Tuesday, September 30, 2008

Bailout Plan is Worse Than Nothing

Magical thinking: In anthropology, psychology, and cognitive science, magical thinking is nonscientific causal reasoning that often includes such ideas as the ability of the mind to affect the physical world, correlation equaling causation, the law of contagion, the power of symbols, and the meaningfulness of synchronicity.

Magical thinking can occur when one simply does not understand possible causes, as illustrated by Sir Arthur C. Clarke's suggestion that "any sufficiently advanced technology is indistinguishable from magic" (see Clarke's three laws), but can also occur in response to situations that are largely random or chaotic, such as a coin toss, as well as in situations that one has little or no control over, especially those one is emotionally invested in.


Since it appears that the Paulson Bailout will soon be back from the dead, I want to reiterate what I and others have said about why this particular bailout proposal is a bad idea. We are at a pivotal time for the credit markets, and something needs to be done to create stability. However, this plan will not fix the problem. There are several reasons:

  • No controls on how the money is distributed: This plan will give Paulson unlimited power to distribute $700 billion how he sees fit. There is nothing Paulson or Bush has said or done in the last 8 years that demonstrates an ability to comprehend problems of this magnitude, let alone an ability to deal with them properly. This plan allows Paulson to arbitrarily pick winners and losers in the marketplace, thus determining which firms go bankrupt, and which ones survive. That is too much power for one man to have, even the President.

  • No proof that credit will unfreeze: The plan is to buy illiquid securities at above mark-to-market prices. That will somehow unfreeze credit. The somehow is a missing link. How exactly will this happen?

  • No clear method of valuation: The Treasury will use as-of-yet undisclosed methods to value the securities they choose to purchase. Since the normal arbiter of prices is the market, we need another transparent pricing mechanism so we know we're paying a good price. (I've suggested a "mark-to-cashflow" method. Are there any others?)

  • Doesn't attack the real problem: The real problem is lack of trust. We have a situation where every company and government official has lied to each other and the American People for so long about the depths of this problem, that we've reached a point where markets cannot function. I'm willing to wager that several CEOs and bank presidents have been knowingly hiding losses, which would make them criminally responsible. The lack of regulations and the unwillingness to enforce existing ones is also to blame. This plan does nothing toward restoring that trust. If anything, it adds another layer of obfuscation and corruption to the system. 
I know a lot of people are scared right now. The stock market is volatile. The housing market is in the toilet. Job losses are mounting. The stakes have never been higher. That is why this is no time for a panic move! The House and the Senate need to have a joint hearing with a panel of economic experts in order to address this crisis. There are several hundred willing participants ready to assist.

I will say this unequivocally: Without a joint effort involving both parties in both houses in an open forum, we have no hope of solving this crisis. There is no amount of money we can give Paulson that will help. Anything else is just magical thinking.

21 comments :

Deflationary Jane said...

Jeez won't this crap die already?

No means no and the people said as much.

Quit with the F-ing scare tactics Paulson. This goes through and you'd better hope that you and the others who voted for it have sufficient police protection because people are mad and really don't have a problem with showing just how mad they are if push comes to shove.

Patient Renter said...

Without a joint effort involving both parties in both houses in an open forum, we have no hope of solving this crisis.

More importantly, I'd say that nothing succeeds without consulting independant outside expert economists. It's a wonder that Congress is trying to craft some of the most critical financial legislation ever without consulting independant expert advice.

Anonymous said...

The real problem with the bailout is that it puts the government at odds with itself. Once it buys the mortgage-backed securities, it is effectively in the lender's seat for the mortgages. It is then supposed to do both: decrease foreclosure, and get the best deal for the taxpayers. These are not consistent. The truth is that many homes, even in Sacramento, are worth more than their current occupants. The mortgage backed securities have little value, not because of decreasing home values, although that is part of it, but because of NONPAYERS. Many non-payers are voluntarily not paying. Many foreclosures are voluntary foreclosures (walk-aways). Its ludicrous that the government would try to keep non-payers, or those with the inability to pay a fully amortizing mortgage rate in a home that could easily be put in the hands of a payer with the ability to pay a fully amortizing rate. the government needs to decide its goal-- to recoup losses for the tax payer, or to keep people in their homes. One makes money, the other loses it. They are not consistent.

Darth Toll said...

"It's a wonder that Congress is trying to craft some of the most critical financial legislation ever without consulting independent expert advice."

And really PR, that's the whole point of it. They don't actually care to craft critical financial legislation. Paulson and the rest of his pigmen cronies are only concerned with getting stuff. They are fully aware that Bush is nearing the end of his term and the wheels are not starting to fall off of the economy. If they want to get, they better get while the gettin's good.

This $700B Paulson hedge fund bill allows the pigmen to implode various wounded animals with the stinky tar pit bid, and pay .20 on the dollar or even less for assets, and meanwhile leave most of the garbage on the Treasury's books. This is exactly what happened with Wamu. So even without the hedge fund plan, Paulson will still be able to do these looting operations one by one. The $700B fund just makes things faster and easier for the pigmen banksters. So in the case of Wamu, JPM got a great deal by paying a $30B writedown for literally hundreds of billions in deposits and a 1.6T mortgage book. Meanwhile, the equity and bondholders got the shaft. Same with Wachovia. Wachovia used to be a $120B bank not too long ago and now they are worth $0, but not actually worth $0, just that's the great deal the pigmen got by wiping out the equity holders! This is theft, plain and simple. So anyone that had Wamu or Wachovia stock or bonds got screwed. I'm sure some of this stuff was in pension plans, 401k's money market funds, etc. so regular folks are getting stolen from but they don't even realize it.

This is a terrible plan in terms of actually fixing the problem, but if you understand that fixing the problem was never the goal, and only stealing from everybody was the goal then this is a great plan for the pigmen. And you can tell who the pigmen rats in congress are by those that voted for the Paulson slush fund, and those that voted against would be the more populist representation that haven't been totally bought off by the elite bankster vermin leeches.

Darth Toll said...

meant

"now starting to fall off"

Bryan said...

Lou Dobbs is with thee.

http://www.cnn.com/2008/US/09/30/dobbs.qa/index.html

For better or for worse.

Bryan said...

One version of Plan B:

http://money.cnn.com/2008/09/30/news/economy/plan_b/index.htm?cnn=yes

Now that the bailout has had an initial failure, thoughts on better alternatives to the bailout are proliferating. Whether or not you agree with the suggestions in the above article, it's heartening that panic hasn't overrided everyone's minds. Outrage at opponents of the bailout is giving way to a feeling that this may lead to a better outcome.

Even if we proceed with some version of a "bailout" it would be nice to know that it was done in a much more thoughtful, measured fashion(to say nothing of including the transparency and oversight requirements talked about here) than Congress has hitherto exhibited.

Anonymous said...

Two of your points are one in the same. IF you look up the word "credit" in Latin, one of the definitions is trust. Therefore, I believe the lack of credit being extended to one another, is due to the fact that each bank is unsure(or does not trust) the financial stability of the counterparty. If we take the assets that are causing the lack of trust, credit/trust should be restored.

Anonymous said...

I'm curious as to the financial makeup of the posters on this site. How many of you, who are against the backstop plan, have an income greater than 100K+ and a portfolio greater than 200K? I suspect as the figuers go up, the excitement to "damn the torpedoes", and lets pay back the "son's of bitches" who caused this mess recedes.

smf said...

"How many of you, who are against the backstop plan, have an income greater than 100K+ and a portfolio greater than 200K?"

Me.

Bryan said...

Anon,

It's a political axiom that political conviction tracks interest with an almost 1-to-1 correspondence. Even Washington, for instance, grasped this (and he was not what I'd call a political thinker). So you're right to suspect bias.

But even if you PROVED bias, that doesn't make them wrong. Those with such assets are likely to support the bailout. Those without are (as you point out) more likely to denounce it. On the assumption that one of these positions is better than the other, one is correct. Both are biased but one is right.

We are left therefore to try to divorce ourselves from our own biases if possible and at least try and be honest with ourselves.

And I'll add my aye to SMF. Maybe if I had enough wealth it would overwhelm my sense, but I as yet, I believe I am in possession of it.

Anonymous said...

"No proof that credit will unfreeze: The plan is to buy illiquid securities at above mark-to-market prices. That will somehow unfreeze credit. The somehow is a missing link. How exactly will this happen?"

Hold on for a second. A big part of the problem is trust. All banks say they are solvent - all their mark downs are done, etc - yet we know some of them are lying, thus the banks are unwilling to lend to one another.

So we have all these guys swimming in a toxic pool of crap. Treasury comes in and drains the pool. At that point we know which banks were swimming naked (unwritten down crap), and which ones have shorts on.

So, once the pool is drained, and we know who is who, all the guys with shorts on will once again lend to one another, and the guys who were swimming naked will die.

Its almost as if you think that once we know who is who, banks will continue to not lend. Once this pool is drained, why dont you think banks will do what they have been doing for hundreds of years (sans the last few months) and make loans again?

Max said...

So, once the pool is drained, and we know who is who, all the guys with shorts on will once again lend to one another, and the guys who were swimming naked will die.

But this facility doesn't drain the pool. You could have a bunch of very solvent banks just wanting to unload some bad debt they could otherwise carry. You could have insolvent banks that choose not to participate because they don't want their balance sheet revealed.

If have cash to lend in this environment, how will you determine who the good counterparties are? Answer: you still can't, even after the bailout money is spent.

All this is is a massive giveaway of your tax dollars to companies of Paulson's choosing.

Max said...

I have to say, we're being presented with a false dichotomy in the media right now. It's either "This plan, or nothing." Clearly, there are better plans. Don't fall for the BS.

Anonymous said...

"You could have a bunch of very solvent banks just wanting to unload some bad debt they could otherwise carry."

Certainly that could happen - but if the bank is otherwise solvent (or more particularly if the treasury thinks the bank is solvent), could not the treasury refuse to buy it? Dont you think they will exercise even a modicum of discretion in deciding who to buy from?

"You could have insolvent banks that choose not to participate because they don't want their balance sheet revealed."

Correct, but if that happens, so what? There is no sale, the 700B just sits there - no harm no foul - At least we took a shot.

"I have to say, we're being presented with a false dichotomy in the media right now. It's either "This plan, or nothing." Clearly, there are better plans. Don't fall for the BS."

Agreed, but if we dont do someting they Treasury will do what theve been doing for the last 14 months, bailout some firms (Bear, AIG, etc) as they continue to fail. Either way, we will be out 700B

Max said...

Dont you think they will exercise even a modicum of discretion in deciding who to buy from?

Why would they? It's not in the bill.

Agreed, but if we dont do someting

Don't be tempted by the false choice. There are good ideas out there; why not use one of them. I'm not saying "Don't do anything."

Anonymous said...

Max im not being tempted by and false choice. All I am saying is if we do nothing now, the treasury will do exactly what it has been doing before - piecemeal bailouts.

Second, say we have hearings, throw 150 more chefs into the kitchen. Is that really gonna help? If it doesnt, we go back to plan A, except things have continued to deteriorate. No matter what, its gonna be a looong time before something gets resolved. In the mean time, the treasury is gonna still be out there - piecemeal bailout followed by piecemeal bailout - the whole time the public sits there watching the nightly drama and infighting on the hill. Im sure that will do a lot to restore peoples confidence.

Finally, lets say that by some stroke of genius, all these economists are able to come up with a much better plan. Sounds great to me. If the new plan is so great, we can always amend the current plan after enactment. If the new plan is stellar, we can amend and restate the current plan. The treasury isnt going to spend all the money in one fell swoop you know. Even if this thing is enacted today, its gonna be at least 60 days before anything gets off the ground - plenty of time for everyone to come together and create a magic formula. And if they cant do it in 60 days, well at least we didnt have to spend all that time holding "hearings" while the treasury kept bailing out and bailing out and bailing out...

tom12008 said...

I love your post on magical thinking. It is all you say, and additionally, it is a logical fallacy, something that you would think economists and other educated people would know to avoid, but fall into anyway.

In keeping with the theme of magical thinking, have you noticed how hollow some of this droning on about "saving the American economy' is becoming? Who is invested in the American economy? Hell, WHAT is it? The administration and some business rags repeat this as if it were some magical incantation that will elicit the fear and concern of the masses, as if business as usual were a few prayers and lizard entrails away. They don't seem to get that something more profound is occurring.

The trust thing is salient,because I think that there is mistrust and a sense of estrangement that risks turning into deep alienation for an increasing number of Americans. If taxpayers don't see protections for themselves in something that is done in the name of the economy, why should they care about an economy that they don't think they can meaningfully participate in anymore?

I guess I'm coming from the angle that I like your post because your talking about the illogicality of the bailout and so much of the talk around it. I think the trust of the masses is near a tipping point, beyond which it will be increasingly difficult, maybe even impossible, for the government to regain.

BTW, I love your other blogs too.

Tom

Patient Renter said...

lets say that by some stroke of genius, all these economists are able to come up with a much better plan.

All sorts of economists have come up with better plans. They're all over the internet. The problem isn't the ability to come up with a decent plan, the problem is that the administration finds anything short of a blatant bailout of financial companies (both foreign and domestic) with no legitimate binding protections for taxpayers to be unacceptable.

Anonymous said...

"All sorts of economists have come up with better plans. They're all over the internet. The problem isn't the ability to come up with a decent plan, the problem is that the administration finds anything short of a blatant bailout of financial companies (both foreign and domestic) with no legitimate binding protections for taxpayers to be unacceptable."

OK - great. If these plans are so fantastic - we can work them in. If they are so superlative, surely others will see this and the cream will rise to the top right?

36 days from now, we will have voted on a regime change. At few months after that, we will have a new administration to determine what really is the best course of action - free from bushism ideology (if that in fact is the problem). As it so turns out, both the presidential candidates are behind the current proposal. So its going to be a tough road to hoe.

In the end, this package is goign to be like so many things in DC, not the best, but the most expedient. Ironically, the ultimate arbiter of the success of this bailout (the stock market) is actually less enthusiastic about this plan than the one they thought they were getting last thursday. Do we really want to let congress tinkering with this until the market greets it with a big bronx cheer?

At this point, I say put it out there & lets see how it works. Get it away from the spectacular failures of pelosi and the idealogue republicans in the house (who probably did more to undermine confidence in the US economy than anyone in recent memory by the way). If it works, great, if it doesnt, amend it. Either way, we probably arent going to get much better than what we have now. DC is what DC is.

Anonymous said...

By far the worst problem is the concept. This will reinforce that irrational risk taking is okay, it condones it. This will lead to big moral hazard issues going forward.