The New York Times offers An Alternative to Armegeddon
It is easy to see why investors freaked out when the House of Representatives drove a stake through the Bush administration’s $700 billion plan to re-animate the banking industry. The demise, at least for now, of Treasury Secretary Henry Paulson’s Troubled Asset Relief Program is certain to cause more pain — and not just for Wall Street fat cats.
The failure of the United States government to emerge as a willing buyer for hundreds of billions of dollars of toxic assets will accelerate the painful process of deleveraging, bringing with it more bank failures. That, in turn, will shrink the size of the private sector balance sheet that consumers and companies have come to rely upon.
Monday’s whopping 7 percent collapse in the Dow Jones industrial average and a spike in equity volatility, among other signs of market distress, suggest that investors fear this could spell financial Armageddon. But it doesn’t have to. The last week’s rescues of the banking industry’s two biggest problem children — Washington Mutual and Wachovia — offer hope that some combination of free-market capitalism and existing mechanisms for government assistance will provide solutions to the crisis.
…But the plan did not specifically address the root cause of the crisis — declining housing prices. Mr. Paulson might be right in arguing that it was needed to keep the credit system humming along, and with it the United States economy. But Democrats struggled to persuade their constituents, who saw it as a bailout of Wall Street, that it would help them much. Republicans, meanwhile, saw the program as a violation of the free-market principles on which the party once stood.
Yet there may be a way forward. Take the way government agencies engineered the rescue of Wachovia over the weekend. Citigroup is paying $2.1 billion for the bulk of Wachovia’s businesses and taking on its $700 billion in assets. For a bank with its own difficulties, this might seem foolhardy.
So to grease the wheels, the Federal Deposit Insurance Corporation has essentially given Citi an insurance policy against outsize losses on the $312 billion of Wachovia’s mortgage-related and other assets regarded as dicey. The F.D.I.C. will be on the hook for the rest.
That’s sort of what Mr. Paulson’s plan was supposed to do. And as he proposed in the Tarp, the F.D.I.C. is getting a mix of preferred stock and warrants worth $12 billion that allows it to benefit from any increase in Citi’s value, while also increasing the bank’s capital ratios. Citi is also raising $10 billion from its own shareholders to finance the deal. The end result is a hybrid of risk-taking by the American taxpayer and Citi’s shareholders.
Of course, Citi’s chief, Vikram Pandit, might have struggled to sell the Wachovia deal to his board without the government’s bailout plan on the horizon. But it would equally have been irresponsible for Citi — or for Warren Buffett’s Berkshire Hathaway and Mitsubishi UFJ, which invested respectively in Goldman Sachs and Morgan Stanley in the last week — to have agreed a deal predicated on Congressional approval.
These deals — along with JPMorgan’s acquisition of Washington Mutual in another F.D.I.C.-brokered deal on Thursday — show that willing buyers can be found for distressed institutions with the government mechanisms that are already available. The more the government helps, up front or through some sort of insurance, the less risible the price a savior will offer.
Whether or not Mr. Paulson’s Tarp comes back to life, there will be more pain, particularly on Wall Street, but also on Main Street. As the credit spigot dries up further, it will be harder for companies to borrow and invest in their businesses, despite the Federal Reserve’s separate efforts to flood the system with money. It will cost more for consumers to mortgage their homes or gear up their car purchases. But the additional pain of living without the Tarp could be beneficial in the long run, if it brings more reliance on sound market principles.
Posts
|