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The OTHER Reason SonofaBirch and Biden would result in a McCain victory

No matter who “won.”

Anyone who knows the phrase “think at the margin”—with or without the differential calculus and comparative statics—would have predicted that the Bankruptcy Bill (a.k.a. The Ken Lewis Retirement Subsidy Act) would damage to the economy when it was least able to survive the damage.

What no one knew for certain was how much:

According to [a BusinessWeek] article, this year, 15 retailers with assets of $100 million or more have filed for Chapter 11 protection, and almost all that filed in the first three months of the year have rapidly liquidated. Compare that outcome with Professor Lynn LoPucki’s research showing that in the 20 years prior to 2005, only 41% of the 94 retailers that filed for bankruptcy went out of business, with Kmart, Winn-Dixie Stores, and Macy’s being among those that emerged successfully from the process.

The difference between retail sales and banks is that there is no “Fed discount window” for retail. Indeed, quite the opposite:

All filers are covered by the new bankruptcy law, but the changes were particularly harsh on retailers. For companies that already are short of cash—and, in the current environment, unlikely to find new financing—these new provisions in the law can amount to a death sentence. “Liquidity is sucked out of the debtor in a way that it becomes hard to survive,” says Lawrence Gottlieb, chair of the bankruptcy and restructuring practice at New York law firm Cooley Godward Kronish, who has represented creditors’ committees in the bankruptcies of Sharper Image and Linens ‘n Things.

The idea of being able to borrow from the Fed is that that money then gets put back into circulation, supporting the economy (think “multiplier effect”). Otherwise, it just becomes inflationary. Which appears to be what is happening.

It was bad enough that consumers (most of whom file bankrutcy after health events, which may or may not be associated with a loss of employment) face a tougher row to hoe; the gaping holes that used to be large retail stores (think CompUSA) will be even more difficult to fill.

Many of the “mall owners, suppliers, and utility companies” who wanted the changes in the corporate bankruptcy bill made may be thinking of the old proverb: “Be careful what you wish for. You may get it.”

The WSJ Editorial Page: Fumbling Toward Accuracy II

The editors of the WSJ agree with Brad DeLong that the Fannie/Freddie problem is that their short-term cash flows may be(come) impaired:

The most immediate danger is that investors will shrink from rolling over the debt of the two companies, leading to a run a la Bear Stearns….With so much on the line, we’ve been suggesting that Treasury and Congress step up now with a public capital injection to help [Fannie Mae and Freddie Mac] ride out their losses.

So let me see. The solution to avoiding spending taxpayer monies is…spending taxpayer monies? Let’s see how quickly they backtrack:

Yes, this would mean putting some taxpayer cash up front, but in the cause of avoiding the far greater risk of a collapse or Bear-like run. If the capital injection was made in the form of a subordinated debt or preferred stock offer, taxpayers would get a stake in the companies and some return on their investment once the crisis passes.

Isn’t this usually what gets done in the “free market”? In fact, iirc, The Big C has done this a few times recently.* Why should FNMA and FHLMC be different?

We haven’t suddenly become socialists. What taxpayers need to understand is that Fannie and Freddie already practice socialism, albeit of the dishonest kind. Their profit is privatized but their risk is socialized. We’re proposing a more honest form of socialism, with the prospect of long-term reform. [emphasis mine]

The above paragraph is something I could have written. And probably have. And it only gets better:

In return for putting up the cash, the taxpayers would also need some reassurance that this Fan and Fred debacle couldn’t happen again. Thus their regulator would need the power to shrink their portfolios of mortgage-backed securities that have made them such high-risk monsters, and ultimately to wind the companies down. Apart from outright failure, the worst scenario would be a capital injection that left the companies free to commit the same mayhem all over again two or 10 years from now.

You got it, folks. The WSJ has just come out in favor of (1) a government bailout and (2) more regulation of, effectively, an industry.**

But wait. Did you catch the shift? Let’s try it again:

Thus their regulator would need the power to shrink their portfolios of mortgage-backed securities that have made them such high-risk monsters, and ultimately to wind the companies down.

Whoop, there it is! Same old WSJ. Save the mortgage market just to destroy it. Which must be why, since (see the DeLong link above) Fannie and Freddie are solvent in the long-term, they go on to object to one option:

On Friday, Senate Banking Chairman Christopher Dodd (D., Conn.) declared that Fannie and Freddie are “fundamentally strong,” that fears about their capital are overwrought, and that “this is not a time to be panicking about this. These are viable, strong institutions.” Yet he also said that one option under discussion is to let the two companies borrow from the Federal Reserve’s discount window.

Let’s see. We have a short-term cash flow issue that may arise. Two possible solutions are: (1) ensure that the firms have a borrowing line available that is both higher than the FedFunds rate*** and perfectly in keeping with the implicit guarantee of their loans or (2) add some cash now, but with the goal of eliminating the firms, probably just about the time the U.S. housing market starts to recover.

If that second is the case, will their auditors be allowed to say, “Since you don’t intend this to be an ongoing concern, we aren’t going to bother to dig too deeply?”

The WSJ piece ends with a classic “disregard what we’ve said for the past several years, especially the David Malpass and Larry Kudlow editorials”:

If there’s any other good news in all this, it is that the scandal of Fannie and Freddie is at last coming into public focus. The Washington political class has nurtured and subsidized these financial beasts for decades in return for their campaign cash and lobbying support. Wall Street and the homebuilders also cashed in on the subsidized business, and also paid back Congress in cash and carry.

The losers have been the taxpayers, who will now have to pay the price for this collusion. Maybe the press corps will even start reporting how this vast confidence game could happen.

Dear Press Corps: please start by examining the WSJ’s continual “everything is good because house values keep appreciating” pieces.

*Yes, I know they have. Just don’t have time to find links now.
**Since Fannie and Freddie-backed mortgages make up a large majority of the industry; op. cit. here.
***I’ll stop making fun of the “Discount” Rate when it goes back to being a Discount Rate. Possibly, the next President will be sane.

Before netting, before zero sum ownership society

Numbers work in Credit Crisis for Kindergartners. .

Alice
Assets
Physical marbles: 4
Marbles promised from Bob: 0
Marbles promised from Sue: 2
Total assets: 6

Liabilities
Marbles owed to Bob: 7
Marbles owed to Sue: 18
Total liabilities: 25

Equity: -19

——————————————————————————–
Bob
Assets

Physical marbles: 6
Marbles promised from Alice: 7
Marbles promised from Sue: 1
Total assets: 14

Liabilities
Marbles owed to Alice: 0
Marbles owed to Sue: 2
Total liabilities: 2

Equity: 12

——————————————————————————–
Sue
Assets

Physical marbles: 0
Marbles promised from Alice: 18
Marbles promised from Bob: 2
Total assets: 20

Liabilities
Marbles owed to Alice: 2
Marbles owed to Bob: 1
Total liabilities: 3

Equity: 17

If you trade for promises, then accounting in the short run does not matter. If you take 5 of the real marbles and get a bike, that is real…5 out of the 40 makes sense until margin calls.

Most of us think we actually own the houses we live in. Some of us do if we pay our taxes. Most of us think that when we have cash in our pockets, even borrowed, we are moneyed. I think the parents remained unaware of the trades because they were out charging fine dinner and wine meals, or considered it cute, or wonderfully precocious, and not affecting the real economy. Partly true, but nobody is happy.

‘Party on’ irony

CNN money points to pushback from non-US banks simply refusing to have a BS counterparty. Seems they were simply refusing to stay at the party.

It’s unclear what exactly started Bear Stearns’ nightmare this week. Veteran repurchase agreement traders told Fortune.com that a major European bank last week refused to accept Bear Stearns as a counterparty to a large swap trade. By late Monday and early Tuesday, traders at hedge funds told Fortune that they were being charged a premium by the swaps desks at Deutsche Bank (DB), UBS (UBS) and Citigroup (C, Fortune 500) to execute trades with Bear Stearns as the counterparty or which involved its credit.

The bottom fell out on Thursday, Bear Stearns CFO Molinaro told investors. The demands for cash came from counterparties as well as hedge fund clients who wanted to close out their prime brokerage accounts. The market voted with its feet and wallets.

Bail or re-sell after the bums are kicked out?

NYT sells bailout story with no alternatives:

“You get to where people can’t trade with each other,” said James L. Melcher, president of Balestra Capital, a hedge fund based in New York. “If the Fed hadn’t acted this morning and Bear did default on its obligations, then that could have triggered a very widespread panic and potentially a collapse of the financial system.”

Already, investors are considering whether another firm might face financial problems. The price for insuring Lehman Brothers’ debt jumped to $478 per $10,000 in bonds on Friday afternoon, from $385 in the morning, according to Thomson Financial. The cost for Bear debt was up to $830, from $530.

Dean Baker reminds us:

According to the current plans being crafted in Washington, you will. Bear Stearns, one of the longstanding giants of Wall Street investment banking, is now on life support, the victim of its own excessive greed and bad judgment. Apparently, the wizards who run the show at Bear Stearns (I will resist the temptation to us initials) somehow couldn’t see an $8 trillion housing bubble in the US economy. They made highly leveraged bets on assets backed by mortgages.
….

If they can’t get away with the “no bailout” nonsense, the Wall Street welfare boys will then try the route of claiming we have to bail them out in order to prevent the whole financial system from collapsing. Such a collapse could turn the recession into a depression leaving millions unemployed for years.
This is also nonsense. We know how to keep banks operating even as they go into bankruptcy. England just did this with Northern Rock, a major bank that managed to get itself into huge trouble because of its holding of bad mortgage debt. After it was clear the bank was insolvent, the Bank of England stepped in and essentially took over the bank. It replaced the incompetent managers who had ruined the bank and brought in a new team to straighten out the books. The plan is to resell the bank to the private sector once the books are in order.

In the meantime, the bank keeps operating. The depositors can continue to make deposits and withdrawals just as before. This prevents any chain reaction from bringing down the financial system.

The difference between the Northern Rock route and what happened with Bear Stearns last week is that in the Northern Rock, the highly paid managers that ruined the bank are sent packing. Similarly, the shareholders will get little or nothing. They own a bankrupt company; why should the government give them money?

As the financial crisis deepens, it is important the public realize the distinction between what the Bank of England did with Northern Rock and the handout from the Fed to Bear Stearns. There are other banks in serious trouble that are also looking to the Fed for help.

The best thing the Fed can do is to go the Northern Rock route. Instead of giving more money to troubled banks, it should give less. It should end the Term Auction Facility and other special mechanisms for injecting money into banks. The economy will recover quickest if we let the banks and the bankers get the full benefit of their own bad judgment. When they have written down their bad debts and are taken over by new management, the banks will again be able to play a productive role in financing growth.

Has it begun?

The NYT reports on the Fed, Bears Stearns valuation, and interventions.

The Fed, working closely with bank regulators and the Treasury Department, raced to complete the deal Sunday night in order to prevent investors from panicking on Monday about the ability of Bear Stearns to make good on billions of dollars in trading commitments.

In a potentially even bigger move, the Federal Reserve also announced its biggest commitment yet to lend money to struggling investment banks. The central bank said its new lending program would make money available to the 20 large investment banks that serve as “primary dealers” and trade Treasury securities directly with the Fed.

Much like a $200 billion loan program the Fed announced last Tuesday, this program will essentially allow the government to hold as collateral a wide variety of investments that include hard-to-sell securities backed by mortgages. But Fed officials told reporters on Sunday night that the new program would have no limit on the amount of money that can be borrowed.

Text of FED statement

Hedge Fund implode-meter for broker dealers insolvency issues (much less liquidity).

Bloomberg dollar watch

Marketwatch Dow Jones

World Exchanges(MG link)

CNN money (MG link)

There certainly is a lot happening. Bear Stearns sold at $2/share. Another quarter point dropped on the interstate bankrate. Unlimited borrowing being authorized to ‘market participants’ and ‘primary dealers’ from the Fed.

How are reasonable arguments even in the running? I sure hope it works. The whiplash in other areas is sure to be wicked.