Multiple Choice – Save the banks or save the economy for the long haul

We didn’t have to wait a few days. Brad Delong and Paul Krugman disagree on the Obama administrations public-private partnership rescue plan for the nation’s banks ( and by default a few foriegn banks). Several bloggers have already hit the highlights. MyDD has the major points of disagreement between Krugman and Delong here, D-Day for Geithner .

And as just as on-line bookmarks for readers and myself, the direct links

Financial Policy Despair – Krugman’s initial declaration that the “zombies” have won.

The Geithner Plan FAQ – Professor Delong

I Think Paul Krugman Is Wrong – Professor Delong

Brad DeLong’s defense of Geithner – Nobel winning economist Paul Krugman

Delong thinks those toxic assets that we keep hearing about will be worth something eventually. That part of me that appreciates smart people having a civil difference of opinion thinks this is great. The part of me that worries about bills, my neighbors problems and those of my fellow citizens wishes there was a more definitive answer. Which gifted economist should I believe. Delong is not as well known as Krugman, but I read his blog a couple times a week and happen to see him once on C-Span at a Congressional hearing. Excetionally bright guy, but I’m leaning toward Krugman and James K. Galbraith – No Return to Normal

In addition, some of the biggest banks are bust, almost for certain. Having abandoned prudent risk management in a climate of regulatory negligence and complicity under Bush, these banks participated gleefully in a poisonous game of abusive mortgage originations followed by rounds of pass-the-bad-penny-to-the-greater-fool. But they could not pass them all. And when in August 2007 the music stopped, banks discovered that the markets for their toxic-mortgage-backed securities had collapsed, and found themselves insolvent. Only a dogged political refusal to admit this has since kept the banks from being taken into receivership by the Federal Deposit Insurance Corporation—something the FDIC has the power to do, and has done as recently as last year with IndyMac in California.

Geithner’s banking plan would prolong the state of denial. It involves government guarantees of the bad assets, keeping current management in place and attempting to attract new private capital. (Conversion of preferred shares to equity, which may happen with Citigroup, conveys no powers that the government, as regulator, does not already have.) The idea is that one can fix the banks from the top down, by reestablishing markets for their bad securities. If the idea seems familiar, it is: Henry Paulson also pressed for this, to the point of winning congressional approval. But then he abandoned the idea. Why? He learned it could not work.

The short and simplistic take is that Obama and Company want to save the banks in such a way that everything returns to the way it was with a few tweaks and new regulations. Galbraith doesn’t think it should be done that way and at least some of us, while I would wish he were not, tend to think he is right. Galbraith points out that lots of people from across the political spectrum believe that given a push here or there the economy will recover. That is one reason I prefer the natural sciences to the social sciences, the former is less reliant on beliefs. Trash this public- private nonsense. Tax payers will be picking up the tab if we go Krugman’s way or Team Geithners. Could we be piratical enough to go down the road that costs less and promises more fundamental change. At the same time stop crossing our fingers for things to return to whatever normal was a few years ago – so that what – twenty years from now we can have the sequel to this recession. Some non-crude populists outrage from this diarist at DKos, Depressed

And the fact is: a lot of players bet against AIG that things would go wrong – after all, if it was obvious to more than a few of us peones that there was a massive, unsustainable bubble, you’d expect that some of the smarter hedgies would have noticed it too – and indeed they did: except that, as some noted, instead of screaming about it on blogs, they rather more profitably bet against it.

And now, AIG is paying out these bets – with your money.

Geithner & co are now saying that this is necessary to save the system – which is wholly untrue: what they are doing is trying to save those that bet against AIG (ie Goldman Sachs et al.), by honouring, wihout cause, AIG’s commitments with taxpayer money. And what’s more annoying is that they’re not even talking about that – they’re still talking about the toxic assets that banks supposedly hold, and that everybody sane in the financial markets has already discounted down to their true value, ie close to zero – the second-order problem in that mess.

Again: the bigger problem is not worthless assets, it’s unlimited liabilities on all the financial bets that were made.

What is so depressing is that money is being thrown at banks in the guise of solving the asset problem, when it goes to not solving the liabilities problem (because it’s so much bigger) – and that markets know that it’s not solving anything (they have the liabilities on their books, and guess that others have the same).

Bank assets, like your home or three of your neighbors are worth saving, but to echo, why save the bets that AIG and the hedge funds made. They gambled, they lost. AIG does hold quite a few assets in the form of individual insurance policies – save assets like that, not the institution or as the diarists writes,” What is so depressing is that the goal still seems to be to save banks when it should be to save the economy.. ” The new bank/financial services bail-out is being called Treasury Secretary Timothy Geithner, but it sure smells like Obama’s National Economic Council director Lawrence Summers. If Geithner, who is more wonk then ideologue was taking his direction from Eliot Spitzer or Paul Krugman we’d have a better plan, The Real AIG Scandal, Continued! By Eliot Spitzer

The AIG scandal is getting ever-more disturbing. Goldman Sachs’ public conference call explaining its trading relationship and exposure with AIG established, once again, that Goldman knows how to protect itself. According to Goldman, even if AIG had failed, Goldman’s losses would have been minimal.

How did Goldman protect itself? Sensing AIG’s weakening capital position through 2006 and 2007, Goldman demanded more collateral from AIG and covered outstanding risk with instruments from other firms.

But this raises two critical questions. The first is why $12.9 billion of taxpayer money went from AIG to Goldman. What risk—systemic or otherwise—was being covered? If Goldman wasn’t going to suffer severe losses, why are taxpayers paying them off at 100 cents on the dollar? As I wrote earlier in the week, the real AIG scandal is that the company’s trading partners are getting fully paid rather than taking a haircut.

[  ]…But what were the government officials possibly thinking? The only rationale for what we should call the “hidden conduit bailout” to AIG’s trading partners is that the cascading effect of AIG’s inability to pay would have been devastating. But Goldman has now said very clearly there would have been no cascade. Not even a ripple.

Is the same true of AIG’s other counterparties, including several foreign banks? What examination of the impact of an AIG failure did federal officials undertake before deciding to spend countless billions bailing out AIG and its trading partners?

Spitzer suggests a break-up of this large ‘can’t fail’ institutions. Since the administration still has the majority of public support for whatever it does and a new fist full of cash, now would be the time. Break off that piece of AIG that owns paid or mostly paid insurance policies and start a new nationalized entity or sell them to a profitable insurance company. Joe Conason at Slate has some related concerns over just where AIG’s or rather our money is going when it gets to AIG, It’s time to reform offshore banking, and see what untaxed wealth big business is hiding in overseas tax shelters

According to the Government Accountability Office, nearly all of America’s top 100 corporations maintain subsidiaries in countries identified as tax havens. As the GAO notes, there could be reasons other than avoiding the IRS to set up branches in places such as Singapore, Luxembourg and Switzerland, where taxes are light or nonexistent and keeping clients’ illicit secrets is considered a matter of national pride.

But what reason other than evasion could there be for Goldman Sachs Group to set up three subsidiaries in Bermuda, five in Mauritius, and 15 in the Cayman Islands? Why did Countrywide Financial need two subsidiaries in Guernsey? Why did Wachovia need 18 subsidiaries in Bermuda, three in the British Virgin Islands, and 16 in the Caymans? Why did Lehman Brothers need 31 subsidiaries in the Caymans? What do Bank of America’s 59 subsidiaries in the Caymans actually do? Why does Citigroup need 427 separate subsidiaries in tax havens, including 12 in the Channel Islands, 21 in Jersey, 91 in Luxembourg, 19 in Bermuda and 90 in the Caymans?

So Republicans, the same guys that lead the anti-regulation crusade that encouraged its all about me behavior have the answers. America has to then throw up its arms and scream rinse and repeat for Conservatives to have an opening. Think about this for a minute; so far the Right have convinced themselves that Senator Chriss Dodd and Congressman Barney Frank are omnipotent gods that have been running the economy and have had utter control over Congress for the last twenty years. Are We Home Alone?

I saw Eric Cantor, a Republican House leader, on CNBC the other day, and the entire interview consisted of him trying to exploit the A.I.G. situation for partisan gain without one constructive thought. I just kept staring at him and thinking: “Do you not have kids? Do you not have a pension that you’re worried about? Do you live in some gated community where all the banks will be O.K., even if our biggest banks go under? Do you think your party automatically wins if the country loses? What are you thinking?”

If you want to guarantee that America becomes a mediocre nation, then just keep vilifying every public figure struggling to find a way out of this crisis who stumbles once…

Well Mr Friedman, that is exactly what Republicans think. They think if they just obstruct as much as possible from the sidelines they can emerge on white stallions out of a glowing white mist to save the day. The problem with that, besides their history, is a brain dead Martian opponent can claim they did more positive things for the country then Republicans, and win.

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