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"…the great banking crisis of 2008 is over" says Time CNN

rdan

Well, there you go. And all that fuss for naught. (bolding is mine)

Time CNN declares:

Investors find it disconcerting to see the stocks in the huge financial institutions that are at the foundation of the global capital system trading up and down 25% a day, and, in some cases trading in the pennies. Banks became the visible and ugly wound that reminded Wall St. each day that it had torn down what it spent decades building, which was a money-making machine driven by leverage and the cleverest synthetic financial instruments the world has ever seen.

Wells Fargo’s big profits, and what that means for the financial system

But, the great banking crisis of 2008 is over. It began last September 15 when Lehman Brothers filed for bankruptcy and bottomed when Citigroup (C) traded below $1 last month. Most analysts believe that mortgage-backed securities which included packages of subprime home loans failed when mortgage default rates went up and housing prices raced down. That is only partially true. Banks made a tremendous series of ill-advised loans to private equity firms, hedge funds, commercial real estate holders, and the average man with a credit card balance which he cannot pay. (See pictures of the top 10 scared traders.)

When people look back on the near-collapse of the banking system they may say that the Congress and Henry Paulson threw enough money into the path of the oncoming failure of the credit system to slow it down so that the government could properly go through the process of guaranteeing parts of the balance sheets of firms including Citigroup (C) and Bank of America (BAC). The initial TARP may also have provided time for the new Administration to put together its widely hailed bank “stress test” program meant to determine which of the big financial institutions have dysentery and which do not. Finally, the hundreds of billions of dollars that went into the largest banks late last year allowed Secretary Geithner to produce his public/private partnership to buy toxic assets off of bank balance sheets.

All of those plans, no matter how well-intentioned they may seem, are unnecessary now. Wells Fargo (WFC) indicated that it made about $3 billion in the first quarter of the year and declared its buyout of the deeply troubled Wachovia to be a success. Wells Fargo (WFC) said that the low cost of money from the government combined with a surging demand for mortgages was all the medicine that it required.

Banks stocks reacted to the news, which took the markets completely by surprise, by driving up Wells Fargo’s stock by 32%. Bank of America (BAC) shares jumped 35%.

Oddly absent from the discussion of how well Wells Fargo did is why the government was in the midst of testing bank balance sheets at all. The experts at the Treasury had been thrown off the scent and consequently had missed the fact that there was not need to test what is already working well. The same holds true for the Geithner plan to take toxic assets off bank balance sheets. It is academic now. What banks are earning from the difference between the cost of capital and the income from lending is now great enough for the banking system to be self-sustaining again.

UPDATE: Via Paul Krugman, don’t look behind the curtain of Wells Fargo’s “profits,” unless you want to see what a finance wizard really looks like. –klh

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"Battles" Does Not Mean What You Think It Does

Headline from the Christian Science Monitor: “As G-20 battles protectionism, a cautionary tale in Ecuador” [emphasis mine]

Subhead for that same article: “The country has put steep tariffs on an array of goods. Seventeen of the world’s 20 largest economies have broken recent promises not to take protectionist measures.” [emphasis mine]

Presumably, the other three were smart enough not to make such a stupid promise in the first place.

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Bonaventura Anselm and Kaus

Robert Waldmann

What can we learn from really bad arguments ?

I think it is useful to examine plainly invalid arguments, because the error in thought which they grossly manifest might contaminate less obviously idiotic contributions to the discussion.

A few arguments are so dumb that they have remained fixed in my mind. Most of them are not due to Mickey Kaus, but two are. They illustrate the same fallacy. I discuss one here.

The other is Mickey Kaus’s argument that liberals should not concern themselves with inequality of income. After the jump, I will critique my recollection of this argument.

Update: I appear to have inadvertantly slandered St Bonaventura (more often spelled Bonaventure by people who don’t live in Italy) when I compared his reasoning to Kaus’s. St B might thank mALACLYPSE in comments.

IIRC Kaus argued that there is clearly an increasing trend in income inequality in developed countries. He was struck, in particular, by the fact, that inequality had increased in Sweden so the change in income inequality over the preceding 10 years had been positive in both Sweden and the USA, which have notably different approaches to dealing with inequality.

Then Kaus implicitly assumed that all positive numbers are approximately equal and concluded that the evidence proved that there was nothing much to be done about increasing income inequality and that we should just accept it as inevitable.

Anyone who reads this paper (warning pdf), must notice that the argument is, shall we say, not proven by evidence which became available after Kaus made his argument and implicit prediction. There aren’t developed countries in which inequality has declined much in recent decades, but there are developed countries in which measured inequality hasn’t increased noticeably. The increase in the USA is clearly extraordinary.

In any case, an argument based on the assumption that all positive numbers are approximately equal is worthless (note I resisted the temptation to write “approximately worthless”).

The total worthlessness of Kaus’s argument becomes, if possible, more obvious, if we consider how he might have argued if the data had been different. Equally valid (that is worthless) arguments can be made for not trying to do anything about income inequality if it is clearly trending up, clearly trending down or has no clear trend. In fact, the argument for not bothering based on the clear widespread downward trend (up until the 70’s roughly) was much more convincing that Kaus’s. If inequality in market economies trends down, then we might hope that it will more or less vanish (it can’t be less than zero). So why worry ?

The argument based on the absence of a clear trend actually has a noble pedigree. Pareto argued, based on the fact that he found no clear trend in inequality, that it is a social constant and will always be about the same. Therefore he concluded there wasn’t much point trying to do anything about it.

Now if there are three possibilities and they all imply the same highly controversial conclusion via arguments of clearly similar validity, we should guess that all three are of roughly zero validity.

The more recent example of an clearly invalid argument from Kaus, teaches us nothing new about reasoning. It just shows that Kaus still relies on the assumption that all positive numbers are approximately equal.

I haven’t actually read many arguments made by Kaus (after the first I encountered which is the one discussed above, I decided it wasn’t good for my health). So, I’ve read a few, certainly less than 10 (my honest guess is at most 3) and, it seems to me, that two of them develop the implications of the assumption that all postive numbers are approximately equal.

I conclude that Kaus really thinks that way, and sees nothing wrong with the assumption.

I am not exaggerating. This is my sincere opinion, expressed without hyperbole, and held with considerable confidence.

For another example, 30 years ago, I tried to figure out what was wrong with the ontological proof of the existence of God made by Saint Bonaventura Anselm based on a possibly unfair translation which begins with a definition of the word “God”

God n. A being more sublime than any other conceivable being.

Then proceeds to note that if God did not exist, then it would be possible to conceive of a being which had all of God’s other sublime characteristics and further more had the characteristic of “existence”. This contradicts the definition of God. Therefore God exists.

Now even assuming for the sake of argument, that God does in fact exist, there is clearly something wrong with this argument. One has to wonder whether the same thing is also wrong with arguments that have convinced one. I didn’t get very far in my effort to figure out what was wrong with the argument, but there was this guy named Willard Quine who did and wrote the arguments down in this little book “From a Logical Point of View.”

There are two problems. First, the general rule of debate is that people are allowed to define terms. At most, they may be prevented from redefining an existing word and forced to define a neologism (so Bonaventura St. Anselm would only prove the existence of the most sublime conceivable being God2 if the word “God” was taken). This general rule is no good, as definitions are not necessarily “innocent”. We can’t allow people the authority to just state a definition, because such a statement may have implications which are false. Here Bonaventura St. Anselm is defining “God” and defining “sublime” so that “existence” is one form of sublimity.

Instead, we might hope to make rules for defining terms such that only innocent definitions — definitions which can’t be false statements — are allowed. Quine’s main point (I’m told) is to conclude that this effort had failed and we’d just have to risk falling for BonaventurAnselmian arguments.

The other problem is that “existence” is not a characteristic like other characteristics. “Pegasus exists” is not a statement like “Pegasus flies.” The grammatic similarity hides a fundamental difference. Pegasus can’t fly without existing. All statements about mythical or hypothetical entities (including statements which are true by definition including uhm definitions) must be phrased in the form “if Pegasus were to exist then Pegasus would be a winged horse.” A simpler rule, which works just as well, is to require all definitions to be of that form so we can define “Life” by “If life exists it would be the notional trait shared by all things that grow and reproduce” without expressing a view as to the existence or non existence of at least one living thing.

Why that works rather well. Bonaventura would be rewritten as having proven “If God exists then God exists”.

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Reads of the Day for the start of 2009

All (somewhat***) via Mark Thoma:

Thomas Frank in the WSJ tells me why I always disagree with Robert (and the Other Economists) on the role of rating agencies:

And who makes sure that Moody’s and its competitors downgrade what deserves to be downgraded? In 1999 the obvious answer would have been: the market, with its fantastic self-regulating powers.

If you look at the spreads of various debt products, you can see that the market was doing that type of job even in 2007. For instance, the debt market priced [“rated”] Bear Stearns’s five-year bond issue in August 2007 at 245 over: rather closer to “junk” status than its rating would have implied. If you compare the debt and stock markets, it’s easy to see which is closer to “rating.” Unfortunately, the area where information is more valuable* is not the one discussed and understood in the press, where BSC kept trading up for several more months.

If a market “regulates” but no one notices, does it make the WSJ?

Brad Setser finishes the destruction of Tyler Cowen’s LTCM “argument” begun by Buce, while revealing its underbelly:

The big banks called to the New York Fed were the creditors of LTCM and they were in some sense “bailed-in.” To avoid taking losses on the credit that they had extended to LTCM, they had to pony up and recapitalize LTCM. [footnoted exception for BSC]

It just so happened that the market recovered and it was possible for LTCM to exit many of its positions without taking large losses, or in some cases any losses. The banks that took control of LTCM when LTCM was on the ropes were able to unwind LTCM’s portfolio in a way that didn’t result in additional losses. But the result Cowen desired — large losses for the banks and broker-dealers who provided credit to LTCM – was quite possible if LTCM’s assets weren’t sufficient to cover all its liabilities. No creditor of LTCM was able to get rid of its exposure as a result of the Fed’s actions. [emphases mine]

It used to be a standard rule that if you wanted to bury something in a newspaper, you published it on a Friday, or the day before a holiday. This seems to be what the NYT is doing with Casey Mulligan (previously discussed here here), who dropped the other shoe yesterday and was, amazingly, worse than expected. PGL at Econospeak does the read and calls out the deed:

Mulligan is essentially saying that those poor saps who have lost their jobs actually quit so they can game the mortgage system. In other words, there is no such thing as involuntary unemployment or being forced to either lose one’s home versus enter into one of these mortgage modification programs.

As noted in the WaPo two weeks ago (via Stan Collender at Capital Gains and Games),** qualifying for the “mortgage modification” program (i.e., reducing the principal on your loan to not more than 90% of the current market value) is an onerous task:

He was hoping he could qualify for the federal government’s Hope for Homeowners program, which allows the Federal Housing Administration to insure a new mortgage if the lender voluntarily writes down the mortgage principal to 90 percent of the new value of the home. But when he asked his bank about that, he was told he would have to be on the brink of foreclosure or have an adjustable-rate mortgage.

So Mulligan is basically blaming (1) those whose ability to keep their home depended on keeping their job and (2) those who took Alan Greenspan’s venal advice to go into ARMs just at the point at which he started raising rates. Class act.

And, finally, lest you think I’m always bashing Tyler Cowen, he notes a phenomenon in chess and suggests a reasonable conclusion:

I also see a general principle operating: the more exact a “science” the game becomes, the smaller is the value of accumulated experience relative to sheer skill.

The sheer is dicey, but the identification of the shift in proportionality may be accurate, and probably has applications in economics as well.

*The debt market is less liquid and therefore considers information more valuable. This is effectively the corollary of the DeLong, Shliefer, Summers and Waldmann papers: if you can’t depend on momentum trading, you take more care not to be the “greater fool.”

**Yes, I saw the Collender-bashing in my previous post. I’ve said before that CG&G became significantly less readable after the election, and am foolishly optimistic enough to believe that they may be returning to rationality. Besides, he happened to be correct: any given from increased military spending is definitionally no better (and likely worse) than spending the same amount on public infrastructure.

***I read PGL’s piece before seeing it in the links, but they’re all there.

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Grass is Green, Sky is Blue, The WSJ Lies to You

Among their editorial suggestions for replacing Tim Geither as head of the New York FRB:

Better choices would include …David Malpass, an economist who worked at the Reagan Treasury and long predicted the credit bubble….

Yes, you saw that correctly.

David Malpass.

Strangely, they don’t describe him as “David Malpass, former Chief Economist for Bear Stearns, who long advocated taking monies out of your house because appreciation in housing prices changed “the structure of the household portfolio.”

And that “long predicted the credit bubble”? This is a family blog, so I can’t call that horseshit. So let’s look at what Malpass said in August of 2007—the point at which his firm was issuing bonds at what were essentially junk levels—about the bubble, in the very pages of the WSJ:

Another aspect of the market disruption is a dramatic stand-off between bond buyers and sellers: Buyers in both housing and debt markets are using the market discontinuity to claw prices and terms back to Earth. The slowdown talk weighing on equities also reflects the Wall Street view that debt, mortgage and takeover businesses have replaced General Motors as the economy’s bellwether. According to the bears: As goes the credit market, so goes the economy.

Fortunately, Main Street is not that fickle. Housing and debt markets are not that big a part of the U.S. economy, or of job creation. It’s more likely the economy is sturdy and will grow solidly in coming months, and perhaps years.

Unlike the 1998 seizure in credit markets to which many are now drawing comparisons, reservoirs of global liquidity are full to overflowing, not empty as they were that year. The deep 1997-1998 Asian crisis has been replaced with an all-cylinder boom. Unemployment rates are falling all around the world, while China’s equities have continued hitting new highs. [emphases mine]

The other nominees are little better, including the Gary Stern, current head of the Minneapolis Fed of “Credit Crisis? What crisis?” fame. (At least Stern admits he doesn’t care about finance as much as some other things.) But Malpass—and the lies told in support of him—should be beyond the pale even by WSJ standards.

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Is David Leonhardt pretending Henry Paulson did his job?

Or does he know better?

This year’s election coincided with an important moment in the financial crisis. The credit markets have stabilized in the last few weeks and even improved a bit. But the rest of the economy is deteriorating fairly rapidly. It’s now in danger of falling into a vicious spiral, in which spending cuts by consumers and businesses lead to further layoffs and then more spending cuts.

To prevent that from happening, the Obama administration will need to move quickly — before it takes office — to put together some emergency plans for the financial markets and the broader economy.[italics mine; emphasis his]

So Leonhardt’s first solution is “throw more money.” Or maybe—as with the common taters last night who pretended that the Republicans didn’t control the Presidency and both Houses of Congress for six years—he’s forgotten that this one was tried, with the same kleptocrat at the helm of the Treasury then as there is now, and will be until 20 January 2009.

Leonhardt then admits that Barack Obama knows more about economics than he does:

Throughout the campaign, whenever Mr. Obama was asked about the financial crisis, he liked to turn the conversation back to his long-term plans, by saying that they were meant to solve the very problems that had caused the crisis in the first place. Back in January, he predicted to me that the financial troubles would probably get significantly worse in 2008. They had their roots in middle-class income stagnation, which helped cause an explosion in debt, and the mortgage meltdown was likely to be just the beginning, he said then.[italics mine]

We then get the mealy-mouthed conditional that makes the NYT so Authoritative:

His prognosis was right — and the pundits now demanding that he give up major parts of his economic agenda in response to the financial crisis are, for the most part, wrong.[ibid.]

And, just so we’re clear, Leonhardt isn’t talking about much money:

There is at least one obvious area of potential compromise: Mr. Obama’s call for a $1,000 payroll-tax rebate for almost every family. That would cost the government about $65 billion. But a stimulus package should probably be a lot bigger than that — maybe $200 billion or so. And at this point, drafting it well matters more than passing it immediately.

So consumers might get to borrow $2 to pay themselves for every $7 they give to Hank Paulson’s buddies. But of course these monies will be poorly spent. Not the parenthetic:

That means starting work on new construction projects that government agencies have already deemed worthy but that lack financing. It also means sending money to state governments to close their budget shortfalls, in addition to softening the blow of the downturn by extending jobless benefits (as flawed as the unemployment insurance system is).

Meanwhile, giving AIG that money has been a great investment.

Leonhardt finally gets to a positive:

The two leading candidates for Mr. Obama’s Treasury secretary — Timothy Geithner and Lawrence Summers — seem likely to be more aggressive than Henry Paulson, the current secretary. Mr. Geithner, the president of the Federal Reserve Bank of New York, has at times lobbied for a more proactive approach to the current crisis. He favored direct equity injections into banks, for instance, before Mr. Paulson did.

As early as last December (2007), meanwhile, Mr. Summers criticized policy makers for being “behind the curve.”

“More aggressive” translates to “actually know what they are doing.”

What will this mean? Leonhardt glosses the ending:

Whatever he decides, it probably has to involve more money — which will make the government’s budget problems even worse. Some economists think next year’s deficit could potentially exceed $900 billion. Relative to the size of the economy, that would be the largest deficit since the years just after World War II.

A deficit like that will indeed force Mr. Obama to change his approach to the economy’s long-term problems, mainly by coming up with new ways to pay for his solutions. But that is tomorrow’s problem. Today’s are big enough as it is.

What this means is that apparatchiks like EconomistMom* will be whining about “the deficit” and the evil of “having to pay the increasing costs of social programs.” (If you wonder why we question your motives, look at your list of Senators and Conngresssmen who are determined to “do something about the spectre of future deficits”—a large portion of whom are the same people who pushed through the 2001 and 2003 raping and pillaging of the same people whose benefits you want to cut now. We question your motives because, by your own Revealed Preferences, you’re crooked.)

Leonhardt wants to placate them. Dean Baker, for one, knows that’s not possible, and pushes for a more optimal solution.

*If I were being fair to Diane Rogers (who advertises her Clinton Administration credentials whenever she can, so that we can believe she’s one of The Good Ones even as she shills for Pete Peterson and the entitlements-for-me-but-not-for-thee crowd), I would say she was hired to argue that neo-Hooverism is A Good Thing—but she made that bed and chooses to lie in it, so sympathy is not something I’m inclined to. Others here disagree. You can look it up.

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Four years is too long, Brad

Ms. mochi-tsuki discovers that the Washington Post has no copyeditors and cannot do math.

If this were another blog, I would be typing “Why, oh why, can’t we have a better press corps” here. Instead, let’s just leave it at: if you can’t extract data from the census correctly, what are you doing publishing a newspaper read by government officials?

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Toned-Down?

L’Shana Tovah, and let’s talk about something near and dear to Fox News’s heart: the evil Canadian press.

CBC has apologized for an opinion piece:

In the article, Mallick said Palin appeals to “the white trash vote” with her “toned-down version of the porn actress look.”

To make matters worse, the apology includes a glorious sentence:

[T]here is no factual basis for a broad-scale conclusion about the sexual adequacy of Republican men.

Glad we got that straight. UPDATE: Noni, in comments, notes that the Ombudsman didn’t do his research, the family-safe conclusion of which is:

Perhaps Heather Mallick simply chose the wrong terminology, inadequate seems to indicate they can’t perform the sexual act. When it comes to our dear conservative friends, that clearly isn’t the case. They sure can perform the sexual act, [not family-friendly but clean list omitted]…

To be more accurate, Mallick might have opted for a term like, corrupt sexual hypocrites. Surely the CBC Ombudsman in investigating the claims against Heather Mallick and her ever so naughty article actually did the 0.31 seconds of research it took me and Google to come up with a few “facts”.

Maybe Bob Dole’s job is safe after all.

Video links welcome in comments; please mark those NSFW.

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David Leonhardt needs to retire, having abdicated responsibility

by Ken Houghton

I don’t believe David Leonhardt is an idiot, but that’s not based on the evidence at hand:

There are really only two [questions]: What steps are most likely to solve the immediate crisis? And how can the long-term cost to taxpayers be minimized?

Everything else — reducing executive pay on Wall Street, changing the bankruptcy laws, somehow slowing the descent of home prices — is either a detail or a distraction.

Let me say this slowly, so even a NYT reporter can understand it: If you are taking an equity stake in a firm, one factor is how much cash the firm will have on hand. Cash paid to executives is not cash on hand, nor can it be used to produce future capital, investments, and free cashflow, or even “the miracle of compound interest.” So executive pay is very much a factor in equity calculations.

Changing the bankruptcy laws is more tangential, but let’s again explain this slowly. Mortgage-backed securities are, well, backed by mortgages. Their value depends directly on those payments. If it becomes easier to workout a mortgage in bankruptcy court, the holders of those MBSes are liable to (1) receive a higher value and (2) know sooner how severely their securities are impaired. So changing the bankruptcy law will, again, make the value of the assets clearer sooner. Which is especially important if we’re all going to pretend that this thing is going away after two years.*

Slowing the descent of home prices—well, that’s a second-order effect, so I’ll agree with him there. Or at least let it ride.**

His next paragraph, however, is incomprehensible:

Usually, it would be easy enough to dismiss these sideshows as the inevitable gear-grinding of democracy. This is an extraordinary time, though. The credit markets are nearly dysfunctional, leaving the economy at risk of falling into a downturn unlike any most of us have lived through, and the government is about to commit billions of dollars after only a week of political debate. There’s no time to waste. [emphasis mine]

Let’s be clear: the government (meaning here the Executive Branch and the Federal Reserve, controlled and run by Republicans) has already committed billions of dollars over the past six months. Maybe $900,000,000,000. During the entire time of which, Mr. Paulson was (1) certain the crisis was over and (2) working on the idiocy plan that he presented.

Leonhardt’s very next sentence undermines his previous paragraph.

The first thing to understand is that a bailout plan doesn’t have to cost anywhere close to $700 billion, so long as it’s designed well. [italics mine]

This is the plan that included absolute authority for the Secretary of the Treasury, and of which the Secretary of the Treasury said, “No, I’m not asking for absolute authority,” right? I would again invoke Daniel Davies’s Three Laws, but Leonhardt wants us to believe that this time will be different, if the plan is well-designed.***

Figuring out how much to pay for the assets is the first problem. The drop in house prices and rise in foreclosures have made it clear that these securities are worth considerably less than banks expected. But there is enormous uncertainty about how much less.

That’s why we have a market, no? (Clearly, the answer will be “no.”)

Based on the underlying fundamentals (like the current foreclosure rate and the one forecast for the future), many of the securities appear to be worth something on the order of 75 percent of their original value. But thanks to the fear now gripping the market — not necessarily an irrational fear, given that most forecasts have proven far too sunny over the last year — very, very few of those securities are trading hands. Among those that have, the sales price has been roughly 25 percent of the value. [I italicized, but he blocked it off in the first place; the bold is mine]

So the market has a price, but Mr. Leonhardt wants us to believe that these securities could be worth three times as much.

Assume I do. What should I be willing to pay for those securities? And what would I offer for them?

Now assume several of us believe that. What will be we do? Well, I’ll offer the current market price, Tom will offer 25.5, Robert will go 26, and pretty soon we’ll own all we want somewhere around 65.****

So where are the hedge funds and investment managers and new Vulture Funds? Who believes these securities are worth 75? Surely, they are willing to bid 25, 26, even 30. Mr. Leonhardt doesn’t tell us. In fact, the people who know the market best—Barack Obama’s classmate, Tom Marano, for instance—are retrenching, even after the first $900,000,000,000 in liquidity has been added.

Which price is the government going to pay?…[I]t probably can’t pay 25 cents. That might fail to fix the credit markets, because it would do relatively little to improve financial firms’ balance sheets. Firms might then remain unwilling to lend money to businesses and households, which is the whole problem the bailout is meant to solve.

Oh, wait. I thought that list of side considerations above were unimportant; now it turns out they’re “the whole problem the bailout is meant to solve.”

The most obvious solution is to pay more than 25 cents on the dollar and then demand something in return for the premium — namely, a stake in any firm that participates in the bailout. Congressional Democrats have been pushing for such a provision this week, and it’s one of the most important things they have done.

Well, that’s nice to know. Too bad it wasn’t in the original “well-designed” plan. I guess David Leonhardt believed Dick Fuld when he said he, er, gave at the office, too.

The government would then be accomplishing three things at once. First, it would take possession of the bad assets now causing a panic on Wall Street. Second, it would inject cash into the financial system and help shore up firms’ balance sheets (which some economists think is actually a bigger problem than the bad assets).

There’s a link to Krugman’s column on Monday omitted here. But let’s look at what Leonhardt has just done:

  1. He has admitted they are “bad assets,” while before they were just underpriced.
  2. He has declared that it would “inject cash into the financial system,” rather ignoring (again) the previous $900,000,000,000 than the Fed has “injected” in lieu of easing rates further.
  3. He has invoked “balance sheets,” for discussion of which I refer you to David Altig (h/t Felix)

But the best is yet to come.

And, third, it would go a long way toward minimizing the ultimate cost to taxpayers.

Overpayment is good because we’ll get more back. And I thought only Health Economics had an upward-sloping demand curve.

Why? The more that the government overpays for the assets, the larger the subsidy it’s providing to Wall Street — and the more it is pushing up the share prices of Wall Street firms. As Senator Jack Reed, Democrat of Rhode Island, notes, the equity stakes allow the government to recapture some of the subsidy down the road. It’s a self-correcting mechanism.

It’s a good thing Leonhardt opened his piece by noting that Congresscritters don’t know much about the financial markets, but, really, couldn’t we expect more from Economics writers?******

“Hey, Jack, if you pay me three times what this asset is worth in the market, I’ll give you an extra fifty cents six years from now.”
“Sounds like a great deal to me, Lloyd. And that writer in the Times thinks so too.”

So far, we have established that Paulson presented a plan that, if it had been well-designed, would be great. So who is at fault? Why, Congress, of course:

Instead of a laserlike focus on the big issues, though, Congress has been devoting a good chunk of energy to secondary matters. Some of the proposals, like changing bankruptcy rules to help some homeowners avoid foreclosure, are perfectly reasonable but just won’t do much to cure the credit markets. Others may not even meet that standard.

Let’s try this again. Homeowners who avoid foreclosure can, unlike those who don’t, pay their mortgage. Which monies flow to (wait for it) Mortgage-Backed Securities. Which then gain value and can be sold at a higher price. So, if you really want to reduce the cost of the bailout, keeping people out of foreclosure seems as if it would help. A lot more than seeing a stock price appreciate later, as was suggested in that well-designed plan by Chris Dodd, Barack Obama, and Congress.

And then Leonhardt just outright jumps the shark:

One of the fashionable ideas of the week, supported by both Democratic leaders in Congress and John McCain, is to limit the pay of top executives at any Wall Street firm that sells assets to the government.

Not even CNN fell for that one completely, despite their idiotic headline:

“Contrary to the lies told by the McCain campaign, it was John McCain who followed Sen. Obama’s lead in laying out principles that call for strict oversight and accountability, protecting taxpayers and cracking down on CEO pay. We only wish he had adopted those same principles over the last 26 years rather than cheerleading for the deregulation agenda that helped produce today’s crisis and repeatedly opposing limitations on the obscene compensation given to failed CEOs.”

And it doesn’t take a long use of The Google (well, I just went to Brad DeLong’s site) to find, from Sunday night:

Rescue requires mutual responsibility. As taxpayers are asked to take extraordinary steps to protect our financial system, it is only appropriate to expect those institutions that benefit to help protect American homeowners and the American economy. We cannot underwrite continued irresponsibility, where CEOs cash in and our regulators look the other way. We cannot abet and reward the unconscionable practices that triggered this crisis. We have to end them. [italic mine]

That’s rather clear, no? Not to Leonhardt, who tries one last time:

And in a frenzied week, any time spent on talking about C.E.O. pay is time not spent on designing the toughest possible bailout package.

Give you a hint, David. Pass a large portion of the firm’s revenues to Dick Fuld or Hank Greenberg or Vikram Pandit and there won’t be any effing stock appreciation for you to claim to have “reduced the cost” in the end. Even the Chamber of Commerce knows this.

*Brought to you by the administration that expected its Iraq Adventure to last six days, maybe six weeks at most.
**In the context, I’m inclined to argue, under that same “two year” timeframe, that they should want to accelerate the decline in prices. As a current seller, I object, though.
***For starters, it was designed to be initiated and run by a man who is unlikely to be in that same position six months from now. That this might be an elementary design flaw seems to have escaped Mr. Leonhardt.
****The extra ten is because we are not so stupid as Mr. Leonhardt, on whom someone pulled “75” out of his backside. No, we bid 65 because we know there is substantial uncertainty in that “75,” and we pulled “65” out of our backside.*****
*****Robert is now trying to figure out a correlation matrix for this.
******Ben Stein and Robert Samuelson always excepted.

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An Economist Who Doesn’t Believe People Respond to Incentives

Ladies and gentlemen, Tyler (“So Right It Hurts“) Cowen presents the following, er, argument:

Excessive bank regulation is another danger. To be sure, the regulatory structure for financial institutions failed in the current crisis, and change is in order. But we shouldn’t reform in a way that will discourage bank lending and weaken the tie between savings and investment. Banks are already allergic to very risky mortgages — probably excessively so — and we shouldn’t overreact by punishing them for past mistakes. [emphasis mine]

Somewhere, an Economic Angel had its wings rent asunder.

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