Prevent TARP Banks From Purchasing Toxic Assets - Prevent Gaming Of The System!

[Median Democrat]

Talk about strange bedfellows. Jeffrey Sachs and Republican congressman Spencer Bachman have both expressed concerned about the possibility of TARP banks gaming the system to use government financing to inflate the price of their own assets by essentially rigging the bid pricing of such assets. Indeed, Bachman introduced a bill barring TARP recipients from "gaming" the PPIP.

We should write our congressmen of the Obama administration to either pass laws or issue regulations barring TARP recipients from purchasing legacy assets. If such regulations are not issued, then the whole plan is no different from Paulson's original plan to simply buy toxic assets from banks at face value. The supposed advantage of allowing private investors to set the price of such assets is undermined if banks can artificially inflate bid prices of such assets.

http://www.huffingtonpost.com/jeffrey-sachs/the-geithner-summers-plan_b_183499.html

/snip

Here's how. Consider a toxic asset held by Citibank with a face value of $1 million, but with zero probability of any payout and therefore with a zero market value. An outside bidder would not pay anything for such an asset. All of the previous articles consider the case of true outside bidders.

Suppose, however, that Citibank itself sets up a Citibank Public-Private Investment Fund (CPPIF) under the Geithner-Summers plan. The CPPIF will bid the full face value of $1 million for the worthless asset, because it can borrow $850K from the FDIC, and get $75K from the Treasury, to make the purchase! Citibank will only have to put in $75K of the total.

Citibank thereby receives $1 million for the worthless asset, while the CPPIF ends up with an utterly worthless asset against $850K in debt to the FDIC. The CPPIF therefore quietly declares bankruptcy, while Citibank walks away with a cool $1 million. Citibank's net profit on the transaction is $925K (remember that the bank invested $75K in the CPPIF) and the taxpayers lose $925K. Since the total of toxic assets in the banking system exceeds $1 trillion, and perhaps reaches $2-3 trillion, the amount of potential rip-off in the Geithner-Summers plan is unconscionably large.

/snip

http://uk.reuters.com/article/stocksNews/idUKLNE53503F20090406

/snip

NEW YORK/WASHINGTON (Reuters) - U.S. banks that received billions of dollars of taxpayer money to bolster their capital could place bets on the same toxic assets that got them into trouble in the first place -- and with government support.

It is unclear whether U.S. regulators will prevent banks receiving government aid from participating as buyers in the $1 trillion (671 billion pounds) Public-Private Investment Program PPIP.L designed to unclog credit markets and bank balance sheets.

But the program, where the government provides much of the financing and shoulders much of the risk, leaves open the prospect that banks, as well as private investors, could buy the troubled securities and loans. This means recipients under the government's $700 billion bank bailout fund, the Troubled Asset Relief Program, might take part.

"Without very strict regulation you're potentially creating big risks by allowing banks to buy toxic assets with house money," said Wayne Shaw, a professor at Southern Methodist University's Cox School of Business. "It's a terrible risk."

* * *
U.S. regulators may be open to letting TARP recipients participate in the new program.

Sheila Bair, chairman of the Federal Deposit Insurance Corp, said on a conference call with bankers last month that "healthy banks will be able to participate on the investment side, not obviously on the assets you'd be selling," a transcript on the FDIC website shows.

Regulators have suggested that letting banks share in the upside as prices of largely illiquid toxic assets rise could provide an incentive for them to sell their own assets at discounted prices.

Banks, for their part, have expressed concern that selling distressed assets at prices below their carrying value could punch a sizable hole in their depleted capital levels.

But a backlash could occur as weariness over using tax dollars to prop up an errant sector grows.

* * *

Spencer Bachus, the top Republican on the House Financial Services Committee, introduced a bill on Thursday to block TARP recipients from "gaming" the PPIP.

/snip

[Junkdrawer]

1. Not only that, but....

Reports are now that Goldman Sachs has used bailout money to buy distressed assets at 20 to 30 cents on the dollar...KNOWING that under Geithner's plan, the government would subsidize an 80 to 90 cents on the dollar price.

[Median Democrat]

3. Krugman Has Just Cited Jeffrey Sach's Article In His Blog

To be fair, the Treasury Department has not said that TARP recipients can participate in the Toxic asset purchase, but they have not clearly said they can't either.

http://krugman.blogs.nytimes.com/2009/04/06/bank-scams/

/snip

Bank scams
Jeff Sachs comes down hard on the Geithner plan, and his worries need to be taken seriously.

I was starting to come to the conclusion that the plan would simply fizzle — that even though participating players would get a large put along with their free toaster, it wouldn’t be enough to raise the price they’re willing to pay to a level banks would be willing to sell at, rather than keep assets on the books at far above their true value. But once you take into account the possibility of insider deals, that all changes. As Jeff says, a bank can create an off-balance-sheet entity that buys bad assets for far more than they’re worth, using money borrowed from taxpayers, then defaults — in effect a straight transfer from taxpayers to stockholders.

If there’s a mechanism to police such deals, it isn’t clear. And the sense that the administration is just too close to Wall Street continues to grow.

/snip

[Junkdrawer]

Remember: These guys are EXPERTS at shell corporations....

and preventing auditors from tracing the movements of capital.

They use complexity like my car uses airbags.

[Median Democrat]

7. In Fairness, Krugman Has Opposed Sach's Proposed Good Bank, Bad Bank Idea - No Clear Solution

Krugman shares Sach's criticism, but Krugman does not agree with Sach's proposed solution of a good bank, bad bank idea. Krugman proposes nationalization, but as my post below shows, there are very practical problems with nationalization, AND it is often ignored, but the Obama administration HAS BEEN quietly nationalizing several banks.

[MannyGoldstein]

2. Put Your Abestos Undies On

Get ready to be called a PUMA, etc.

Apparently, any questioning of the Paulson/Summers/Geithner Banker Bailout raises much ire on DU.

[Median Democrat]

6. Unlike You Manny - I Don't Think Nationalization Is A Panacea - Geithner's Plan May Work

There is a reason why some folks like Nouriel Roubini support it. Also, there are a lot of reasons why nationalization is not a panacea, and could cost more for taxpayers. For example, here is a nice case study of the recent nationalization of just one relatively small bank, Indy Mac:

http://www.huffingtonpost.com/2009/03/24/inside-indymacs-nationali_n_178100.html

/snip

When the federal government first took over IndyMac Bank in July, it estimated that it would cost between four and eight billion dollars to seize it, break it up and sell it back into the market.

If only.

Late on Thursday, the Federal Deposit Insurance Corporation announced that it had completed the sale of IndyMac and sustained a $10.7 billion loss, which doesn't include the roughly $2 billion in shareholder wealth that was wiped out.

The IndyMac scenario isn't necessarily an argument against nationalizing insolvent banks. But it does show that there is no path out of the crisis that is without cost. As President Obama recently told 60 Minutes, his choices are between bad and worse.

IndyMac, when it was seized, estimated its assets at $32 billion. The cost of the takeover -- roughly one third of its value -- indicates that that the depth of the losses on banks' balance sheets are likely even greater than is currently acknowledged.

And it illuminates another potential peril that regulators must grapple with: as the government went about cleaning IndyMac up and reselling it into the private market, according to the FDIC, depositors withdrew money in droves, leading to even greater losses as those deposits needed to be covered.

While the debate rages, regulators continue to take over failed banks. On Friday, federal regulators seized the U.S. Central Federal Credit Union, a giant wholesale credit union with some $34 billion in assets. It also grabbed Western Corporate Federal Credit Union, with $23 billion in assets, and three small banks, bringing the total bank seizures in 2009 to twenty.

/snip

[notesdev]

8. Crucial detail missing

the complicity of the regulator in extending the magnitude of IndyMac's failure.

[acmavm]

9. Really? You think these guys are gonna play on the up-and-up?

<snip>
Moyers Journal: Maddoff Was A Piker -- America's Big Banks Are a Far Larger Fraudulent Ponzi Scheme

Moyers: In your book, you make it clear that calculated dishonesty by people in charge is at the heart of most large corporate failures and scandals, including, of course, the S&L, but is that true? Is that what you're saying here, that it was in the boardrooms and the CEO offices where this fraud began?

Black: Absolutely.

Moyers: How did they do it? What do you mean?

Black: Well, the way that you do it is to make really bad loans, because they pay better. Then you grow extremely rapidly, in other words, you're a Ponzi-like scheme. And the third thing you do is we call it leverage. That just means borrowing a lot of money, and the combination creates a situation where you have guaranteed record profits in the early years. That makes you rich, through the bonuses that modern executive compensation has produced. It also makes it inevitable that there's going to be a disaster down the road.

http://www.alternet.org/workplace/135161/moyers_journal:_maddoff_was_a_piker_--_america's_big_banks_are_a_far_larger_fraudulent_ponzi_scheme

__________________________

These bastards gamed the system in the first place and now you think they can be trusted in the second?

I give up.

[Median Democrat]

10. Thus, Laws Or Regs To Prevent TARP Bank Participation Are Necessary

This is what I noted in my original OP.

[prolesunited]

4. It's B.S.

just like the S&L scandal -- screw everything up, have the taxpayers pay for it all for pennies on the dollar and then walk away all fat and happy as the dust settles.

[leftstreet]

5. K&R

[Babel_17]

11. My hat is off to those

who expose the risks. Let's face it, these groups are out to make money. The concept of an implied agreement doesn't work for them.

If they can do something to make a buck, they will.