Sunday, March 22, 2009

Premature Punditry

When the broad outlines of the Geithner plan first leaked yesterday, I noted that "it's impossible to offer an informed opinion based on the extremely sketchy details in these articles." The descriptions of the Geithner plan in the WSJ and NYT are so broad and so vague that they can't serve as the basis for any remotely serious analysis. As someone who has practiced structured finance law for many years, the one thing I can tell you for sure is this: the details matter. But that hasn't stopped a host of bloggers (who I normally agree with) from vocally condemning the plan. Yves Smith is calling on people to contact their Congressmen to express their opposition, and thinks she already has analysis that's "damning on its face," despite the fact that she hasn't even seen the plan yet. Yves is either being lazy or intellectually dishonest, and it'll be hard to take anything she says about the Geithner plan seriously. Worst of all, Paul Krugman, who I've been a big fan of ever since he was a columnist for the U.S. News & World Report (yeah, I'm old), continues to embarrass himself by offering absurdly superficial analysis of a bank rescue plan he hasn't seen yet. Krugman is a great academic economist, but he's obviously not qualified to offer an informed opinion on banking/financial policy. In addition to not understanding the difference between default risk and spread risk, he clearly doesn't have the foggiest idea how ABS or CDOs work. For instance, he apparently doesn't realize that the value of an ABS includes a liquidity premium. (Maybe he's just bitter that the solution he advocated last fall—recapitalization instead of toxic asset purchases—didn't work). I sincerely hope Krugman stops offering this kind of pseudo-analysis soon. The bottom line is that anyone who thinks they already have enough information about the Geithner plan to offer informed analysis doesn't deserve to be taken seriously.

10 comments:

Don said...

You make a fair point, and I find myself generally agreeing with you. However, it does seem to me that the government is stuck in needing to give a subsidy to the buyers to compensate for what I see as incentives to the owners of TAs. If you don't agree, I understand. But, since I do believe this, I understand that there are many people who object to this subsidy in principle. Given that, I don't see what's wrong with them objecting to this deal. It is true that things could work out better than anticipated, but I think that these people have a right to be skeptical.

I do not agree with that government has done, but, now, given their assumptions, or, more generously, limitations, I think that the plan to offer subsidies makes sense.

To me, all this stems from hybrid plans. Since I first mentioned these problems in late September, I feel capable of seeing that my fears have largely been realized. However, even then, I understood the pickle that Bernanke and Paulson were in.

Still, it's great that you're bringing your expertise into the debate.

Thanks,

Don the libertarian Democrat

Economics of Contempt said...

I definitely agree that the government should step in and provide financing for the primary and secondary ABS markets, because that financing, which always existed pre-Lehman, has completely disappeared.

The issues of whether the financing is essentially a "subsidy," whether the plan adequately protects taxpayers, whether it will result in accurate prices for the toxic assets, and so on, will completely depend on the specific terms of the programs. Anyone who claims to already know the answers to these questions is fundamentally unqualified to offer an informed opinion on the subject.

Krugman may be opposed to offering a "subsidy" to private investors in principle, but in practice he's not qualified to determine whether the terms of the government financing are so generous that they actually constitute a subsidy, since he wouldn't know a CDO from a CDS.

And that's basically my point: you can be opposed to offering private investors a subsidy in principle, but until you see the terms of the financing and the overall structure of the program, it's literally impossible to determine whether the program is actually offering private investors a subsidy.

septizoniom2 said...

but shall the blogosphere not comment on the deliberately leaked details to date? also, you assume the details will be more illuminative than so far leaked.

Christopher Wheeler said...

Eof C:
O worthy one, I crave a boon.

Could you explain what the liquidity premium on ABS consists of?

I think liquidity premium is the extra amount you pay for the ability to convert something to cash if you need to. How does that apply to ABS in this instance?

Sandrew said...

Christopher, think of it as an illiquidity discount and I think you're there.

Jeff said...

In defense of Krugman: I just wanted to say that I kind of agree with Krugman and don’t think that his post was nonsense. In effect, Krugman believes that the large macroeconomic problem is insolvency (i.e., like Japan in the 90s or Sweden). The Geithner plan, as FT notes, only solves problems of illiquidity. Insolvency means that a large swathe of the assets on the banks’ books are worthless. No matter how long you wait, no matter how much you try, they are worthless or worth a significantly less amount than their book value. This can be in the form of horrible second mortgages, houses in areas that won’t see population growth (think, Detroit) such that there will not be demand for housing, or unsecured loans from now-bankrupt consumers (e.g., bad credit cards). While historically these instruments were wildly successful, they no longer are.

So, if the problem is insolvency, the Geithner plan can only work if the bidders overpay for the assets and the loss is taken on by the government. On the flip side, the banks who were insolvent, who got overpaid through the auction, get all the upside. Thus, Krugman’s thinking is that, no matter what, the government has to take the losses (either through nationalization or through overpayment). If that is the case, why not keep the upside?

Hopefully, you won’t mind unpacking why you think this is spurious on Krugman’s part (or at least where y’all disagree)?

Anonymous said...

How much more Diablo 3 Items should be defined about the Geithner policy for someone to admit who's involves financial aid in order to tempt people to acquire assets with rates Guild wars 2 CD KEYover intrinsic benefit?

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