Nationalize Banks Has Support

This simple lawyer might have more common sense than I give myself credit for.  Professor Nouriel Roubini - a noted NYU economics professor - is advocating to nationalize the banks!  The New York Times reports that Roubini's blog provides the reasons to nationalize the banks.  The link to the article is here:

  http://dealbook.blogs.nytimes.com/2009/02/12/dr-dooms-case-for-nationalizing-banks/?scp=2&sq=roubini&st=cse

I am sure his reasoning and insight is better than mine, but for the record, I agree with him.

What Exactly Are We Stimulating?

By the time I post this President Obama will have signed into law one of the largest government spending programs in history. I realize that Congress needs to do something and many of the citizens of this Country and the world at large have called upon our government to DO SOMETHING, but I think we all expected that these elected officials would actually try to figure out how to do something that would actually help rather than hurt. This spending bill is more of the same pork barrel governmental waste that is symptomatic of the root cause of the mess in which we are mired. 

The problem is demand. Demand creates jobs. Demand increases production. Demand supports prices when it exceeds the available supply. The spending bill does not create demand for anything. It spends money taking unemployed people and putting them on the taxpayer's dole. 

Demand in our country is created by the consumption of goods and services by individuals and the private sector. Demand itself is stimulated by need. Individuals and the private sector are not in a position to need anything because of our massive increase in consumption over the past few years and their bloated debt. How many new TVs, cars, computers, ipods do we need? Freeing up credit and making it available to people who can't afford to take on more debt doesn't create real demand. It creates real bankruptcies.  It creates the overextension of credit issue that started this mess to begin with.

Any solution proposed by the government needs to focus on reducing our nations debt burden, and reducing the debt burden of the individuals and businesses who spend their dollars in a productive manner. Most americans get this. Over the last few months, we (collectively) have been charging less on our credit accounts and paying down some of our debt.  Certainly there are some who haven't and can't pay down debt.  There are those whe never should have borrowed to the extent they did in the first place and will have to endure a painful solution to reduce their debt.  Why can't the government take steps to reduce the debt of the people as well?  It is time to pay the piper.  

John Maynard Keynes postulated that while government debt matters in theory, it doesn't matter in practice because the debt will have no effect in his lifetime.  That has been our philosophy for the 3+ generations since Keynes.  Well, you know what? Keynes is dead.  His immediate followers are dead.  Government continues to rack up debt.  Someone needs to pay the debt.  Debt does matter now!  Keynes convinced generations to put it on the next generation.  We are that next generation, and we now need to pay the piper not only for our own excesses, but for those of the generations since the last great depression. Until we clean up our collective balance sheets - either by bankrupting debtors or devaluing the currency or by some other method - we will have a substantial barrier to demand growth.

Let's focus on the real problem!  Government spending does not create real jobs.  It is a stopgap measure that takes away labor and capital from the private sector.  Don't get me wrong, I am not saying that everything in the spending bill is evil - there are some noble pork projects that our elected representatives have been lobbied hard to deliver and might in a perfect world improve some standard of living in some segment of our society.  Those are issues for congress to debate.  Just don't do it under the guise of trying to stimulate the economy.  In the long run it chokes the economy.  While the long run may not have had a practical effect on our parents and grandparents, it does to us.  Deliver a real solution that addresses the core issues, not a band-aid for a symptom.

Bad Bank Idea Delayed, But Not Dead – Buy The Underlying Mortgage Loans, Not The Highly Levered Toxic Assets

President Obama indicated today that he is delaying until next week the announcements on the "bad bank" that being proposed to buy complex, hard to value securities from banks.   The idea is a bad one that should not see the light of day.  The idea that our government should buy toxic assets from banks who created these opaque instruments to hide their lax lending practices based on the same fraudulent model pricing that inflated the assets on the insolvent banks’ books to begin with is absurd.  It neither solves the problem nor forces banks to lend.  Indeed, the problem is not that the banks do not have capital to lend, it is that the balance sheets of the potential borrower – the American consumer who accounts for 70% of our GDP (and probably 30% of the global product) – is not in sufficient shape to make a sound loan and has no bankable collateral left.

 Given that most of the original toxic assets are related to mortgage backed securities where the underlying mortgage loans were made with to people who had insufficient equity in their real estate to withstand a cyclical downturn ( a foreseeable event) or did not have the income to sustain the mortgage payments by traditional guidelines, one solution could be to have the government refinance every taxpayer’s mortgages at favorable interest rates.  Refinancing the underlying mortgages will result in the early payoff of the mortgage loans found in the CDO and RBMS.  Subprime, Alt-A, all of that will not be an issue.  Reducing interest rates assists the American consumer in adjusting their balance sheet.  Having the government hold the mortgages means that our government can decide how to modify mortgages for borrowers who by circumstance cannot maintain payments.  It is like another webbing on the safety net our society has built.  It also avoids the unseemly problem of having bankruptcy courts modify third party mortgages.  It gives the government power to determine when it should ease its foreclosure activities, and when to forgive, and when to allow short sales.

 Of course, because becoming the nation’s mortgage banker will utilize taxpayer dollars, the program should be made available to every taxpayer, and should only be for a short time period.  In the end, the government will hold the worst of the mortgage loans, but not the highly levered CDOs and RBMS.  If there are losses attributable to the early payment of the underlying mortgages, those losses should be suffered by the foolish parties that created and purchased those complex instruments in the first place.

Nationalize Banks Now

The discussion topic for today is whether our government should nationalize our insolvent banks, rather than continuing to bail out these same banks with taxpayer money so that the people in control of the banks - those people who made the bad business decisions that caused the insolvency in the first place - may continue to preside over those institutions.  The proposal is to allow the government to take over the banks, rather than bailing them out, and to oversee the  orderly liquidation of the banks, while at the same time maintaining the flow of capital into our economy.  A necessary consequence of the nationalization is that the holdings of the banks investors and stockholders will be wiped out.  Part of the orderly liquidation would require the government to hold onto bank assets for a short time in order to re-privatize them once the core of the current economic crisis passes.  

No bank is too big to fail.  The question is whether we have a system in place to assist in an orderly liquidation of failed institutions.  There can be little doubt that our existing institutions (bankruptcy courts) are ill equiped to handle a systemic failure.  Policy decisions need to be mixed with the liquidation.  The same principles that apply to ordinary liquidations are the same; however, the tactics and rules need to be different.  A take over by the government is not perfect, but it is more pallitable than paying huge bonuses and salaries to the people who let their banks fail.  

Continuing the bail out philosophy helps neither the businesses nor the economy.  No government is big enough to stop business cycles either.  The laws of supply and demand control the economy.  When the banks extend credit to borrowers without regard to whether they can repay their loans, it is those banks, their investors and their stockholders that must suffer, not the taxpayers.  When the borrowers as a whole decide (or circumstances require) that it is time to pay the piper and reduce their debt burden, aggregate demand will slacken.  No government manipulation of the banking system will increase demand.  Providing more liquidity will not improve the credit worthiness of the borrowers.  Buying bad loans at above market prices will not affect demand.  Essentially the government bail out and bad bank proposal is nothing more than encouraging the banks to continue to make bad loans to consumers and businesses that cannot afford to take out any more credit.  

What is left is a realization that Bernanke's and the US Government's efforts to avoid a credit collapse and a shrinking economy are nothing more than an attempt to shift the burden of loss and pain of recession from those who assumed the risk (and profited therefrom) to the taxpayers and the workers.  The saving grace is that our economy is strong and commerce will continue once supply and demand are balanced.  Business cycles need to happen.  If banks collapse and are liquidated, there will be new lenders that arise out of the ashes.  The new lenders will learn from the mistakes of others and lend in a more prudent fashion (for a short while anyway).  Cars will continue to sell, albeit at a lower volume, and new mnaufacturers and new dealers will take over where old ones failed.  If we let our government debase our currency and squander our resources to maintain businesses that could not anticipate business cycles, we encourage poor and non-competitive behavior.

Will there be pain from failure?  Of course.  The question is who is in the best position to bear that pain?  If we spread the pain across society, then any recovery will take years.  That is the legacy of FDR and the Great Depression.  It is the legacy of Japan's lost decade.  Liquidate now and watch a healthy new economic phoenix arise from the ashes.  Perhaps Andrew Mellon was right afterall.