Category: Economics

Aren’t the Internets handy, though? I heard the NPR piece about half an hour ago and wondered if what he was saying (about bank nationalization) could possibly be true. Thus Dean Baker:

NPR Misrepresents Bank “Nationalization” Yet Again

NPR presented an expert asserting that the taxpayers would be liable for all bank debt when it takes over bankrupt banks. This is not true. The government has no legal liability for the bad debt of bankrupt banks. It has generally honored not only the deposits but also the bonds of banks that were taken over by the FDIC, but it has no obligation to do so. If the current crisis leaves such a large volume of bad bank debt, it would be under no legal obligation to repay all of this debt at 100 cents on the dollar (presumably it would make owners of subordinated debt take the first hit).

—Dean Baker

I haven’t seen this yet (I’m on the road), but I thought I’d pass it along.

Reporters Covering the Financial Crisis Should Listen to Simon Johnson

Simon Johnson is the former chief economist of the International Monetary Fund. I don’t know him personally, but from his writings and his past positions, I would guess him to be very much a centrist economist. He presented a very clear and carefully thought account of the nation’s financial crisis on Bill Moyers’ Journal last night. This is well worth everyone’s time.

—Dean Baker

Here’s Simon Johnson:

The situation we find ourselves in at this moment, this week, is very strongly reminiscent of the situations we’ve seen many times in other places. But they’re places we don’t like to think of ourselves as being similar to. They’re emerging markets. It’s Russia or Indonesia or a Thailand type situation, or Korea… I have this feeling in my stomach that I felt in much poorer countries, countries that were headed into a really difficult economic situation, when there’s a small group of people who got you into a disaster, who were still powerful, and disaster made them more powerful… Don’t get me wrong — these are fine upstanding citizens who have a certain perspective and a certain kind of interest, and they see the world a certain way… That web of interest is not my interest or your interest or the interest of the taxpayer. It’s the interest, first and foremost, of the financial industry in this country.

Dean Baker (but you knew that, didn’t you?):

NPR Tells Us That the Question is Whether Taxpayers Pick Up All of Investors’ Losses or Just Some of Them

Unfortunately, I am not kidding. In an incredibly poorly informed piece on the foreclosure crisis (they apparently still haven’t heard of the housing bubble), NPR concluded with a quote telling listeners that, “We’re really just trying to figure out who bears the loss. Do we want the government to bear it all, or do we want some of it to be pushed onto investors?”

Of course, that’s the question. Investors can’t be expected to know what they are doing, the little boys and girls need the government to help them out. After all, that is why we have the government. No one would want to leave wealthy investors’ fate to the market. The only question is whether we bail them out completely, or maybe force them to suffer some loss due to their bad investments.

It’s great that NPR framed the range of views that it will present on this issue so clearly. Of course there are people who think that the government should focus on helping homeowners rather than wealthy investors who are too dumb to know how to invest their money. …

The Financial Times’ Martin Wolf.

Why Obama’s new Tarp will fail to rescue the banks

… The new plan seems to make sense if and only if the principal problem is illiquidity. Offering guarantees and buying some portion of the toxic assets, while limiting new capital injections to less than the $350bn left in the Tarp, cannot deal with the insolvency problem identified by informed observers. Indeed, any toxic asset purchase or guarantee programme must be an ineffective, inefficient and inequitable way to rescue inadequately capitalised financial institutions: ineffective, because the government must buy vast amounts of doubtful assets at excessive prices or provide over-generous guarantees, to render insolvent banks solvent; inefficient, because big capital injections or conversion of debt into equity are better ways to recapitalise banks; and inequitable, because big subsidies would go to failed institutions and private buyers of bad assets.

Why then is the administration making what appears to be a blunder? It may be that it is hoping for the best. But it also seems it has set itself the wrong question. It has not asked what needs to be done to be sure of a solution. It has asked itself, instead, what is the best it can do given three arbitrary, self-imposed constraints: no nationalisation; no losses for bondholders; and no more money from Congress. Yet why does a new administration, confronting a huge crisis, not try to change the terms of debate? This timidity is depressing. Trying to make up for this mistake by imposing pettifogging conditions on assisted institutions is more likely to compound the error than to reduce it.

Assume that the problem is insolvency and the modest market value of US commercial banks (about $400bn) derives from government support (see charts). Assume, too, that it is impossible to raise large amounts of private capital today. Then there has to be recapitalisation in one of the two ways indicated above. Both have disadvantages: government recapitalisation is a bail-out of creditors and involves temporary state administration; debt-for-equity swaps would damage bond markets, insurance companies and pension funds. But the choice is inescapable.

If Mr Geithner or Lawrence Summers, head of the national economic council, were advising the US as a foreign country, they would point this out, brutally. Dominique Strauss-Kahn, IMF managing director, said the same thing, very gently, in Malaysia last Saturday.

The correct advice remains the one the US gave the Japanese and others during the 1990s: admit reality, restructure banks and, above all, slay zombie institutions at once. It is an important, but secondary, question whether the right answer is to create new “good banks”, leaving old bad banks to perish, as my colleague, Willem Buiter, recommends, or new “bad banks”, leaving cleansed old banks to survive. I also am inclined to the former, because the culture of the old banks seems so toxic. …

Let’s just skip to Robert Reich’s conclusion:

Geithner’s Plan: It’s Not Transparent and It’s Still a Bailout

… In other words, Geithner and Fed Chair Ben Bernanke continue to do pretty much what Hank Paulson and Bernanke did: They hide much of the true costs and risks to taxpayers of repairing the banking system. Those risks and costs should be put on the people who made risky bets on the banks in the first place – namely bank shareholders and creditors. Shareholders of the most troubled banks should be wiped out entirely. Bank creditors- except depositors – should take major hits. And top executives who were responsible should be canned. But Geithner and Bernanke don’t want to take these steps for fear of spooking the Street. They think it’s safer to put the costs and risks on taxpayers — especially in ways they can’t see.

Geithner’s plan is better than the first Wall Street bailout but make no mistake: It’s not transparent, and it’s still a bailout.

NY TImes. No comment is really necessary, but Barry Ritholtz obliges us anyway.

In their defense, analysts point out that most regulators, economists, journalists and investors failed to foresee this financial catastrophe. And the worsening economy did prompt a cut in their buy recommendations.

Sheesh.

Paul Krugman.

What the centrists have wrought

I’m still working on the numbers, but I’ve gotten a fair number of requests for comment on the Senate version of the stimulus.

The short answer: to appease the centrists, a plan that was already too small and too focused on ineffective tax cuts has been made significantly smaller, and even more focused on tax cuts.

According to the CBO’s estimates, we’re facing an output shortfall of almost 14% of GDP over the next two years, or around $2 trillion. Others, such as Goldman Sachs, are even more pessimistic. So the original $800 billion plan was too small, especially because a substantial share consisted of tax cuts that probably would have added little to demand. The plan should have been at least 50% larger.

Now the centrists have shaved off $86 billion in spending — much of it among the most effective and most needed parts of the plan. In particular, aid to state governments, which are in desperate straits, is both fast — because it prevents spending cuts rather than having to start up new projects — and effective, because it would in fact be spent; plus state and local governments are cutting back on essentials, so the social value of this spending would be high. But in the name of mighty centrism, $40 billion of that aid has been cut out.

My first cut says that the changes to the Senate bill will ensure that we have at least 600,000 fewer Americans employed over the next two years.

The real question now is whether Obama will be able to come back for more once it’s clear that the plan is way inadequate. My guess is no. This is really, really bad.

via Time Magazine

Update: via Barry Ritholtz, the same graph extended to all post-WW2 recessions. Click either graph for a bigger version.

And while we’re at it, one more view, same as the previous graph but in percentages rather than absolute numbers (and fewer recessions).

Robert Reich.

More Lemon Socialism — And Why The Limits on Wall Street Pay Are For Show

… By the way, get ready for some really horrifying bailout numbers. Goldman Sachs — not one to exaggerate the overall problem — recently estimated the total value of troubled U.S. bank assets to be $5.7 trillion. Hence, do not be surprised if the next stage of the bank bailout dwarfs the cost of the stimulus package. My guess is that’s reason the administration wants the stimulus bill approved before it fully unveils the price tag of the next bank bailout.

Doom and gloom from Felix Salmon (emphasis mine).

Why, I ask myself, do I keep posting this depressing stuff? I don’t know, I answer; I can’t help it. Like worrying a bad tooth, I suppose.

Chart of the Day: Spiking Unemployment

Jake at EconomPic Data has the chart: narrow unemployment is now at 7.6%, while the broader measure of underemployment is a whopping 13.9%.

Clearly this kind of spike is scarily extreme, and equally clearly it’s not showing any signs of slowing down. The AP does a good job of stating the obvious in its that’s-weird-why-are-stocks-rising report:

Jobs are important to the stock market because if people are unemployed, they aren’t likely to maintain their spending, buy a house or keep up with their debt payments. And three of the biggest problems facing the economy are dampened consumer spending, the housing market’s slide and accelerating loan defaults.

Not to mention the fact that we’re going to embark upon a wave of corporate debt defaults very soon now. It’s all well and good to mark down bond prices to anticipate a higher default rate, but when it happens it’s always a shock.

I still think that things are going to get worse before they get worse: I just can’t for the life of me see the engine for any recovery. Certainly the stimulus bill isn’t going to do it on its own — the economic problems facing the US are so large that the government can at best only try to make things slightly less bad than they otherwise might have been. But just as the boom fed on itself, so does the bust. Which means that this recession could drag on for a very long time yet.

Yves Smith. Read it and weep. Or hope that WaPo blew it; it wouldn’t be the first time.

The Bad Bank Assets Proposal: Even Worse Than You Imagined

Dear God, let’s just kiss the US economy goodbye. It may take a few years before the loyalists and permabulls throw in the towel, but the handwriting is on the wall.

The Obama Administration, if the Washington Post’s latest report is accurate, is about to embark on a hugely costly “save the banking industry at all costs” experiment that:

1. Has nothing substantive in common with any of the “deemed as successful” financial crisis programs
2. Has key elements that studies of financial crises have recommended against
3. Consumes considerable resources, thus competing with other, in many cases better, uses of fiscal firepower.

The Obama Administration is as obviously and fully hostage to the interests of the financial services industry as the Bush crowd was. We have no new thinking, no willingness to take measures that are completely defensible (in fact not doing them takes some creative positioning) like wiping out shareholders at obviously dud banks (Citi is top of the list), forcing bondholder haircuts and/or equity swaps, replacing management, writing off and/or restructuring bad loans, and deciding whether and how to reorganize and restructure the company. Instead, the banks are now getting the AIG treatment: every demand is being met, no tough questions asked, no probing of the accounts (or more important, the accounting). …

Via James Hamilton, a whole raft of bad-news graphs from CalculatedRisk. Here are a couple (click for bigger versions), but go have a look for yourself.

Amity Shlaes surfaces at the Post.

The Washington Post Prints More Nonsense on the Economy

… Readers may recall the memorable Donald Luskin piece of September 14th telling readers that the economy was just fine. In keeping with this proud tradition, the Outlook section has a front page piece from Amity Shlaes telling readers that the New Deal didn’t work. According to this story, the economy would have quickly recovered from the depression, if only Roosevelt had the good sense to do nothing.

While the basic argument has the form of a no evidence counter-factual assertion (e.g. the good fairy of the market would have set things right, if only Roosevelt didn’t get in the way), the discussion is contradicted by the known facts of the era. Roosevelt’s New Deal Agenda lowered the unemployment rate from 25 percent in 1933 to 10 percent in 1937. None of us would be happy with 10 percent unemployment, but it is difficult to complain about policies that reduced the unemployment rate by an average of almost 4 percentage points a year. The annual growth rate over these four years averaged 13.0 percent. It is always possible that the magic of the market would have done better, but there is no reason that we should believe so.

Schlaes is correct in pointing out that things turned bad again in 1937. The Blue Dogs of the Roosevelt era won sway and got Roosevelt to cut spending and raise taxes. This threw the economy back into a serious recession, just as any good Keynesian would have predicted. …

—Dean Baker

More entertainment on the subject from Brad DeLong.

It’s more than a little difficult to understand how someone like Kinsley could be doing this kind of thing out of sheer ignorance. But I guess you never know…

Michael Kinsley’s Failed Math, Again

On average, Bill Gates and I have $20 billion. If anyone thinks this statement means I’m very rich, then you’re smart enough to have a column in Time Magazine, but probably not smart enough to hold a real job.

Micheal Kinsley pushes this line in telling readers that “the average couple age 65–74 has accumulated a net worth (not counting entitlement promises as either assets or liabilities) of $691,000, according to the Federal Reserve in 2004.” The problem is that this number is an average. It includes the enormous wealth of the Bill Gates types who fall in this age group.

If Kinsley was interested in telling readers about the standing of the typical person in this age group, he could have found it on the exact same page. The Fed reports that the median family in this age group had $190,100 in net worth (this includes home equity) in 2004. Of course, this was before the recent stock and housing market crash so the median would almost certainly be far lower today. …

—Dean Baker

I always assumed that the Dow was weighted by market capitalization, with the whole thing scaled appropriately when companies were swapped in and out. But no…

The Dow is Distorted

The Dow Jones Industrial Average (DJIA) is a price weighted index. The divisor for the DJIA is 7.964782. That means that every $1 a DJIA stock loses, the index loses 7.96 points, regardless of the company’s market capitalization. …

This has perverse consequences. Read the whole thing.

Felix Salmon.

Why Nationalization is the Best Alternative

Kevin Drum is a bit like Joe Nocera: he’s reluctant to nationalize, but he doesn’t really say why.

It’s wise to be wary of nationalization. It should be a last resort, and I’ve gotten a sense recently that a lot of people are talking about it awfully casually. Still, it’s true that there are some benefits to nationalization, and one of them is that it allows us to avoid the problem of valuing and buying up toxic assets from troubled banks. If the government owns the whole bank, then the bad stuff can be easily hived off without any kind of valuation at all, and then left to sit for a while before it’s sold off — which is what the Swedes did.
If we have to nationalize, then we have to nationalize. But we should understand the precedents before we do, and go ahead only if we have to.

The only argument I can find in here is an argument in favor of nationalization, not against it. Why should nationalization only be a last resort?

…

See also Krugman.