT reports: “The unspoken fear here is that selling off loan portfolios would lead to more government capital injections into major banks,” said an executive at a large bank…
Richard Bove, an analyst at Rochdale Research, wrote in a note to clients: “[The plan] will not happen because it would destroy bank capital. It might cause a bank to fail the new stress tests under way. Banks will not take this risk.”But while banks in theory have discretion over whether to sell loans, Sheila Bair, chairman of the Federal Deposit Insurance Corporation, said this decision would be made “in consultation with regulators” – a sign that the authorities might put pressure on banks to sell toxic assets.
