Bailout plan is vast patronage under cover of martial law
2:19p ET Saturday, September 20, 2008
Dear Friend of GATA and Gold:
The Wall Street Journal story appended here discloses what seem to be the two crucial details of the Bush administration's plan to rescue the financial system.
First, distressed securities would be purchased by the Treasury Department through a "reverse auction" system, in which sellers would set the minimum price they'd be willing to accept from the government. This would seem to create the most lucrative patronage imaginable, for there's no telling how the government's purchasing agents might decide what to buy and at what price. Indeed, since there is no market for these securities and the government itself will be making the market, purchases will be entirely a matter of government favor.
Second, the purchasing system would be, like the U.S. Exchange Stabilization Fund, beyond review by any court or other regulatory agency. That is, the system would have no accountability at all, unless, perhaps, Congress wanted to look at it eventually or change the law. In effect it would declare martial law throughout the U.S. financial system and the economy at large.
CHRIS POWELL, Secretary/Treasurer
Gold Anti-Trust Action Committee Inc.
* * *
U.S. Bailout Plan Calms Markets,
But Struggle Looms Over Details
By Deborah Solomon, Michael R. Crittenden
and Damian Paletta
The Wall Street Journal
Saturday, September 20, 2008
The federal government is asking Congress for $700 billion to buy up distressed assets as part of its plan to help halt the worst financial crisis since the 1930s.
The Treasury Department sent Congress legislative language last night asking for broad authority to buy assets from U.S. financial institutions. The request is just 2 1/2 pages and contains a broad outline of how this new entity would function. The government wanted to keep the plan simple, in part because it wants the flexibility to adjust what its doing as market conditions change, a person familiar with the matter said.
Among the things the government is asking for is the authority to hire asset managers to oversee the buying of assets.
The bare-bones request may irk Congress, which is already expressing concerns about the plan. It could present an opportunity for Congress to stack the bill with other provisions, such as more housing relief.
The proposal would give the Treasury secretary significant leeway in buying, selling, and holding residential or commercial mortgages, as well as "any securities, obligations, or other instruments that are based on or related to such mortgages."
The only limitation would be that purchases couldn't exceed $700 billion outstanding at any one time. That figure compares with the $515 billion President George W. Bush included in his fiscal 2009 base budget request for the Department of Defense. The plan also calls for an increase in the public debt limit, boosting it to $11.3 trillion.
Congress already voted once this year to increase the debt limit, to $10.6 trillion as part of omnibus housing legislation that included broader federal authority over Fannie Mae and Freddie Mac. The two mortgage firms have since fallen under government control.
Sen. Charles Schumer (D., N.Y.) in a statement released by his office, offered a mixed reaction to the proposal. "This is a good foundation of a plan that can stabilize markets quickly," he said. "But it includes no visible protection for taxpayers or homeowners. We look forward to talking to Treasury to see what, if anything, they have in mind in these two areas."
Spokespersons for the House Financial Services and Senate Banking committees weren't immediately available to comment on the proposal. A Treasury spokeswoman also didn't immediately respond to requests for comment.
Republican and Democratic staff from the Senate Banking Committee and the House Financial Services Committee were set to meet with Treasury staff at noon to discuss the proposal. No lawmakers were expected to attend.
House and Senate lawmakers, working hand-in-hand with the Bush administration, are expected to work throughout the weekend on finalizing the details of the plan.
Congressional leaders have targeted a vote on the comprehensive plan for the coming week, though that will depend on the ability of the White House and Congress to agree on a final product.
The proposal would expire after two years but would allow the government to hold the assets purchased from financial firms -- which must be headquartered in the U.S. -- for as long as is deemed necessary by the Treasury. Any assets purchased through the program would have to be tied to mortgages originated before Sept. 17 of this year.
The plan offered to Congress also gives the Treasury legal immunity from any lawsuits. "Decisions by the secretary pursuant to the authority are non-reviewable -- and may not be reviewed by any court of law or any administrative agency," the proposal says.
The nation's top economic generals pressed Congress to move with extraordinary speed -- by next week -- to authorize a plan to bail out the U.S. financial system, but are still working to iron out enormously complicated details likely to generate controversy.
Markets soared Friday for a second straight day on news of the discussions. The Dow Jones Industrial Average rose 368.75, or 3.35%. Financial stocks led the rebound. Stock markets in Asia and Europe also rose sharply. The news also helped improve credit markets: Investors poured out of the ultra-safe Treasury bond market Friday, sending yields on the three-month T-bill up to 1% after briefly touching 0% on Wednesday.
Still, though members of Congress briefed on the idea generally voiced approval, lobbyists, policymakers, and financial-services executives geared up for a fight over the details.
Among the measures announced Friday, the Treasury temporarily extended insurance, similar to that on bank deposits, to money-market mutual funds and the Federal Reserve said it would buy commercial paper from the funds. The Securities and Exchange Commission, meanwhile, banned short-selling of 799 financial stocks -- a financial bet that they will fall in price -- for at least 10 days. And the Treasury said it -- along with mortgage giants Fannie Mae and Freddie Mac, recently taken over by the government -- would step up their purchases of mortgage-backed securities to help keep the housing market afloat.
The most ambitious part of the government plan is to create a new entity to purchase impaired assets from financial firms. The process could work as a type of reverse auction, in which the government would buy from the institution that sells its assets for the lowest bid.
However, the government may find itself in a quandary: Does it pay more than fair-market value for hard-to-assess distressed assets, putting taxpayers on the hook for any losses? Or does it drive a hard bargain, buying for pennies on the dollar? The latter approach would further hurt financial institutions, since they would have to write down the losses and take additional hits to their balance sheets. The Treasury department, which hasn't commented on specifics about the plan, is expected to propose issuing debt in $50 billion tranches to fund the purchases.
"I am convinced that this bold approach will cost American families far less than the alternative -- a continuing series of financial-institution failures and frozen credit markets unable to fund economic expansion," Mr. Paulson said at a morning press conference.
Others aren't sold. Douglas Elmendorf, a senior fellow at Brookings Institution and former Treasury official, said while inaction is a risk, the Treasury's plan could cost taxpayers a huge amount of money. "This approach saddles taxpayers with significant downside risk but limited potential upside gain," Mr. Elmendorf said.
The moves are an effort to take a broad, systematic approach to the financial crisis after a series of incremental moves failed to stem the turmoil. The crisis has worsened over the past two weeks as credit downgrades, bad investments and falling stock prices have felled financial institutions such as Lehman Brothers Holdings Inc. and American International Group Inc., a huge insurer.
While the Treasury department awaits approval from Congress it is also moving to start buying up mortgage-backed securities through existing mechanisms. The Federal Housing Finance Agency, a division of government that is effectively running both Fannie Mae and Freddie Mac, immediately directed both companies to purchase more mortgage-backed securities to help fund lending markets.
The Treasury department also plans to expand a program it implemented in the wake of its takeover of Fannie and Freddie to buy up to $10 billion in mortgage-backed securities debt issued by the companies in the open market. The Federal Reserve and the SEC also acted to stem the crisis.
The Fed acted before U.S. markets opened, effectively coming to the rescue of the money-market mutual-fund industry. Worried that money-market mutual funds weren't liquid enough to handle a wave of redemptions from nervous investors, the Fed said it would use its so-called discount window to lend up to $230 billion to the industry -- via commercial banks -- against illiquid asset-backed commercial paper which is widely held by money-market funds.
The asset-backed commercial paper market went through severe strain last year, because of holdings of troubled subprime mortgage debt instruments. Fed staff say that isn't a problem for the industry now, and that most of the assets backing the instruments it will lend against are auto loans and credit-card loans. The paper the Fed is financing is high-rated and Fed staff don't see it as a money-losing step.
The central bank is taking on a potentially big risk: If these assets fall in value or default, it may be on the hook, because the Fed cannot claim anything other than collateral as repayment. Officials say the assets are safe and the move is a temporary measure to provide liquidity to the market.
In another bid to provide liquidity, the Fed Friday said it would buy short-term debt issued by Fannie Mae, Freddie Mac, and Federal Home Loan Banks through primary dealers. The Fed said it would buy up to $69 billion of these securities, called discount notes, to ease the crunch in the market.
The SEC ban on short selling of some financial stocks -- an attempt to stem some of the worst stock-market slides in years -- is effective immediately and will last 10 days, but could be extended for up to 30 days.
In short selling, traders borrow shares of stock and sell them, hoping the price of the shares declines and they can profit by buying them back at a lower price.
The SEC said it was acting in concert with the U.K.'s Financial Services Authority. The FSA said Thursday it would ban short selling in financial stocks until January, and would review the ban in 30 days.
Regulators in other countries quickly followed suit by tightening their own rules on short selling, including Ireland, Australia and France.
Bank of France governor Christian Noyer said Friday that the country's stock-market watchdog Autorite des Marches Financiers would move to impose new restrictions on short-selling.
Commercial banks expressed skepticism about the Treasury department plan. They fear it may prompt investors to pull their money out of banks and place it in money-market mutual funds, which often have higher rates of return than commercial bank savings accounts.
The Independent Community Bankers of America in a statement said it was extremely concerned about the Treasury's announced mutual-fund guaranty program. "ICBA cautions Treasury not to propose any solution to Wall Street's turmoil that will drain funding from community banks, constraining their ability to fund local economic activity and growth and serve local communities across the nation."
* * *
Join GATA here:
Toronto Resource Investment Conference
Saturday-Sunday, October 4-5
Metro Toronto Convention Centre, Toronto, Canada
New Orleans Investment Conference
Thursday-Monday, November 13-18, 2008
New Orleans Marriott Hotel
* * *
Help Keep GATA Going
GATA is a civil rights and educational organization based in the United States and tax-exempt under the U.S. Internal Revenue Code. Its e-mail dispatches are free, and you can subscribe at http://www.gata.org/.