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NATIONALIZE!
When the Bailout Bill was being debated, there were basically two schools of thought on what needed to be done to save the financial sector. One school argued that there were so many bad assets and such imperfect knowledge of who held them that the markets had frozen out of fear and uncertainty. People were afraid to trade because they felt their information incomplete, and thus were unsure if they were making good decisions. As analogy, imagine a lot of people standing in line for iPods, but a rumor spreads suggesting that much of the store's stock is defective. The folks have the money. But they're unwilling to use it because they're uncertain that the product is sound. This was the argument made by Paulson and Bernanke, and the supposed fix was that the government would purchase the bad assets and that would unfreeze the market.
Then there was a second argument, made by a lot of liberal economists (notably Paul Krugman and Jamie Galbraith) who said that the problem was not simply that the markets were frozen but that the banks were undercapitalized. Many of these institutions had an absurdly high ratio of debt-to-dollars. In some cases, the ratio was as high as $33 of debt for every single dollar on hand. This left them extremely vulnerable to a market panic. They owed a lot more than they could possibly pay back at once. And given that we were undoubtedly entering into a period of panic, they were going to need to be directly capitalized. The government was going to have to give them money to cover their debt. Spending a lot of time dithering over which assets to purchase was stupid. Instead, the government should do the simple thing: Give them the money required to survive the rush. But that would mean buying stock, which would mean essentially taking over these companies. Not permanently -- they stock would be sold over time, hopefully at a profit -- but temporarily.
Congress basically agreed with both camps. They gave Treasury the authority to buy troubled assets and they gave Treasury the authority to pump money into troubled institutions directly in return for an equity stake. It would be up to the program's administrator to decide which power they'd use. Most observers believed that so long as Bush was in office, the asset purchasing power would be used, and the equity provision was included because a future Democrat might want it, and the Democratic base would have howled if the legislation hadn't included it. But as Justin Fox says, in the last two days, Bernanke and Paulson have both hinted that they're going to begin using that authority. Paulson was particularly blunt: "The [bill] empowers Treasury to use up to $700 billion to inject capital into financial institutions, to purchase or insure mortgage assets, and to purchase any other troubled assets that the Treasury and the Federal Reserve deem necessary to promote financial market stability." You'll notice injections of capital came first. Asset buys came last. A few moments later, he underscored the point: "We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalization of financial institutions of every size."
Which suggests they're not only coming around to the view of Krugman, Galbraith, and others, but trying to telegraph the epiphany in order to increase investor confidence. The message is simple: We get it. Buying up assets isn't enough. We're going to have to start buying companies, because the US government is the only institution that has confidence from investors and is in a position to back these banks. And if you want even more evidence of how rapidly the ground is shifting, even The Wall Street Journal is arguing for nationalization. "Now might be a good time to take Treasury Secretary Hank Paulson's new powers out for a spin," they wrote. As Steve Waldman puts it in an excellent post, we're in a moment when the truly capitalist thing to do is nationalize. In times of crisis, solutions that once seemed radical become simply pragmatic.
COMMENTS (17)
It only took them three weeks. If he puts aside the whole save Goldman Sachs thing, we might get somewhere.
max
['My view of them would improve.']
Posted by: max | October 8, 2008 11:27 PM
We live in strange times.
Posted by: djw | October 8, 2008 11:38 PM
ayn rand would be proud...
Posted by: vchagz | October 8, 2008 11:47 PM
Woooo! I get to own more banks! At low prices, too.
Posted by: Neil the Ethical Werewolf | October 9, 2008 12:30 AM
This is why I get along with (most) of the Republicans with whom I work in the financial services business (my company's okay, but we will be laying off eventually -- it might be my turn, for all I know, them's the breaks): the good ones know when to turn ideology off and do the right thing, and that time is 7AM when you wake up and get ready to go to work. Bernanke and Paulson may be conservative enough to get appointed by this administration, but neither is an idiot. At this point, you need the multiplier effect of recapitalization.
It's to the Treasury's and the Fed's credit that they're spitting on the House GOP's grave like this.
Posted by: wcw | October 9, 2008 1:21 AM
Bully!
I was telling my wife last month that we should have bought a bank last year instead of a house. Who knew I would get to live that dream so soon. Maybe now, as an 'offical owner', my family can sleep in their ATM foyer.
Posted by: Jay Severin Has A Small Pen1s | October 9, 2008 1:44 AM
And the Obomination Administration will complete the last few formal steps toward nationalizing the press too....
Posted by: Ministry of Truth | October 9, 2008 1:59 AM
Wow -- you kids miss FDR more than my wife's 94-year-old great uncle.
Try to remember what FDR did to your party for the next forty years.
Posted by: wcw | October 9, 2008 2:38 AM
MoT: Uh... what? Seriously, non sequitor much? If you're going to whine about how the nasty liberals are going to... do... something horrible but vaguely defined, shouldn't it involve words like 'socialism' and 'communism' and stuff like that?
Posted by: NBarnes | October 9, 2008 2:39 AM
FDR kicked Hitler and Tojo's ass at the same time and laid the foundations for a half century (and counting!) of economic growth that the world has rarely seen. FDR is made of pure win and could kick Chuck Norris' ass even though he can't stand up out of his wheelchair. And is dead.
Posted by: NBarnes | October 9, 2008 2:42 AM
I can't wait 'til the next Washington Post / NYT / WSJ editorial blasting Hugo Chavez for his crazy nationalizations of purchasing vital national industries. Damn that scalawag! Doesn't he appreciate Freedom and the Market?
Posted by: El Cid | October 9, 2008 7:28 AM
Although following up on your earlier post about the boneheaded politics the Bush administration used in rolling out the plan, some people at the Treasury still don't seem to get it. Buried at the bottom of today's front page NYTimes story is this little graf:
"Fed officials increasingly talk about the challenge they face with a phrase that President Bush used in another context: “regime change.”
This regime change refers to a change in the economic environment so radical that, at least for a while, economic policy makers will need to suspend what are usually sacred principles: minimal interference in free markets, gradualism and predictability."
I'm not an economist, so maybe that's a genuine term of art, but isn't it the last one the Bush administration should be using right now to describe the capital injections?
I mean, why not just have President Bush do a press conference and declare and say, "If there are banks that need capital, bring 'em on, because Hank Paulson is doing a heckuva job, and with him at the helm, we can say 'mission accomplished' in our efforts to solve our financial crisis."
Posted by: Anon. | October 9, 2008 10:14 AM
Ugh.
This sounds horrible to me. Crazy bad, like Nixon's wage and price controls. I hope I'm wrong. Seriously.
"Ooops! I've just stabbed myself!"
"Perhaps you should put a bandage on that, and let it heal."
"No, no! That's crazy. I'll put the knife in at a 45 degree angle. That'll fix it!"
"What?"
"Hmmm. Better stab myself in the eye, just to make sure the pressure is released. That's sure to help."
"Huh?"
"Almost . . . better . . . all that's left to do . . . is shove this machete up my ass . . . "
"All right, I'm leaving."
Would Republicans have cooperated with this kind of nationalization--and general putting out the fire with gasoline--if this was a Kerry administration? I think not.
Posted by: Kevin S. Willis | October 9, 2008 10:45 AM
All of this rush to socialism will do little other than stave off the inevitable day or reckoning for a while. They just don't have that power just as FDR didn't. While the rest of the world recovered from the depression long before the US, FDR's policies exacerbated the depression.
If you are in a house with no heat, you don't burn it down to be comfortable for a short while. In the end, you are worse off and in the end, we will also be worse off
Posted by: El Viajero | October 9, 2008 10:48 AM
Imagine if the IRS would collect your mortgage. Brutal I would not wish that on my worst enemy. That would get a lot of people out of debt quick.
Posted by: floccina | October 9, 2008 12:18 PM
All of this rush to socialism will do little other than stave off the inevitable day or reckoning for a while.
El Viajero: there have been lots of banking system rescues undertaken around the world in the last several decades -- I think something like forty IIRC. Those of the capital-injection method have worked better than the toxic-asset-purchase approach. There's no reason it can't work this time around. And absolutely nobody wants the government to own equity stakes in banks permanently. In due course the shares will be sold. Your feverish nightmares of a USSR-A will have to wait.
Posted by: Jasper | October 9, 2008 12:56 PM
This sounds horrible to me. Crazy bad, like Nixon's wage and price controls. I hope I'm wrong. Seriously.
Kevin S. Willis: Would you really prefer the government to follow Paulson's original approach? If you know anything about accounting principles, you'll be aware that banks can't become recapitalized via an asset sale unless they're able to book a profit on the sale of said assets -- unless the government overpays for them, in other words. I would think a conservative would much prefer the straight equity purchase approach because it's much cheaper for the taxpayers, because it provides much better bang for the buck.
(But let me guess: you've got enough bullets and canned goods stocked away to enable you to favor a "do nothing" approach, correct?).
Reports of the Paulson pivot toward the Anglo-Swedish approach to financial system rescue is the best news I've heard in many weeks, and I finally believe there's now legitimate cause for optimism.
Posted by: Jasper | October 9, 2008 1:04 PM