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Solvency vs. Liquidity
SOLVENCY vs. LIQUIDITY....Paul Krugman says he's uneasy about the proposed Wall Street bailout because it seems to be based on the mistaken idea that all we have is a liquidity problem. Atrios amplifies:
Again, the problem is that lots of bad loans were made, lots of people made highly leveraged investments in those bad loans, and still more people bet on those loans by insuring them. The loans are bad. The mortgages are not going to be repaid in full. Housing prices are not going to magically shoot up 50% over the next 6 months. People gambled and lost and now the Democrats are racing to bail them all out.
I'll make the standard disclaimer that there's no way for an ordinary layman to have enough information to truly judge what's going on behind all those closed doors in Washington. And I'll add further that as laymen go, I'm as ordinary as you can get. Nonetheless.
It's true that the Bernanke/Paulson bailout is aimed at illiquid debt instruments. And those instruments are illiquid largely because they contain lots of toxic mortgage securities and nobody knows how much this stuff is really worth. It's unlikely that the toxic sludge makes these instruments literally worth nothing, but who knows? The mere possibility that they're worthless means that any bank who owns them might be insolvent, and since everyone owns at least some of them, this in turn means that everyone might be insolvent. Result: no one is willing to loan money to anyone else, because who wants to loan money to a bank that might never pay it back? And since huge flows of overnight interbank loans are the oil that lubricates the credit markets, when this flow seizes up, the entire credit market seizes up. (What's more, if this WSJ tick-tock is correct, the seizure became critical on Wednesday, which is why B&P changed their minds midweek about pursuing a systemwide bailout that they'd opposed earlier.)
The purpose of the bailout, then, isn't to recapitalize the banks, it's to put a firm value on the toxic sludge once and for all. Maybe it's a dime on the dollar, maybe it's 50 cents on the dollar. Whatever. When that's done and the feds have purchased the sludge, some banks will turn out to be insolvent, and perhaps they'll be allowed to fail. Others will turn out to be in bad shape but still solvent, and they'll continue doing business. Once that's sorted out, the commercial paper market will loosen back up since everyone will know who it's safe to loan money to and who it's not.
Now, there are obviously all sorts of problems here. How is the Treasury going to value all the sludge? If they value it too high, then we really are bailing out irresponsible bankers who made stupid loans, and the taxpayers will foot the bill when the sludge eventually gets sold off at a loss. Value it too low and the feds are acting as vultures, causing more bank failures than we really ought to have. Furthermore, once the sludge is off Wall Street's books and some big banks turn out to be involvent for certain, will they really be allowed to fail? Or will Bernanke and Paulson prop them up yet again?
Beats me. Obviously skepticism is warranted on these scores, especially since we're all being asked to approve the bailout basically at gunpoint. Still, it's not clear to me that Bernanke and Paulson are unaware that the real problem is insolvency, not illiquidity. Their plan, as near as I can tell, is to liquidate the sludge precisely so we can tell who's really involvent and who isn't. What's more, if Democrats manage to grow a spine over the next few days (and no, I'm not taking bets), the bailout bill could contain provisions to restructure loans for distressed homeowners, which means, contra Atrios, that all those bad loans could genuinely become a little less bad. It would be nice if this were set up so that restructuring was mandatory for any bank that wanted government help, but given the way all these mortgages have been sliced and diced over the years, I don't even know for sure if that's possible.
Again: I'm guessing here based on my current knowledge of what's going on. Anybody who thinks I'm missing the point should let me know. And obviously we should all be watching like hawks to make sure that B&P aren't offering sweetheart deals to the masters of the universe who caused the meltdown in the first place. But that's why God invented Democratic committee chairmen, right?
"If Democrats manage to grow a spine over the next few days (and no, I'm not taking bets), the bailout bill could contain provisions to restructure loans for distressed homeowners"
But of course the bill has to be written and passed now, leaving no time to work out the details of such provisions?even though per the WSJ account P&B have been anticipating this move for at least a month.
It's quite handy to have Congress panicked and stampeding.
"If Democrats manage to grow a spine over the next few days (and no, I'm not taking bets), the bailout bill could contain provisions to restructure loans for distressed homeowners"
But of course the bill has to be written and passed now, leaving no time to work out the details of such provisions?even though per the WSJ account P&B have been anticipating this move for at least a month.
It's quite handy to have Congress panicked and stampeding.
the problem is, in a crisis atmosphere with an unprecedented problem, it's hard to think things all the way through, so it's looking pretty likely that "something" will get approved next week and then we'll try and sort it out.
Kevin:
I think your right in your analysis. And to all the critics of the P/B plan I remind them of Henny Youngman's world view: "How you wife?" "Compared to what?"
Minor correction to my post: "How's your wife?"
Throw this in the simmering pot: Lehman CEO Dick Fuld was paid $17,000 per hour last year (source: MSNBC)...pitchforks and burning torches anyone?
Seems to be that the root of the housing problem was that homes were over-appraised and overpriced to begin with, and until that is addressed I don't see any real chance of preventing the disaster to come. Homes that may have been priced at 3 or 400 thou in the pre-bust world just aren't going to be worth that in the coming market. Probably the two most important factors in causing all this were builders refusing to build homes in the forty to fifty thou range because it was too much work for the money, and people didn't want to buy homes in that range because it would mean living in a less desirable neighborhood. If all you could afford was a forty thou home and some salesman came along who didn't want to bother selling you one because he could get more selling you a 1 or 200 thou one, well, what you gonna do? Especially when all the realtors in town were doing the same. I found myself in the same position a while back just trying to but a good used car for around 6 or 7 thou; it just wasn't gonna happen, I was told repeatedly, because no bank would finance for under 12. The first thing we need to do to address these problems is insure that folks have enough to live on, and that will mean a major overhaul of just about everything. We're talking a Brand New Deal here.
What if the future compensation of the executives at the companies selling these mortgage securities to the government, should be tied to the amount they discount them.
Or how about requiring any company selling it's bad debt to this new bailout entity, agreeing to limit the compensation of it's employees to some number of times the amount of the lowest paid employee/contractor.
If only we could recover the money they already paid themselves for their brilliant financial management of the past 5-6 years.
So the administration is asking Congress to grant it full and sole power to deal with this apocalyptic problem and it needs that power NOW. Just trust that the administration is giving an honest portrayal of the situation.
Seems rather reminiscent of the AUMF for Iraq. Only difference? This time they are admitting up front that it will cost $700B.
One fascinating aspect of this is that all this worthless "sludge" still presumably holds claim to some underlying "real" estate -- houses and buildings which, although now cheaper than they were, have not lost as much of their value as their mortgages seem to have.
Kevin,
Sounds like a very good summary. But, in a sense, isn't the government now just another link in the chain of buying up bad debt, gambling that things will shake out somehow, hoping things don't get worse? It strikes me that the fundamental problem in all of this has been "massive risk-taking". The government appears to be adding its name to risk-taker list. I don't see how they're actually stopping the risk-taking wave.
We already have a 10 trillion dollars debt, which is nearly the size of the entire economy. If the government is now insuring massive financial sector debt, is there any room left for more failures? Couldn't that impact the government itself? Couldn't this cripple the ability of government to do anything without borrowing trillions more from other nations? And what happens if other nations start saying no?
Another issue I see in all of this is that there are too many middlemen/brokers throughout the system who benefit no matter what happens. They have no incentive to make good loans, good deals, sensible transactions. They make their money regardless. I'm not sure what the answer to that might be, but I think we need regulations to take their influence out of the system and make it less beneficial to make bad transactions. Perhaps through tax incentives of some sort.
Kevin Phillips was on Bill Moyers last night. Really excellent discussion. Scary, but excellent.
http://www.pbs.org/moyers/journal/09192008/watch2.html
I think Matt Yglesias hit the nail on the head the other day when he suggested that a pound of flesh needs to be inflicted on the bailouts, i.e., tax breaks for the middle class, or nothing at all.
"f Democrats manage to grow a spine over the next few days (and no, I'm not taking bets), the bailout bill could contain provisions to restructure loans for distressed homeowners"
The issue is that their are way way more people who didn't take loans they couldn't afford. Imagine the political repercussions if selective bailouts did happen. Additionally, many of those in default are bad risks no matter the price of the house.
People can handle a bank bailout (barely) because it's abstract, but what would your reaction be if you found out that your next door neighbor John was getting a sweet ass deal because he can't manage his money as well as you can. Massive bailouts of homeowners are a lot more personal.
Kevin, I'm with you for most of your description of the BP plan, but I think the plan does a lot more than just set a value on the toxic paper. My impression is that such an evaluation is impossible since basically no one can foresee the future and how many foreclosures remain or when the housing market will recover. So the rescue would involve the US government 'buying' the bad paper at its face value, i.e., what the institution paid for it originally. Then the government agency that has bought all the bad paper (using taxpayer money - I think more than anyone has suggested) will over time sell it at what will be a tremendous loss for the government/taxpayer. Talk about moral hazard!
If only we could recover the money they already paid themselves for their brilliant financial management of the past 5-6 years.
Why not?
I propose we tie the bailout to a 10 year retroactive 90% tax on any bonus received by someone working in the broadly defined financial industry including investment and commercial banks, hedge funds, brokers, the mortgage industry, etc.
What, we can't tax retroactively? Why not? Those bonuses were make on the behavior that caused this problem.
Another angle: I find it appalling that so many have blamed homeowners for all of this, without dealing with Big Business. They have a problem with people living beyond their means, trying to buy a home. But what about the financial sector living beyond their means? if financial institutions had been sensible and prudent, this wouldn't have been a problem. Far too many financial institutions are leveraged beyond the breaking point, which means that a certain percentage of bad loans to homeowners, other businesses, even other nations, have done them in. If they had the right amount of assets to debt, they would have been fine. A few chinks taken out of their armor, but they would still have that armor.
Shouldn't we start with something that basic? Shouldn't there be regulations regarding required reserves? Bear-Stearns was leveraged something like 30-1, if memory serves. Would they have had any problems staying afloat if that number had been much lower? I'm guessing no.
What if they had a 1-2 ration of debt to reserves? Logically, that means they could have withstood some major losses and still would have been fine.
"Solvency" is the issue. And the fastest way to insure solvency is to regulate debt to assets.
"If Democrats manage to grow a spine over the next few days (and no, I'm not taking bets), the bailout bill could contain provisions to restructure loans for distressed homeowners"
But of course the bill has to be written and passed now, leaving no time to work out the details of such provisionseven though per the WSJ account P&B have been anticipating this move for at least a month.
It's quite handy to have Congress panicked and stampeding.
"If only we could recover the money they already paid themselves for their brilliant financial management of the past 5-6 years." - Keith
That's the rub, isn't it? Also, this whole thing does sound a lot like a Ponzi scheme or a game of musical chairs. This bad paper has been bought and sold many times over, each time with a a profit for someone. In the end, the ones in trouble are the ones who bought it last.
So the rescue would involve the US government 'buying' the bad paper at its face value
That is completely wrong.
The gov't will conduct a sort of reverse auction in which it will have holders of toxic waste compete to sell similar assets. Lowest price wins and the loser keeps their toxic waste or tries again.
karog,
Thanks for correcting my huge overstatement, if that's what it was. Where did you hear about the reverse auction idea? That sounds a bit crazy. So the institutions themselves will decide the actual current value of the paper (or at least what amount they can afford to lose and still survive) and then try to underbid each other? Whoa.
We need a slogan for this new brand of socialism that suddenly enveloped us.
How about this:
From each who has the most need.
To each who had the most greed.
The gov't will conduct a sort of reverse auction in which it will have holders of toxic waste compete to sell similar assets.
To whom? Each other? None of them have any real assets, just dubious financial instruments pointing to different pieces of the shitpile. To the extent there are real assets anywhere, forcing them all to sell simultaneously into a depressed market means artificially low prices.
It's your basic chicken/egg conundrum. We can't unwind the problem till we know what the underlying assets are worth. But we can't know what they're worth till we unwind the problem.
Any bailout deal should include
1) government-imposed restrictions on executive salaries for participating institutions,
2) aggressive prosecution of any fraud or other criminal activity that led to this mess, and
3) relief for troubled homeowners--with recognition that some cannot afford their homes.
Still, I suspect the Krugman/Atrios thinking is probably correct. Any bailout package is likely an insignificant blip in the longer term.
While I think much of Kevin's analysis makes sense, it leaves out two crucial dimensions of the problem, in both cases because it is looking at the causes rather than the effects. First, the illiquidity crisis is not localized to the US. It is global in scope. That is why 8 central banks (am I remembering correctly? I know there were 6) pumped money into the system on Wednesday. Second, the liquidity issue simply isn't about BANKS having funds. It is about companies being able to draw on the overnight loans from banks that allow the companies to run their day to day operations. When credit seizes up, any thing that requires capital can fail. So companies not only can't pay bills while they wait for their returns to come in, they can't cut the paychecks to their employees. You can see how the dominoes fall pretty quickly. As I understand it, that scenario is what was on the near horizon before Bernanke (and I think he was the lead) and Paulson announced their plan. As keeps being repeated, it is a damn good thing that the current Fed chairman knows absolutely everything there is to know about what caused the Great Depression. History does teach lessons on how it can avoid being repeated.
Can the laws which permit seizure of properties from illegal ventures like drug sales and money laundering be used to take the property and income of the CEOs? What they have done is vastly more corrosive than what any drug launderers did.
jimBOB,
You can find the reverse auction info in the Krugman article linked to at the top of the page. The US gov would be the sole buyer at the auction.
"...it's to put a firm value on the toxic sludge once and for all. "
no, it will only put a value on them for that moment, it won't have any effect on the price when the sludge is offered to a real market rather than to a man in a tall hat with a printing press.
The purpose of the bailout, then, isn't to recapitalize the banks, it's to put a firm value on the toxic sludge once and for all. Maybe it's a dime on the dollar, maybe it's 50 cents on the dollar. Whatever. When that's done, some banks will turn out to be insolvent, and perhaps they'll be allowed to fail. Others will turn out to be in bad shape but still solvent, and they'll continue doing business. Once that's sorted out, the commercial paper market will loosen back up since everyone will know who it's safe to loan money to and who it's not.
No. The purpose of the bailout to is clean up bank balance sheets and recapitalize them. Simply having the Treasury buy mortgages doesn't put a value on them. In fact, it appears Treasury intends to buy at face value, when the fact of the matter is, that those mortgages (and the instruments based on them) are not worth face value. There's no where near enough money to buy all those instruments at face value, so that eliminates repurchasing an exercise in price discovery. Rather, the point is to take supply off the market and keep prices up.
(Why? Because price discovery has been done and those houses are, in fact, worthless. That's what corrupts the instruments based on them. The confusion stems from not knowing what kind of instruments are based on those bad mortgages, and how much they are worth. So buying up the mortgages at face price revalues the instruments at face price. That's a balance sheet operation; the equivalent would be if the Fed purchased T-Bills from a bank and gave the bank cash.)
The underlying debate is whether the values these homes were sold for are over-inflated or are they just right. If they are just right, then the problem is a financial problem, and the banks need to be propped up until the market returns to normal. If the homes were sold at unsustainably inflated prices, then the mortgage-backed securities are close to worthless and have to be purged from the system. What they're doing doesn't appear to purge the worthless paper from the system or allow prices to fall, so it HAS to be a recapitalization problem.
max
['And it would've worked if they had done it in March.']
If the homes were sold at unsustainably inflated prices, then the mortgage-backed securities are close to worthless and have to be purged from the system.
Max, that describes every single house sold between 2004 - 2007 in the bubble areas. I bought my SoCal bungalow in 2002 for $170k. By 2006 I could have gotten $500k for it if I had sold. Anything priced beyond around 2000-2001 is out of line - if you take all the mortgages written over that pricing level then you start to see just how much paper equity has vaporized and just how many mortgages are worthless.
"Wall Street is being called upon to manage its own mortgage mess.
As part of the government bailout of the financial industry, the Treasury has floated a plan with industry executives that envisions the $700 billion in bad mortgage debts being bought by the government will be run by five to ten outside asset managers, CNBC has learned." Always a good idea; Send the goats to guard the cabbage patch. But, then again, perhaps, only the goats understand the cabbage. Wheeee!
If the homes were sold at unsustainably inflated prices, then the mortgage-backed securities are close to worthless
If the average home is now worth (say) 25% less than its mortgage amount, why is that mortgage worthless (rather than worth 25% less than face value)?
Also, didn't the average home buyer make some sort of down-payment? Wouldn't that down-payment mean that a 25% reduction in the value of the home should imply a smaller (rather than larger) reduction in the value of the mortgage?
It's hard to understand how the paper came to be worthless if it implies ownership of foreclosured properties that have not become entirely worthless.
It's not the underlying properties that are worthless, it's the paper that represents the inflated values of those properties. Which paper served as collateral for other inflated mortgages. Which mortgages may go unpaid, meaning that there's some property that's not being paid for and some people running around with handsful of worthless paper.
Sometimes I feel we are locked in a room with a blind man with a pistol firing off rounds indiscriminately.
I guess my question boils down to this -- who owns the foreclosed properties? Are they owned by the holders of the mortgages or not?
Or does all this over-securitized paper "sludge" represent a claim only on the potential mortgage payments and not on the underlying real estate?
Kevin - "Democratic committee chairmen" - that's pretty funny. Like that will make an difference.
On a related note, Thursday C-SPAN was airing hearings with Rep. George Miller questioning Interior Secretary Kempthorne. Miller repeatedly asks about the consequences for companies that bribed government employees and the answer keeps coming back 'we will do outreach to explain to companies that Federal employees are required not to take bribes'. Yes, the threat of having to listen to a government lecture on ethics will deter them! Oversight without consequences whynot just flush the taxdollars now.
It's just another imminent threat whereas Congress writes a $700,000,000,000 check to Hank to handout as he pleases without knowing what "we're" getting or if it will actually solve anything. If Congress doesn't agree to a "clean bill" (choke, cough) opponents will be demonized for partisanship. Where have we heard this before?
the total amount of the leveraged products amounts to 500 quadrillion; anyone?
I'm suspicious of the timing of the bailout. Bernanke and Paulson, two Bush appointees, forced Lehman Bros into bankruptcy and triggered a mini crisis and used that as an excuse to push Democratic controlled congress into signing away a humongous bailout package. Now the markets can rally and give Joe Sixpack the impression that everything is allright with the economy, so they can focus on gay bashing and other critical issues as we approach November.
Why am I so skeptical? Look at the timing. McCain started losing momentum as the nation started focusing on the economy. They had to remove this as an issue so the steady drip-drip doesn't ruin McCain's chances. The problems that led to this situation were building for several years, but they chose to fix them all in a couple of weeks giving Congress little time.
If most of the big I-banks and regular banks come out intact after all they did, they will merrily continue their old ways soon after the storm passes. Yeah, they will have new CEOs and management, but that is just old wine in a new bottle.
Not every mortgage written post-2001 is worthless. For example, we took out a home equity loan for an addition in early 2005. Even now, according to Zillow, the house is worth twice would is borrowed against it.
As a holder of a fixed-rate mortgage, I always get a kick out of some pundit solemnly proclaiming "nobody wants inflation". Really? Given the mess that we're in, a little 70s-style inflation (that even exceeds the rate caps on some of these variable-rate loans) might just do the trick. And yes, it took a heck of a recession to stop it once it was started, but the Carter years sucked less than the Bush years, and there only half as many of them.
If 500 banks fail, then you need some kind of infrastructure to take control of all these assets. This week they realized they needed that infrastructure. Right now, they are just doing it adhoc, but at some point you would get overwhelmed.
Also, didn't the average home buyer make some sort of down-payment?
Lenders stopped requiring down payments somewhere in the midst of the housing bubble. Most of the speculators and investors bought with no money down.
We are only halfway through this meltdown.
http://www.doctorhousingbubble.com/wp-content/uploads/2008/03/imfresets....
for what is ahead of us as all the Option ARM loans start to reset in 2009-2011. If you think what we have right now is bad, just wait. This 700 billion bailout will come in at triple the cost within a couple of years.
karog @ 1:16,
If the value of this paper can be discovered through an auction, there is no need for a bailout, no? Isn't the exact problem that no one wants to touch this stuff, because risk aversion is the word of the day?
Most of the money has already been extracted from the system. Any loan in excess of a reasonable price for the underlying asset, is not worth face value. If a house worth $300K has a loan worth $500K, then that loan is really only worth $300k. That is a lot more than zero, but still a huge loss for the system. So where did the money go:
(1) The homeowner, got a bunch of cash when he refied (or the seller of the overpriced house ran of with a big profit), most of apparent wealth has been spent.
(2) Players in the financial system, brokers, financial services personell, CEOs stockholders, got (and mostly spent) a portion as well.
Since this money is now gone, we have a lot of insolvency (insolvency means you owe more than your net worth), in the system. In my reconing the big insolvent players are:
(1) Much of the financial industry.
(2) The Federal government.
(3) Much of the former middle class.
In our current system, (2) backs up (1), and (3) through promises of future taxes backs up (2). If it has gone too far, the whole country could be insolvent.
BTW, a lot of people think the automatic triple A rating for government debt has been blown by this whole affair. That would make foreigners a lot less willing to loan to the US government, or at the very least they will demand better terms than they have in the past. As I see it, future US taxpayers will be paying high taxes, and receiving few services.
Don't get confused. The issue isn't the bad mortgages. The mortgages are manageable. Indeed if that were the issue, its hard to understand why the Treasury\Fed did not act sooner, before it absorbed the cost of Bear, Fannie, Freddie and AIG. Th real problem is the dervative products that were issued with repect to the mortgages. Many of these were just bets. No telling how much damage that is. Note the definition of mortgage related assets includes the derivatives (The term "mortgage-related assets" means residential or commercial mortgages and any securities, obligations, or other instruments that are based on or related to such mortgages, that in each case was originated or issued on or before September 17, 2008). If people understood what the Treasury wants us to buy, there is no way it would happen. Don't expect clarity on this.
McCain started losing momentum as the nation started focusing on the economy. They had to remove this as an issue so the steady drip-drip doesn't ruin McCain's chances.
Once the nation started focusing on the economy (as opposed to porcine cosmetics and kindergarten sex-ed) McCain was toast anyway. But having this blow up now didn't do McCain any favors - his long history as a deregulator puts him in the worst possible spot right now.
As I see it, future US taxpayers will be paying high taxes, and receiving few services.
Already pretty much a given, what with the interest payments on GOP debt hoovering up most of Federal revenues. What this meltdown/bailout does is lay a pretty decent rationale for bringing back the 90% marginal rate at the top end.
are we going to have to carry wheelbarrows of money around to buy goods like they did at the end of the Weimar Republic? Just wondering about what happens when all this money gets printed up.
dr2chase @ 3:59,
Even now, according to Zillow, the house is worth twice would is borrowed against it.
That's because there are still buyers out there. I don't like to say this, but just wait.
As a holder of a fixed-rate mortgage ...
Don't talk too loud. The core of this crisis is that a lot of loan were made at 'way below the interest rate that would have been reasonable. If things tighten up the way they look like they're going to do -- and if the money supply does what you're asking -- mortgages like yours (ours, actually) will end up being another brick in the wall. You'll get to pony up in other ways like, um, higher taxes. I know that's bad for economic activity, but as I understand it, that's the problem: there's no slack in the economy, no room to maneuver.
(shudder) So Grover Norquist didn't quite get there in time; in a feat of unintended-consequences jujitsu, everything outside government shrinks to a size where it can be drowned in the bathtub. It's not all bad news for Grover's legacy, though; the government may be so busy paying off bad debt that it won't have the strength of a newborn infant for quite awhile. Way to go, Republicans!
The point is to pull all this paper out of the asset base of banks and other institutions and to sequester it. So this RTC-equivalent will be like those enormous ponds full of pig shit on mega-pig-farms in NC-- we'll figure out how to deal with all that shit later, we just have to get it out of the barns now.
The old paper will be replaced in the system by new bucks fresh from the Fed, so banks, etc, will have a theoretically knowable asset base. The problem with this existing paper is that nobody knows what it's worth so nobody knows what any institution's asset base is.
On the one hand, the paper does have to be removed. It isn't a definable toxic shitpile like Atrios says, but by now has been distributed throughout the food chain and is part of everybody's assets. lisainvan is right about that. There's a genuine prospect of seizure.
On the other hand, when there's lots too much shit circulating around it means there's a really big herd in the house, probably of 900-pound gorillas. Somebody brought this herd in. And whoever did it looks an awful lot like Phil Gramm and friends.
Wiser heads worked out the regulatory structure of the New Deal to prevent exactly this from happening. Gramm and his fellow wise asses weren't happy with that so they allowed their buddies to do stuff that used to happen in the 19th century all the time. Same result then and now, but with bigger consequences now.
And the friends of these perps, like Mitch McConnell (whose cramped face is even now on my teevee screen warning that the bill has to be clean or else) are indeed old hands at using a crisis to stampede through what they want in the most blatant and partisan way. Are there any smart Democrats, as Kevin asks? I guess we'll see--
Kevin has it right. A major point to this whole "bailout" is to put a firm price on the mortgage-backed securities (MBS) currently being held. Many, if not most, of these banks, investment banks, hedge funds, etc. are holding MBS and claiming that they are worth the value of the underlying mortgage. In claiming the full face value of these securities, these financial entities are claiming that they hold a heck of a lot more in assets than they really hold, since it is now common knowledge that a large class of MBS are secured by homes that are no longer worth the amount of the mortgage.
This does not mean that MBS are worthless. Far from it. A lot of folks see this buy-up of "bad" mortgages as a bailout. But, as Kevin indicated, one of its biggest effects will be to force holders of MBS to properly state their balance sheets. They can't get away with claiming $1 billion when it fact what they hold is only worth $750 million. Until transparency exists, people will run from investing in or lending to such entities.
The biggest problem with buying up the MBS is not with the bail out aspect. The biggest problem is if the debts are purchased without creating a very strong regulatory function to prevent this type of thing from happening again. You can think John McCain and his buddies who supported Gramm-Leach-Bliley for creating a system that allowed such a ridiculous lack of regulation.
With regard to the housing bubble correction, if folks on here do not think that a housing correction is not currently underway, then you are not paying attention. Prices around the country have dropped approximately 18-20% peak to trough and still have a ways to go (current estimates say another 10-12% or more.)
If you want to learn more about these issues, try reading some of the finance blogs available.
"the bailout bill could contain provisions to restructure loans for distressed homeowners, which means, contra Atrios, that all those bad loans could genuinely become a little less bad. "
What's with this never-ending licking the asses of middle class home-owners?
Exactly WTF should this get special treatment compared to
(a) the genuinely poor (people who can't even pretend they have enough to buy a house)
(b) those who, for whatever reason, would rather rent than buy?
US chattering is full of these disgusting cliches poisoning our discourse
- claims that the only "real" americans are white farmers
- claims that the US is the most socially mobile society in the world
- claims that the old are the poorest segment of society
- and this BS about the especially deserving nature of struggling home-owners
I don't expect Kevin to solve the problem, but he can at least not add to it.
SteveD @ 5:07,
Don't get confused. The issue isn't the bad mortgages.
Ah.