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Geithner's Plan Is Dead

geithnercredulous.jpgThe toxic loans portion of Tim Geithner's Public Private Investment Program looks to be officially dead:

The Federal Deposit Insurance Corp. indefinitely postponed a central element of the Obama administration’s bank rescue plan Wednesday, acknowledging that it could not persuade enough banks to sell off their bad assets.

In a move that confirmed the suspicions of many analysts, the agency called off plans to start a $1 billion pilot program this month that was intended to help banks clean up their balance sheets and eventually sell off hundreds of billions of dollars worth of troubled mortgages and other loans.

Many banks have refused to sell their loans, in part because doing so would force them to mark down the value of those loans and book big losses. Even though the government was prepared to prop up prices by offering cheap financing to investors, the prices that banks were demanding have remained far higher than the prices that investors were willing to pay.


There are two ways of understanding what happened here. The first is that banks couldn't sell their assets at current prices because doing so would have rendered them effectively insolvent. In this scenario, PPIP fails to fulfill its intended function: Saving the banks. The toxic assets survive and the banking system remains hollow and unhealthy.

The second is that banks no longer need to rush their troubled assets off their books because they're increasingly able to raise private capital, operate in a restored financial market, and wait out the last vestiges of the storm. They can, in this world, let the value of the assets rise naturally, and sell them off later. In this scenario, PPIP is no longer necessary.

In other words, this is either a sign that all is right with the world or all is much worse than Geithner thought. How's that for a definitive analysis?

(Photo credit: Richard A. Lipski -- The Washington Post Photo)

By Ezra Klein  |  June 4, 2009; 11:48 AM ET
Categories:  Financial Crisis  
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Comments

Hi Ezra-

I think it's more that the FASB recently changed the rules, and now allows banks to carry these assets at their fantasy value, not what they are actually worth. Banks don't want to take the hit to their balance sheet that selling these assets at their real value would entail.

Posted by: tom47 | June 4, 2009 12:16 PM | Report abuse

Or more likely big banks have realized Geithner will keep giving them free money if they get in trouble and can sell that to investors. The Geithner free put has made banks safe again! Moral hazard is only for the poor!

Posted by: endaround | June 4, 2009 12:27 PM | Report abuse

This looks more to me like the banks are betting that the 'too big to fail' meme will remain in place, and therefore, they have no incentive to clean up their balance sheets, since they can just come back for more help when things start to totter again. Likewise, private capital is flowing to the banks again because they see it as a quasi-guaranteed investment, because the banks are 'too big to fail'. I vote for 'much worse than Geithner thought.'

Posted by: exgovgirl | June 4, 2009 12:30 PM | Report abuse

More likely it's a sign that the plan just wouldn't have worked the way they wanted it to. And thank goodness for that, because it would have really screwed the taxpayer at the expense of private investors once again. I hope the TARP recipients repay their capital injections in short order so we can put this whole thing behind us.

Posted by: bluegrass1 | June 4, 2009 12:37 PM | Report abuse

Obama and Geithner have just lost their biggiest chance to fix these monster banks. They gave all these banks want, and got nothing out of it but pityful jokes by Jamie Dimon and the Chinese. It is so sad when we think that not only politicians or bankers but all of us will pay for this later in a very near future. How stupid this is...

Posted by: blueturtle | June 4, 2009 12:41 PM | Report abuse

What this information suggests is that it was the Paulson/Bush plan (TARP), not the Geithner/Obama plan this spring which has stabilized the banks from the crisis that developed in the financial sector last fall.

Posted by: lancediverson | June 4, 2009 2:24 PM | Report abuse

The Legacy Loan program is dead. But I'm not seeing anything that says the Legacy Securities program is dead. Maybe I missed it. If I'm right then it is an overstatement to say PPIP is dead. It may only be half dead.

Posted by: TheIncidentalEconomist | June 4, 2009 2:34 PM | Report abuse

Just waiting for the next round of previously unmentioned fraudulent doings at the banks and houses of finance. When do all those ARMs reset? How many of those people are broke and unemployed right now, increasing at over half a million a week? Lancediverson, your delusion is calling and it says it wants a candy unicorn RIGHT NOW.

Posted by: sparkplug1 | June 4, 2009 3:02 PM | Report abuse

I vote for tom, exgov, and endaround:
FASB recently changed the accounting rules to weaken mark-to-market
the plan just wouldn't have worked the way they wanted it to, anyway, and
private capital is flowing to the banks because hedge funds see it as a quasi-guaranteed investment.

Unfortunately we still have the other half of the PPP zombie over at Treasury to deal with -- government subsidization of private investor purchases of mortgage backed securities.

Posted by: pivonka571 | June 5, 2009 8:52 AM | Report abuse

One major feature of the FDIC portion of the program is that the FCIC under Shiela Bair would have run it.

Getting FDIC to take this junk would, under Bair at least, have required that the assets be restructured and revalued. These are assets - predominantly CDO's - having a toxic "legacy" of having been valued, originally, using David X. Li's "gaussian copula" function to give the illusion of a data free prediction of the default rates of different securities.

The Li "function" has been discredited as bad math, and possibly worse. But the CDO's valuation as carried by the banks is based upon the invalid function. Sale of these instruments, under the supervision of the Bair FDIC, would have (or might have, depending on how you interpret the FDIC intent) required a virtual dissassembly of the CDO packages in order that the mortgage backed securities included in them might be accurately revalued using data about each of the mortgages incorporated in them.

My feeling is that the necessary data about these mortgages necessary to would allow assignment of valid values (uncontaminated by the David X. Li gaussian copula function) either do not exist or are pretty much prima facie fraudulent. That, if as true as experienced observers believe it to be, is apt to be a significant source of resistance to subjecting these instruments to any process under the supervision of a Bair managed FDIC.

No, I will not speculate on Shiela Bair's future. I will say that whatever it is, it will likely be dispositively indicative of the integrity and long range intent of the Obama Administration for clean up - or not - of our financial system.

Posted by: pivonka571 | June 5, 2009 10:14 AM | Report abuse

pivonka571,

The Gaussian copula doesn't estimate default rates, it estimates correlation.

The Gaussian copula has absolutely not been "discredited as bad math." It was MISUSED, mostly by traders and rating agencies, but has never even come close to being "discredited."

Finally, the FDIC was only in charge of the PPIP's Legacy Loans program, which had nothing to do with CDOs (it dealt with whole loans, not securities). CDOs are dealt with by the PPIP's Legacy Securities program, which is still alive and well, and is being run by Treasury and the Fed.

So in short, you're completely and totally wrong.

Posted by: MarkJ2 | June 6, 2009 5:38 PM | Report abuse

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