$700 Billion Bailout / "Wall St Incompetence Tax" for Taxpayers
The big news this week is the proposed $700 billion agency, funded by taxpayer $, to buy troubled debt and rescue the financial system. The NY Times has the text of the original bill, which is worth considering even though Congress is likely to demand changes. (Hat tip to the Big Picture for the "incompetence tax" phrase.) Some of the key provisions and criticisms include:
$700 billion
The proposed text:
Sec. 6. Maximum Amount of Authorized Purchases.
The Secretary’s authority to purchase mortgage-related assets under this Act shall be limited to $700,000,000,000 outstanding at any one time.
Note that this is outstanding at any one time, so the Treasury Secretary can expend more as he (maybe she in the next admin?) sells off some of what was previously purchased. This has lead some commentators to note that the total amount expended over the two year lifetime of this facility could be more (ie buy $700 billion, sell $200 billion, then buy $200 billion more, etc). Others note that the price of what is bought will not go to zero; it will eventually be sold for something, so the cost could potentially be less than $700 billion (ie buy $700 billion, sell for $350 billion, taxpayers make up difference of $350 billion). Much depends on the purchase and sales price (more on that below).Note that this amount is inaddition to the other bailouts discussed here in previous weeks - $85 billion for AIG, $200 billion for Fannie/Freddie, $29 billion for Bear Sterns, $50 billion guarantees for Money Market funds, and likely $25 billion in loans to US automakers to produce fuel efficient cars.
As a related issue, the bill also increases the upper limit on the national debt:
Subsection (b) of section 3101 of title 31, United States Code, is amended by striking out the dollar limitation contained in such subsection and inserting in lieu thereof $11,315,000,000,000.
For the current debt (to the penny), see this Treasury Dept page.
"Mother of All Power Grabs"
The title is from a NY Times column, which discusses Section 8:
Sec. 8. Review.
Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.
This provision has perhaps captured the most attention and criticism. Arguably Secretary Paulson, a former CEO of Goldman, knows what he is doing. But he also didn't seem to see any of this coming. NY Times columnist Krugman notes: "he is a smart guy, but what, exactly, in the experience of the past year and a half — a period during which Mr. Paulson repeatedly declared the financial crisis “contained,” and then offered a series of unsuccessful fixes — justifies the belief that he knows what he’s doing? He’s making it up as he goes along, just like the rest of us." So why are we trusting him with such a large blank check? Other commentators put this in the context of a Bush administration which had broad authorization for Iraq, which has turned into a mess.
How Much Is the Govt Going to Pay for This Junk?
This issue is the heart of the 'plan' but we have few details on it. The heart of the problem is a dilemma: paying a dirt cheap price for toxic assets represents a good deal for taxpayers, but offers minimal help to institutions that need to recapitalize (have assets/cash in a ratio appropriate to their liabilities); paying a lot for the assets helps banks but represents a poor deal for taxpayers. The Washington Post puts it this way (Bailout's Tricky Balancing Act 23 Sept 2008, p A8):
The higher the prices the government pays for troubled mortgage securities held by banks, the more the rescue will bolster those banks and sustain the lending that is vital to the broader economy. But higher prices would also mean a worse deal for taxpayers. In other words, the more effective the plan, the more expensive it will ultimately be.
Disturbingly, the NY Times reports Big Financiers Start Lobbying for Wider Aid: "Even as policy makers worked on details of a $700 billion bailout of the financial industry, Wall Street began looking for ways to profit from it."
Bloomberg.com headline: Paulson, Bernanke Put Shoring Up Banks Ahead of Cutting Best Taxpayer Deal.
What's Missing?
Economic and Financial bloggers have posed a variety of additional provisions:
1. Regulatory reform. If the taxpayer is shelling out huge amounts, should some reform of the system that created this mess be part of the package? Should we feel rushed to enact this and think about reform at some later time? See for example, some of the discussion on this blog last week and the week before. The Big Picture also had a recent post on how SEC exemptions helped the collapse along:
the events of the past year are not a mere accident, but are the results of a conscious and willful SEC decision to allow these firms to legally violate existing net capital rules that, in the past 30 years, had limited broker dealers debt-to-net capital ratio to 12-to-1. Instead, the 2004 exemption -- given only to 5 firms -- allowed them to lever up 30 and even 40 to 1.
2. 'Upside participation' - if the taxpayers are going to be swapping their hard earned $ for bad assets, there should be a direct way for them to participate (benefit) from the recovery of these firms. Exchanging tax $ for bad debt and shares in the company would be one way to do this. As the firms recover, the share price increases, and the US can sell some of the shares at a price will help reduce the cost to the taxpayers.
3. CEO pay limits. Should CEOs of these firms be paid tens of millions of millions of dollars by their companies while those companies are receiving billions from the taxpayers because of bad decisions by the CEOs? The Big Picture blog lists the companies that have already received help or gone bankrupt and lists CEO salaries, severance agreements, etc. He writes:
As I have argued in the past, I have no problem with people making millions or billions IF THEY EARN IT. But these guys above? If every man woman and child in the USA is going to be on the hook for a Wall Street Incompetence Tax of $5-10k each, then the folks who brought us this mess, and took bonuses under the false pretense that the profits they generated were real, should also shoulder some of the costs . . .
A related issue is the fees paid to remaining Wall Street investment firms for advice on how to run this facility. Paulson currently can hire any firm at any price.
See also: Need a Job? $17,00 an Hour. No Success Required (NY Times); Key Lehman Employees to get $2.5 Billion in Bonuses (these are executives working for the firm before it went bankrupt who are now regarded as key employees needed to continue).
4. Conflict of Interest Provisions. Companies seeking to help the Treasury Dept run this facility may have securities of their own they are trying to sell, or could be getting paid to advise clients about selling to the govt. The advisers hired to help the Treasury and taxpayers here should not be using that position to work special deals, benefit financially from inside information, or betray our trust by helping out large account holders at taxpayer expense.
5. Wall Street Stops Campaign Contributions. Former Labor Sec Robert Reich, who has a good post on What Wall Street Should Be Required to Do, notes:
All Wall Street executives immediately cease making campaign contributions to any candidate for public office in this election cycle or next, all Wall Street PACs be closed, and Wall Street lobbyists curtail their activities unless specifically asked for information by policymakers. Why should taxpayers finance Wall Street’s outsized political power – especially when that power is being exercised to get favorable terms from taxpayers?
Alternatives
Apparently, Sec Paulson and Fed Chairman Bernake's session with lawmakers painted a drastic picture of the financial system. Most people accept the dire nature of the situation, but not everyone thinks a plan along these lines is advisable: "Basically, after having spent a year and a half telling everyone that things were under control, the Bush administration says that the sky is falling, and that to save the world we have to do exactly what it says now now now."
Former Labor Secretary Reich suggests: "Whether you call it a reorganization under bankruptcy or just a hellova fire sale, the process should resemble chapter 11 under bankruptcy." The taxpayers do not need to be directly involved.
The Interfluidity Blog has a different take on the problem and solution:
the question we should be asking is not whether or how much, but to whom and for what. The financial crisis we are facing is a symptom of a much larger economic and social crisis. Wall Street is not the source of the pain. On the contrary, the financial sector has been put this decade primarily in the service of hiding, literally of papering over, unsustainable trends in the current account, income distribution, human and physical capital deterioration, and the sectoral composition of the American economy. The conventional wisdom is that this is a financial crisis, and that so far "Main Street" has been largely insulated from the catastrophe. That is rubbish. The cancer is on Main Street, and the tumor has been growing there for years. Wall Street provided drugs to hide the pain and keep us going, palliative but not curative. What is happening now is those drugs are wearing off. The American economy is fundamentally unsound, and has been for some time. We would have noticed sooner, were it not for financial methamphetamine conjured by mad scientists in lower Manhattan from a whirlwind of foreign central bank money.
I think we'll only get one shot to set things right by throwing a ton of money at the problem, so we'd better think carefully before we throw it at symptoms rather than causes. Trying to figure this out in a week before Congress goes off to reelect itself strikes me as ambitious. Broadly, my view is that if we are going to legislate, Congress should empower regulators to declare systemically important firms insolvent, write off existing common and preferred, fire incumbent management and unilaterally convert debt to equity as far up the capital structure as they need to go until the firms are unambiguously well-capitalized, with little or no public money involved.
Portfolio.com columnists opening fund to outside investors, so taxpayers are not responsible for much: "The fund is, after all, a distressed-debt fund at heart, and there are a lot of investors who would love to take this opportunity to buy up distressed assets on the cheap -- especially if they could piggyback on the negotiating leverage that Treasury will have." This idea also comes up in the Washington Post article, Alternative Solutions Diverge From Administration's Approach (24 Sept 2008, p A1).
Conclusion
According to the NY Times, "Attorney General Michael B. Mukasey has rejected calls for the Justice Department to create the type of national task force that it did in 2002 to respond to the collapse of Enron."
Best single critique: Naked Capitalism - Why You Should Hate the Treasury Bailout Proposal. The blog entry contains a quote from a Congressional staffer that has lead to a few more insiders commenting on how responsive Congresspeople seem to be to public sentiment. If you're interested, see Lies From Paulson Keep Stacking Up: What You Can Do About It.
Interesting if incomplete roundup of criticism here.
Funny if it were not sad: McCain - "Opening up the health insurance market to more vigorous nationwide competition, as we have done over the last decade in banking, would provide more choices of innovative products less burdened by the worst excesses of state-based regulation." (see last week's notes about deregulators who have now changed their tune - and could well change back again when the crisis has passed, thus paving the way for more problems)
Federal Prosecutors Probe Food-Price Collusion
The Wall St Journal article witht he headline above notes that: "Federal prosecutors have opened separate criminal probes into possible price-fixing by major egg producers and California tomato processors, the latest in a series of U.S. investigations of alleged collusion in food and agriculture. The investigations, which have not been previously reported, add to concerns that beyond the rising cost of fuel and feed, a hidden factor may be driving food prices higher: collusion among farmers, food processors or exporters."
Interesting items from the story:
"When big guys get bigger, it makes collusion easier," said Peter Carstensen, a University of Wisconsin law professor who has testified in Congress on competition in the food industry.
Under U.S. law, it's a crime for competitors to collaborate on production or prices. However, many farm groups and cooperatives are allowed to work together under antitrust exemptions such as the 1922 Capper-Volstead Act. The act, one of a web of loopholes carved out over the years, was originally meant to help small farms bargain with big processors. Egg and tomato producers say their cooperation is shielded by these exemptions. In stepping up enforcement in food, prosecutors are signaling a new willingness to test these exemptions' limits.
The tomato probe grew out of an investigation into allegations that a consultant to a big processor, SK Foods Inc. of Lemoore, Calif., was working with SK to bribe buyers at six major food companies to pay inflated prices for tomato paste and chili peppers. In wiretaps and raids carried out as part of the bribery probe, investigators found evidence of the wider price-fixing conspiracy, according to FBI documents filed in federal court in Sacramento.
In an unrelated probe, the three largest U.S. egg processors also have received grand-jury subpoenas. The criminal investigation is focused on the pricing and marketing of egg products, such as liquid and powdered eggs, lawyers and industry executives said.
EPA Unlikely to Limit Pollutant in Tap Water
The Washington Post, in an article with the headline above (22 Sept 2008, p A9), notes:
According to a near-final document obtained by The Washington Post, the EPA's "preliminary regulatory determination" -- which was extensively edited by White House officials -- marks the final step in a six-year-old battle between career EPA scientists who advocate regulating the chemical and White House and Pentagon officials who oppose it. The document estimates that up to 16.6 million Americans are exposed to perchlorate at a level many scientists consider unsafe; independent researchers, using federal and state data, put the number at 20 million to 40 million.
Some perchlorate occurs naturally, but most perchlorate contamination in U.S. drinking water stems from improper disposal by rocket test sites, military bases and chemical plants. A nationwide cleanup could cost hundreds of millions, if not billions, of dollars, and several defense contractors have threatened to sue the Defense Department to help pay for it if one is required
The new EPA proposal -- which assumes the maximum allowable perchlorate contamination level is 15 times what the EPA had suggested in 2002 -- was heavily edited by officials of the White House Office of Management and Budget. They eliminated key passages and asked the EPA to use a new computer modeling approach to calculate the chemical's risks.
"They have distorted the science to such an extent that they can justify not regulating" the chemical, said Robert Zoeller, a University of Massachusetts professor who specializes in thyroid hormone and brain development and has a copy of the EPA proposal. "Infants and children will continue to be damaged, and that damage is significant."
Zoeller said scientific studies have shown that a small reduction in thyroid function in infants can translate into a loss of IQ and an increase in behavioral and perception problems. "It's absolutely irreversible," he said. "Even small changes in thyroid functions early on have impacts on functioning through high school and even into people's 20s."
A reference to those studies in the EPA's proposal was deleted by OMB officials.
This is only one of a number of chemicals EPA and others are refusing to regulate. See also EPA's decision to devalue the cost of human life, which makes it less likely regulations that save life will have the appropriate cost-benefit ratio. EPA says life is worth less [Washington Post, 18 July 2008, A1]
In a perhaps related story, States Accuse Pentagon of Threats, Retaliation (Washington Post, 19 Sept 2008, A2):
Environmental officials from several states that have tried to force the Pentagon to clean up polluted military sites say the Defense Department has retaliated by reducing or withholding federal oversight dollars due them.
A group representing state environmental officials says California, Colorado, Alabama, Ohio and about a dozen other states have been pressured by the Pentagon to back off the oversight of cleanup at polluted military sites. "In the worst-case scenarios, the Department of Defense is intimidating a state environmental agency into not pursing enforcement," said Steve Brown, executive director of the Environmental Council of States.
Wayne Arny, deputy undersecretary of Defense ... discussed the Pentagon's refusal to sign agreements to clean up the three sites that the EPA has said pose "imminent and substantial" dangers to public health and the environment. It also has declined to sign agreements required by law that cover 11 other military sites on the Superfund list of the most polluted places in the nation. He said that the military is committed to protecting public health and the environment and merely differs with the EPA over cleanup procedures. He said the Pentagon was proceeding with its own cleanup.
Under executive branch policy, the EPA will not sue the Pentagon as it would a private polluter. Although the law gives final say to EPA Administrator Stephen L. Johnson in cleanup disputes with other federal agencies, the Pentagon refuses to recognize that provision. Military officials have asked the Justice Department and the White House to intervene in the dispute.
Arny said Pentagon lawyers and policymakers judged the EPA's cleanup plans to be "excessive."
But [Sen. Barbara Boxer (D-Calif.)] said it is not the role of the polluter to design the cleanup. "I don't want the EPA making decisions on war strategy, and I don't want you making decisions on environmental cleanup, because you have an interest in the easiest way out," Boxer told Arny.
The Pentagon is the nation's biggest polluter. Of 1,255 Superfund sites, the Pentagon is responsible for 129 -- the most of any entity.
Citigroup Busted for Skimming from the Dead
Citigroup's settlement with California happened earlier in Sept - so not actually part of the review of the week - but this worth noting. Citigroup used a computerized 'credit sweep' to turn up a number of accounts - of people recently dead, who double paid, etc - and swept the money from their accounts. California Attorney General Brown commented: "The company knowingly stole from its customers, mostly poor people and the recently deceased, when it designed and implemented the sweeps. When a whistleblower uncovered the scam and brought it to his superiors, they buried the information and continued the illegal practice."
Story via creditbloggers; press release from California AG; pdf of settlement.
Citgo pays $13 million, largest ever for misdemeanor violation of Clean Water Act
The U.S. Dept of Justice press release notes that they ignored evidence their system was inadequate and failed to maintain their system. "As a result of these failures approximately 53,000 barrels of oil was discharged into the Indian Marais and Calcasieu Rivers following a heavy rain storm." That "illegal discharge resulted in limited commercial transportation on the water ways for approximately 10 days"
“CITGO failed to properly maintain and operate equipment designed to prevent oil spills,” said Granta Y. Nakayama, Assistant Administrator for EPA's Office of Enforcement and Compliance Assurance. “Companies that harm the environment and their community as a result of their own negligence will be prosecuted and pay a heavy price.”
Senator Stevens: On Trial for Public Corruption, Running for Re-election
From the Washington Post, although many places ran versions of this story:
Embattled Sen. Ted Stevens of Alaska goes on trial tomorrow in a historic public corruption case, bucking conventional legal wisdom in the hope of winning acquittal in time to be reelected to a seventh full term. The first sitting senator to face a federal trial in more than two decades, Stevens, an 84-year-old Republican icon of both the Senate and his home state, was indicted eight weeks ago on charges that he failed to disclose lavish gifts he received from executives of an oil services company.
Prosecutors have said their case is simple. In a 28-page indictment and other court filings, the Justice Department's Public Integrity Section alleges that Stevens repeatedly lied on Senate financial disclosure forms about gifts and $250,000 in home renovations he received from executives of the now-defunct oil services company Veco.
Prosecutors say Stevens never attempted to pay Bill Allen, Veco's chief executive, for the cost of the renovations or other gifts. Allen pleaded guilty to bribery and conspiracy charges in a long-running federal investigation of corruption in Alaska's government, and he has provided critical testimony that already has helped convict two Alaska state legislators.
In hearings and court filings, prosecutors allege that Veco, Allen or friends gave Stevens a Viking grill, a discounted Land Rover, a $29,000 bronze statue of a fish, a $2,700 vibrating massage chair, a $3,200 stained-glass window and a sled dog -- none of which the senator reported. Those gifts were in addition to extensive renovations to Stevens's Girdwood, Alaska, home by Veco employees and contractors, who installed a wrap-around deck and raised the home on stilts to add a new floor, prosecutors allege. They say Stevens interacted with the workers, discussed the project with Allen and suggested improvements to the renovation plans.
In exchange, the government says, Stevens helped or promised to help Veco on various matters, including prodding officials to build a natural gas pipeline in Alaska and requesting that the World Bank get involved in a dispute between Veco and Pakistan over delays in a project. At the time, Stevens chaired two of the most powerful committees on Capitol Hill, the Senate's Appropriations and Commerce panels.
...prosecutors stopped short of charging Stevens with corruption. By limiting the charges to failing to report gifts, some legal experts said, the prosecution can introduce Stevens's alleged favors as context and motive, not a required element of the crime.
Dept of Justice statement about indictment. pdf of Indictment.
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