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Has The Obama Administration's Banking Plan Failed?

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When Tim Geithner's Public-Private Investment Partnership (PPIP) plan was announced, it dominated commentary for a solid week. It was big, complicated, controversial, and, it seemed, important. It was the center of the administration's most important project: Rescuing the banking industry. The program to buy toxic loans received particular attention: The government's 6:1 match seemed to violate basic rules of fairness. It gave taxpayers a bit of upside but the overwhelming majority of the downside. Wall Street had gotten us into this mess by making risky investments that the rest of us ended up shouldering when they went bad, and now we were asking them to get us out by making risky investments that the rest of us promised to pay for if they proved unwise. Finance, it seemed, was a pretty sweet industry.

But when that piece of Geithner's PPIP plan died last week, it did so with a whimper. A couple of news articles. A smattering of blog posts. This was the center of a trillion dollar effort to rid the balance sheets of toxic assets, and it just....disappeared.

But that doesn't just mean the loans weren't purchased. It also means they weren't priced. That, after all, was the primary virtue of the PPIP plan: The government would pay private investors (by offering them the 6:1 financing deal) to uncover the market prices for the "legacy loans." Once the market could agree on a price for these assets, it could also agree on a form of resolution for the banks -- either the assets could be sold or the institutions nationalized.

Observers suggested there were two ways for this to go. Either the assets would be priced and sold, or they wouldn't be priced because the banks wouldn't be able to sell them without blowing a hole in their balance sheets. In that scenario, the market would have proven the banks effectively insolvent, and we could respond accordingly. Hopefully, this would all happen in tandem with the stress tests, and by the end of the process we'd know two things: Whether the banks could sell their toxic loans, and whether the banks could survive the continual worsening of the economy.

In fact, we know neither. The adverse scenario envisioned in the stress tests looks increasingly mild. The tests imagined a world in which unemployment reached 8.9 percent. Last month, unemployment reached 9.4 percent. The PPIP's loans program has died, the assets sit unpriced, but there is still no judgment as to whether that means the banks are insolvent or, conversely, in such surprisingly good condition that they can let the loans mature on their balance sheets.

In other words, it doesn't seem like we know a lot more than we knew a few months ago. The economy certainly "feels" better, and that's been enough to drain the urgency from some of these questions. But have the questions really gone away?

(photo credit: Bill O'leary -- The Washington Post Photo )

By Ezra Klein  |  June 8, 2009; 11:02 AM ET
Categories:  Financial Crisis  
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Comments

Will the Washington Post base its financial crisis commentary on objective economic data, or will it monitor the mood swings and "green shoots" synthesized by the Obama administration? Silly question.

I have never, since the Iraq invasion, seen such a gross deviation between the nonsense spouted by mainstream media like WaPo and the NYT and the much more reliable information coming out of the blogosphere.

US Economic conditions are very bad and worsening steadily. 10% of our population is on food stamps, and two of our three auto makers have just collapsed. Real unemployment, not the fantasy figures published by Washington, is close to 20% and rising. It is a demonstration of shocking irresponsibility for WaPo writers to act as propagandists for the Obama administration.

Go to the Automatic Earth blog, Mr. Klein, if you want to know what is happening to the American Economy. Then you can have some hope of functioning as an honest journalist.

Posted by: hovaness | June 8, 2009 12:24 PM | Report abuse

This is a good critical case of Geithner’s PPIP program and of the general failure in getting more transparency about toxic assets and misleading, benign unemployment rate assumptions by White House in planning the recovery strategy. However, the only reason why Market does not care for these failures is $75+ Billions private capital raised by these banks in last few weeks. As is the wont of Bull JJ Cramer, he will gleefully point out that. Market has bought on that story. At 1 to 8 ratio of First Tier Capital (I can be inaccurate here); we are talking here ability of banks to absorb $600+ Billions additional in toxic asset losses. With stabilization of housing prices, decrease in toxic asset value has stopped too. Original loss figure for toxic assets varied from $1.5 Trillion to $4 Trillion dollars. Banks have already accounted for hundreds of billions of dollars. This means, Americans banks may not be terrible off mark and may be within the ball park figure of accounting for toxic losses. Hence the mute reaction by Market for the absence of PPIP and why it will not cost politically that much to Geithner and Obama. Add to it Market’s implicit pleasure in seeing to go away yet another program of Government intervention; another boondoggle has gone.

At least that seems to be theory.

But we have got Dr. Doom back today with swagger shining his weapons – how the real danger of ‘double dip’ is something which cannot be dismissed. So hopefully that and now that Ezra Klein has started to pound the table; we will get more scrutiny of Geithner’s PPIP program.

I suspect White House and President sense that there will be renewed pressure on economic front. Hence today’s announcements about employment. That is the beast White House needs to address head on and so far nothing worth to talk about. More than failure of PPIP program, one fears if Stimulus Package itself fails to deliver in any meaningful way. Politically that will be costly because the structure of that package can be criticized validly (both from Left and Right) and the case can be made. Political antenna’s of this Administration being most competent in generation, we will expect lot of FUD from White House regarding Economic Policy. (Or maybe they have put spies on Dr. Doom so that whenever he plans to open his mouth in conferences, White House plans flurry of policy news!)

Posted by: umesh409 | June 8, 2009 12:24 PM | Report abuse

"But when that piece of Geithner's PPIP plan died last week, it did so with a whimper. A couple of news articles. A smattering of blog posts. This was the center of a trillion dollar effort to rid the balance sheets of toxic assets, and it just....disappeared. "

I suspect this is because most people in the industry, and hence most journalists who talk to those people, concluded it wouldn't amount to anything as soon as it was announced - at least on the loans side. Even the example the Treasury gave had the hypothetical loan portfolio marked well below where most banks were marking them at the time, and the credit picture has only deteriorated since then, even if the market value side has improved in some cases.

Posted by: GingerYellow | June 8, 2009 12:44 PM | Report abuse

I think Ezra's comment that the economy "feels better" -- in the week after the employment-to-population ratio reaches a new low for the millennium, the nation's largest automaker goes into bankruptcy, credit-card defaults continue rising and the "good" news is that the economy was only half a million news jobs short of equilibrium last month -- is a useful datum. It shows us just how thoroughly disconnected the chattering classes in Washington (and our nominal representatives) are from reality.

I don't know if even a shantytown on the Mall would get their attention for more than the few minutes it would take to write an article calling on the army to disperse those unaesthetic hicks.

Posted by: paul314 | June 8, 2009 1:02 PM | Report abuse

The fact that the death of PPIP did not create a media stir, shows that the PPIP as with much of the government's actions, was designed not to take care of the toxic asset problem, but to build confidence.

We continue to have a finance system marked by lack of transparency, and suspect to insider gaming of prices and capital flow. As long as appearances look good, the media, along with the public mood, gets easily placated. But we do not really know the underlying facts on which the stability of the financial system rests. And our journalists are not about to root this out for mass consumption.

Do we need to know? Should we keep up the pretense of a fair and equitable financial market system? Why does so much information that clearly affects the public interest need to be kept secret?

The bigger question really is, what kind of a financial system do we have, which cannot survive a healthy dose of sunlight into its activities? Despite all our regulation, it seems the raw speculators are really in control of our destinies.

Posted by: AgentG | June 8, 2009 1:07 PM | Report abuse

Maybe if our President would stay in Washington for three or four straight days and actually manage his economic team of thousands we might start seeing some more positive results.

But I guess dining on foie gras with Michelle in Paris is more important than 15 million Americans out of work.

Posted by: rkinneypa | June 8, 2009 2:06 PM | Report abuse

Banks were smaller, no branches in Oklahoma at least. There were what was called anti-trust laws preventing them from becoming too big-too big to fail. It worked. What happened? Were large campaign contributions involved? Why were those questionable derivatives investments allowed? Campaign contributions? We elect too many people because of their political party only and leave them so long hey start thinking they are little gods.

Posted by: 1uncle | June 8, 2009 2:08 PM | Report abuse

If no one will buy the loans without the government sweetening the pot on our backs, then those loans are worth nothing.

Simple as that. They're worthless, flush them, the banks holding them are all insolvent.

Posted by: toiletminded | June 8, 2009 2:11 PM | Report abuse

I'm pretty sure that the adverse scenario tests imagined a world in which the unemployment rate averaged 8.9% for 2009 NOT that the unemployment rate would merely reach 8.9%, as Mr. Klein suggests. While this fact does not destroy Mr. Klein's analysis entirely, it weakens it somewhat. Normally, a correction would be in order.

Posted by: patroclus | June 8, 2009 2:55 PM | Report abuse

Washington basically torpedoed this plan when they forced FASB to back off of mark-to-market. The banks are now carrying the assets at significantly above market value. They have one year to get something done before FASB forces the banks to bring those assets onto the balance sheet.

Posted by: leshoro | June 8, 2009 3:03 PM | Report abuse

What is needed is new perspective, new ideas, new ethics. Sadly, these are all in short supply at the firms listed above.

One thing is certain. You will not profit. You will, however, be left with the bill.

Who will profit from PPIP?
See: http://twisri.blogspot.com/2009/03/who-will-profit-from-ppip.html

Adam Smith on the Current Financial Crisis
http://twisri.blogspot.com/2009/04/adam-smith-on-current-financial-crisis.html

Why the market failed
http://twisri.blogspot.com/2009/03/why-market-failed.html

Posted by: billycdc | June 8, 2009 3:09 PM | Report abuse

Well, let's see.

Out here in the real world, I've been unemployed since October 2008. That's eight months, folks!

And although I recently found a part-time job with promise, it's not enough, my savings is evaporating, and I'm wholly without health insurance. So, no, actually, the economy doesn't "feel" better from where I'm sitting in southwestern Ohio.

If anything, it feels worse.

Posted by: CincyJen | June 8, 2009 3:15 PM | Report abuse

toiletminded: The problem is the banks holding the toxic asset are not putting them up for bids, not that no one is bidding. They are claiming that even with the govt financing the sales, they would sell for much less than they are actually worth - So I don't believe them either, but that is what they are claiming.

Posted by: bobinfla | June 8, 2009 6:22 PM | Report abuse

You've got the tense wrong. Getting banks back into a position to engage in interbank lending means that if we should have a strong recovery, banks will be in a position to support that. And that will permit us to grow away from the over-reliance on capital markets as opposed to the banking sector ... and even worse, on banks acting like capital market middlemen rather than acting like banks.

However, that is future tense success. A dead cat bounce recovery and another steep and rapid slide in GDP and we'll see bank failures accelerate again and the whole thing likely fall apart like a house of cards.

But there's not really anything that can prevent massive financial distress if we are in fact going to have a dead cat bounce recovery and then a second recession, ensuring that we have a Second Great Depression. Nothing we could have actually done instead would prevent financial catastrophe in those circumstances, so it would be unwarranted to trace that risk to a specific policy. Obama's policy will fail in the face of that, as would any of the available alternatives, including a Swedish style nationalization.

Posted by: BruceMcF | June 8, 2009 9:53 PM | Report abuse

One interesting possibility is to raise corporate taxes on banks and other financial companies. This would let them write off their losses and use the loss carry forward to shelter current income up to a certain level. The government would help cushion and spread the blow, and this would eliminate the need to carry mystery assets indefinitely.

Posted by: earther | June 8, 2009 11:57 PM | Report abuse

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