The failed resolution

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Zeno wrote:

Oh the anger! They cannot believe that when crap hits the fan, it splatters on everyone. Let me tell you a little story. I lived in the States for a number of years and once went hiking with a group of friends. Cindy insisted on being the person who prepared the food and so we let her. After hiking for three hours, we were famished and ready for our lunch. All eyes turned to Cindy and she happily obliged. Out from her backpack she pulled out a box of macaroni and cheese and said, “Ta da! Lunch!” At first we thought she was joking but when it became clear that macaroni and cheese was all she had brought, some people started to get real mad. Cindy was hurt. She was a fat chick and she wanted to lose weight. She felt that the only way she would ever lose those pounds was if we all helped her by eating less while we exercised together. How else was she ever going to be motivated enough to cut her consumption of high fat low fiber diet? We were her friends and we should be sticking with her on this. What had started out as a gorgeous spring weekend became a sullen, hungry trudge. It never once occurred to Cindy that because we all relied on her word that she had an obligation to the rest of us. She could not seem to consider the needs of anyone other than herself. She could not see that in order for us to make that trip, we all had to put in some effort and everyone really deserved to enjoy the rare experience of escaping from a concrete city.

I understand the concerns that Americans have about the debt that they are accumulating but getting into debt is a choice that they made. If the national debt is an issue, then it must be addressed but in a manner that does not imperil the existence of all other nations who have really done nothing other than to serve America’s interests. The world is as it is because of the rules that America forced into existence. Now, against your interest, you want to just change everything? People all over the world have built lives around the present system that forces them to consume less while allowing Americans to consume more. They do it because America is the dominant power and if that is what America wants then that is what America gets. If you do not want to participate, you can join the ranks of Myanmar, North Korea and Zimbabwe.

The problem with the U.S.A. is that some people there believe that they can get their skinny decaf macchiato no matter what happens to the rest of the world. They just do not believe that there are any consequences.

Zeno wrote:

Now wait a minute, your industry decided that they were going to fulfill all of the needs of the conspicuous consumer society of the USA and not diversify into other markets. The USA now gets into trouble, you expect us be concerned about you because you did not diversify

In the hiking case, you should have brought your own damn food, even if you had an implicit promise. I always bring something with me for long hikes (at least trail mix). It is called CYA.

I feel that the conspicuous consumption society of the 90s and early 2000s has to stop anyways and now that the bill is due, it may happen. If this means that other economies are left in dust because they were built on such a society then so be it. I have no obligation to General Motors to purchase their car and I have no obligation to China Toy Company Ltd to purchase their toys. If I choose not to purchase products from either company than so be it.

And as far as tighter lending is concerned, so be it. If your household is ran by borrowing, you really need to rein in costs because your heading for disaster. If your business is operated by borrowing, you have a failed business model (there are many companies that meet payroll using profits rather than loans). If this means that the average American has to wait to purchase a car, the next hot xmas toy, or whatever, then so be it.

The world has been happy to supply the American people with products for years and now that we have stopped buying, we are told it is our obligation to be consumers. I say hell no.

America's largest group, The War Babies, bought for all of their lives, they are now mostly in their fifties, and not in the consumer mode, the kids are grown, the old folks want to downsize and retire.

The American economy has to pay for 45,000,000 of us to retire. So we are very concerned about a plan to loot the future, devalue the dollar, because it is our future, our dollar, and our investments have not been doing well.

We are followed by the Baby Bust generation, less people, less money, no way could they buy our homes, nor do they need them. As we retire there will be lots of jobs, a smaller workforce, and they should do well, taking care of us old folks, and running America.

Then we will die, and leave it all to this smaller generation, they each get a bigger slice of the pie than we did.

There is no hidden agenda, just demographics in action.

If there are X number of home owners, and builders build 10% more houses, it does not increase the number of home owners. It leads to sub prime lending, over extended banks, and they kept building.

They are still building, with a three year backlog of unsold homes, because the banks will loan them money. The builders are looting their stockholders, share prices are dropping, banks are making money on the deal, and they are destroying the value of existing homes.

Bailing out the banks is not the answer, stopping building is. What they are trying to do is sell unsold homes to the taxpayer, so it frees up capital, so they can loan to build more houses.

The lumber interests want building to continue. These are the loans, payrolls, they are talking of.

The economy is not going to want lots more housing in a few years, particularly the barns they are building, costs are up, we have a smaller home owning group, and they want small energy efficent homes. The utilitiy companies and oil are against it, less power sold, the builders, less work, the timber interests, less wood used, and the banks, smaller loans.

The people have answered by not buying, it is not finance that stops people from buying, it is a glutted market and declining prices.

On top of that, our WWII generation is dieing off, and that puts more houses on the market.

When Ford does not sell the cars they build, they stop building. Sure the Auto Workers Union wants to keep employment up, steel wants to sell steel, paint, plastic, rubber, finance, but they cut back production, till the market wants more.

It is the simple rule of supply and demand. Build twice the market demand, you will go out of business.

Banks are only the last link in the chain, the housing bubble was created by suppliers.

Building another trillion dollars of housing will not fix the problem. There will still be no buyers.

Stopping an economic slow down is not possible. All the money the banks could raise could not, all the money the government could raise could not, and it will make it worse by adding debt.

All it has done is fund the problem continuing for a few years.

Stop building houses, and a lot of people will go back to Mexico. If you have been on a construction site, you will find English is not spoken. So it is not our jobs that will be lost.

This is a local domestic problem.

Those who owned stock in banks should have watched closely, they voted for short term profits, they got them. Those who bought mortgage backed securities should have considered the price of homes going down. They took risks, and lost. The other side is taking risks, and winning, till the tax man comes.

They lost, there is nothing to tax, that is how it is.

The best we can do for ourselves, our future generations, and the world economy, is to protect the value of the dollar.

The second thing to do is vote out every office holder, reduce the government, and break the two party system.

I propose electing the Commandant of the Marines Dictator for ten years, both the Greeks and Romans had to do it, and in each case they got another hundred years.

Our economy will be down for a decade, let's give the restart a sound base.

The themes are: power & privilege, responsibilities and consequences. Almost all Americans take the privileges of being the superpower for granted. They do not seem to understand that with great power come heavy responsibilities that can lead to terrible consequences if bad decisions are made. The cure for runaway consumption in the United States must not kill the patient; it certainly must not throw the world into an age of economic darkness. By refusing to allow a bailout to occur because you think that the market needs the correction so that overconsumption will come to an end, is like shooting a fat guy in the head so that he will stop eating. You are proposing to bring down the American economy in an attempt to fix it.

People do need to be responsible for their own actions. Living off credit cards because you cannot control your urge to buy stuff is behavior that must never be implicitly condoned. And yet by bringing interest rates down to low single digits, the American government has explicitly supported people who choose to live irresponsibly. The culture of debt has actually been encouraged by the U.S. government of various stripes and ideological leanings via the long term lowering of borrowing costs. America can do this because it is the only country that can issue debt with impunity. As the world’s hyper-power, what America borrows is the equivalent of what it chooses to take. Is there anything that anyone can do if America chooses to renege on its promises to repay its obligations? By lowering interest rates below the inflation rate, America has in fact opted to silently siphon from those who work hard to support America’s extravagance. In other words, America’s official policy is to steal from the poorer nations of the world to support the irresponsible consumption of its citizens.

Some of you have correctly diagnosed the problem of excessive consumption but bringing down America’s financial institutions to correct the imbalance punishes the good as well as the bad. The man who worked hard all his life, saved up and invested prudently will find that his annuity is now worthless through no fault of his own. The family that scrimped and saved so that their children can attend better schools will find that their college fund is wiped out because the institution that they entrusted their savings to went under. Why would this be an outcome that you want? Even the poor should possess the common values of human decency. The disturbing undertone of the anarchist that I hear in many of the debates surrounding the issue of the proposed bailout threatens all of us. In a world where there is no order, man is beast.

The consumption problem must be addressed in a lawful and orderly fashion. My prescription is for the Federal Reserve to acquire a drop of self discipline and for them to raise interest rates to accurately reflect what it really should cost to borrow money. Do that and the irresponsible ski bum will be forced off the slopes and the Congressman will be made to reconsider his pork barrel earmarks. By pushing the problem to weaker East Asian nations and dysfunctional Middle Eastern states, both of whom can do nothing to make America do what is right, Ben Bernanke is misleading Americans about the responsibilities that they have to themselves.

At the heart of our discussion is the question of responsibilities and consequences that must be rightfully understood. It will do no good to be mightily motivated to do what is right only to do what is egregiously wrong out of lazy ignorance and flippant reactivism.

Zeno, the experience of other countries doesn't bear this rosy scenario that the government will make money from buying junk bonds. They're guaranteed with real estate? But if the real estate is worth less than the loan, then it's not much of a guarantee (the loans seem to have been made under the assumption real estate prices would shoot up forever - in which case foreclosure is profitable so defaults not a problem and therefore it doesn't matter if you lend to people that clearly can't afford to pay), especially one you factor in the costs and delays associated with foreclosure. It's guaranteed with the borrowers' income? But the problem is precisely that people are defaulting on their payments because their income is not big enough, and expect it to get worse if unemployment rises or wages fall in real terms, both of which are likely to happen. It is precisely for these reasons (and the huge uncertainty in trying to quantify these factors) that private investors are shunning these bonds.
Events were not beyond the investment banks' control - they could have simply not bought the mortgage-based securities, and they could have borrowed less.
I completely agree with you that the Fed bears some responsibility due to the artificially low interest rates it set. In a sense the banking crisis is brought to you by the same people that caused the dot com bust.

I think there should be a bailout, but one with extraordinarily punitive terms, aiming at saving the banking system and rewarding managers of solvent banks while causing as much pain as possible to other bankers - not just as a matter of principle (not rewarding people that caused the mess in the first place) but for very practical reasons: moral risk (not punishing them guarantees they'll do it again, as they'd have nothing to lose, they'll assume if they lose they'll just get bailed out again), and adding as little as possible to the vast and growing deficit (the present plan implies borrowing 5% of GDP from China and others).

If done correctly, this bailout can be a positive thing... As I understand it, all it will do is let the government buy up bad real estate debt, making the government the mortgage holder, and eventually the owner of the house if the buyer defaults...

We have almost as many homeless people as foreclosed homes, so, when the government forecloses, those homes can be put to good use... instead of giving poor families rent vouchers, they can give or rent them affordable homes... the money saved on those horribly expensive section 8 rent vouchers can then be used to solve other problems...

the idea of homeless children just might become a thing of the past...

Zeno wrote:

House Approves Bailout on Second Try

The bail out will keep overpaid executives from experiencing the consequences of their greed, that is why people object. The executives that made large fortunes selling loans to people who could not afford to pay them back, and basically bet the livelihood of the institutions they were in charge of on what amounted to ponzi schemes / tulip bulb speculation. Those who took the lessons of history and figured all they had to do was get out in time, or let government bail them out. Executives who still have $50,000,000 in their pockets, for example, for running important financial institutions into the ground. They all basically end up getting away with it.

That said, if the economists say a bail out has to be done, then I'm for it, as the whole is more important the few. Still, anger amongst the people is appropriate. I have anger, and I'm not asking anyone to rescue me - I do not need it and even if I did I would not ask - but because I have known for years, as well as many other common citizens have known, how corrupt the lending process became. We have anger because those who got rich from the corruption don't have to pay for it, while the rest of us do.

There is no naivete here, just people wishing life had some real balance to it. That it doesn't creates anger. The bailout will happen if it needs to, I have no doubt about that, but don't down play the anger. It is very, very valid. You didn't live here, you didn't see what happened to the process, how corrupt it became, so you really cannot speak to it.

Oh, and last I heard the dang thing was covered in pork. Something about wooden arrowheads for a children's project somewhere ... oh, yeah, that has SO much to do with the stability of our financial institutions. And you attribute the American's people frustration to selfishness. Geez. Get a clue.

One interesting thing that got added for the Dems though, which Bush signed is Mental Health Insurance Parity with physical health insurance. This ought to be real interesting now.

What is a mortgage worth? To a homeowner, a mortgage is an obligation that makes possible the roof he keeps over his head. To a bank or any other lender, a mortgage is an asset that can be valued based on the gold standard of valuation methodologies, the discounted cash flow technique. Take the expected interest and principal repayments over the term of the loan and then discount that stream of cash flow back to present value at a risk adjusted rate of interest and that will give you the expected value of the mortgage asset.

One of the misconceptions which led to public outrage was that the government would buy mortgages at face value from banks. Take a pool of mortgages from Wisconsin for instance. Let’s say that the face value of this pool of mortgages, meaning the actual amount that was loaned to homeowners was $130 million. In good times, because of the interest differential, these mortgages could be sold in a securitization for say $140 million. The $10 million profit would be split between the Main Street bank that originated these loans and the Wall Street bank that packaged the securitization. But we all know that the securitization market has collapsed and housing prices have come down. If we say that real estate prices have declined 30-40% since their peak in 2006 in the areas of Wisconsin where these mortgages were sourced, then the value of the pool of mortgages is no longer $140 million or even $130 million. To account for the decline in the value of the collateral, increase in unemployment, number of unsold homes on the market and etcetera, this pool of mortgages would then be properly valued at $110 million. The valuation would depend on highly sophisticated computer models that take into account many factors such as borrower characteristics obtained from public credit bureaus, the location of the properties that secure these loans, economic assumptions about the local area and so on and so forth. It represents the best estimate that the human mind can conceive.

Let us say then that the fair value (as opposed to the face value) of these mortgages is $110 million. My expectation is for the government to take a further discount just to be safe and offer less than $110 million. On top of the safety discount, the bank selling these mortgages would have to retain an interest in the asset. For instance, if the mortgages are sold for $100 million, the banks would get only $90 million. The $10 million represents a guarantee by the selling bank that these mortgages are good because if the mortgages do not perform as expected, it is the bank that loses money first. Only if the pool of mortgages fall below $90 million will the government book loses.

The banks would be forced immediately to book loses of $30 million or more depending on how they valued the mortgages on their balance sheet when the sale to the government takes place. As you can see, they will get punished. It makes sense for the bank to enter into this deal where they sell mortgages at a discount to the government because otherwise their cash flow is completely static. They originated these loans with the expectation that it would be sold and not with the view of holding them to maturity. Many banks in the United States cannot actually perform normally without selling their holdings of mortgage assets periodically. Once the assets are sold and the cash flow problem is resolved, banks can then readjust their business model to take into account new realities. In other words, you can expect that getting a mortgage in future will become more challenging.

Will the pool of mortgages sold fall below $90 million in value? That is possible but it is actually far more likely that the price of real estate will recover or at least stabilize in the years to come. In fact, once the circulatory flows in the banking system are restarted, we can expect a modest recovery in the housing market. Furthermore, because the government can hold these mortgages for as long as it is needed, they can do things like work out solutions to qualified borrowers to reduce this outbreak of foreclosures which can have a devastating impact on the value of surrounding homes and lead to even more foreclosures. If mortgages are bought now and held for two years to the end of this decade, their value should increase at least modestly. They are worth $110 million now (though I am assuming that the government buys them at $100 million) and can perhaps be sold for $115 million when the mortgage backed market reopens. This would represent a $15 million profit for the government. When the program is closed off and the money is returned, tax payers will find that the sums which had been invested would have yielded a handsome return. Instead of adding to the debt burden of the American people, by taking advantage of the unreasonable panic in the market today, the purchase of mortgages from banks would actually reduce the country’s debt load.

The mechanics were not explained and you do need to be something of a specialist to even have such a modest understanding. But out of ignorant arrogance and a conceited assertion of rights, tremendous damage has been done. The world is changing very rapidly and it seems to me that America is getting left behind. Despite the present grandeur, it cannot be assumed the U.S.A will always be number one.

If selling at market prices could solve the problem, the banks would have already sold their securities, that is obvious. They will not willingly sell below market prices (i.e. below what investors, also using computer models, think they're worth); to actually inject capital into the banking system would require buying above market prices. The banks may be relatively worse off than during the boom times, or may still have losses compared to the face value of these securities, but this sort of government intervention would still result in them being better off than without it, and hence would effectively be rewarding them for their incompetence (rather than leaving them to the tender mercies of the free market), while the government would be left borrowing 5% of GDP from China to buy securities for more than the market thinks they're worth. This guarantees that the banks will just repeat this behaviour (moral risk). To me, a punitive bailout along the following lines is needed:

-If the government buys the trash (only that from banks going bust), then it also nationalises the bank and takes shareholders tom the cleaners (if the bank went bust, they would also lose their investment, so they wouldn't actually be worse off due to nationalisation than if left to the free market)
-The board and CEO of nationalised banks to be fired immediately without compensation (think performance-based pay), and managers from solvent private banks to be hired in their place.
-The former board and CEO's personal finances to be audited.
-The bank to be auctioned off once in the black, the securities to be auctioned off when the market shows signs of recovery.
-Solvent banks to be left alone by the government (and would of course be free to buy up stock in the now-solvent banks that the government would auction).

Such a system would keep the banks from going bust while avoiding moral risk, and is roughly what Sweden successfully did (and is along the lines of what the US did with AIG, demanding shares for capital). The present plan (artificially raising demand at taxpayer expense) is what Mexico did in the 1990s. The result: it cost a fortune, the banking system is now foreign-owned, while interest rates remain sky-high and service terrible, and the banks did it again (lending irresponsibly), safe in the knowledge that the government will bail them out from their own mistakes.