Banks' pinzer tactics

Sounds like bad cop (Constitutional challenge) versus good cop (sweet, sweet lobbying goodness), as the banks try to fight back the populist tide.

A court challenge would open a new front in the banking industry’s assault on additional financial regulation. It might also further splinter the powerful financial lobby. The issue has already pitted smaller banks, which would be exempt from the tax, against their less popular Wall Street peers, and it has even stirred debate within the large banks over whether such an aggressive legal strategy would be politically wise.

Privately, executives at several large banks said they believed a legal battle was doomed to fail in Washington and risked escalating public rage over the bailouts of the banks. These executives say the industry may be better off pushing for a watered-down version of the tax. Most banks are just beginning to consider how, or whether, they would oppose it.

It will get even more complicated when Congress, at the banks' insistence, include GM and Chrysler in the formula.

Left on the table

Feeling as if you've been rolled?

Americans were promised a reward for rescuing the nation’s banks. In return for all those bailouts, the banks essentially granted stock options to the government —a potential jackpot for taxpayers once the crisis blew over.

But now banks, eager to get Washington out of their hair, are pushing to undo those investments as quickly — and cheaply — as possible. If the Obama administration acquiesces, billions of taxpayer dollars could be left on the table.

At issue are so-called warrants that the government received from the banks last autumn, when the financial world was teetering. Like options, warrants give their owners the right to buy stock at a set price over a certain period of time, in this case, 10 years.

Now, with many banks itching to return their bailout money, the warrants are raising some thorny questions. What are these investments worth? Should the government drive a hard bargain, or let the banks off easy? Should it maximize profit for taxpayers, or minimize pain for banks?

Many banks want to buy back the warrants and wriggle free of the government. Big banks like JPMorgan Chase, Goldman Sachs and Morgan Stanley have formally notified regulators that they want to return their bailout money, according to people briefed on the situation. But as long as the government holds the warrants, it still has some leverage over the industry.

For taxpayers, a lot of money is at stake. The government has an option to buy stock in 579 banks. By some estimates, the warrants on JPMorgan alone are currently worth more than $1.1 billion. They could be worth much more if JPMorgan’s share price rose.

So far, one publicly traded bank, Old National Bancorp in Indiana, has repaid the government in full by returning its bailout money and repurchasing its warrants. (Two small privately held banks have done the same.)

How Old National pulled this off, and the seemingly favorable terms it secured, shows how aggressively banks big and small are pushing, even after they repay money from the Troubled Asset Relief Program, or TARP. Old National paid $1.2 million for its warrants. Analysts estimate the investments might have been worth as much as $6.9 million.

New York Fed

The Times has a long report on Tim Geithner's close relationship with the very Wall Street titans he's now in charge of bailing out. In it I learn something new.

The Federal Reserve was created after a banking crisis nearly a century ago to manage the money supply through interest-rate policy, oversee the safety and soundness of the banking system and act as lender of last resort in times of trouble. The Fed relies on its regional banks, like the New York Fed, to carry out its policies and monitor certain banks in their areas.

The regional reserve banks are unusual entities. They are private and their shares are owned by financial institutions the bank oversees. Their net income is paid to the Treasury.

At the New York Fed, top executives of global financial giants fill many seats on the board. In recent years, board members have included the chief executives of Citigroup and JPMorgan Chase, as well as top officials of Lehman Brothers and industrial companies like General Electric.

In theory, having financiers on the New York Fed’s board should help the president be Washington’s eyes and ears on Wall Street. But critics, including some current and former Federal Reserve officials, say the New York Fed is often more of a Wall Street mouthpiece than a cop.

Willem H. Buiter, a professor at the London School of Economics and Political Science who caused a stir at a Fed retreat last year with a paper concluding that the Federal Reserve had been co-opted by the financial industry, said the structure ensured that “Wall Street gets what it wants” in its New York president: “A safe pair of hands, someone who is bright, intelligent, hard-working, but not someone who intends to reform the system root and branch.”

It seems as though it may be time to reform the reformers.

Stupid banking tricks

It's like he's holding a gun to his head, demanding that we stop him before he kills more.

Jamie Dimon, the bank's chairman, spoke of his "fortress balance sheet" as part of a presentation to investors during last week's results, highlighting the bank's $137.2bn of Tier One capital and 11.3pc Tier One capital ratio, which equates to 9.2pc without its $25bn of TARP capital.

A tetchy Dimon referred to the government's money as both a "scarlet letter" and the "TARP baby" – something which he is fed up of holding - during a conference call, saying he would pay it back tomorrow if he could.

Jamie Dimon, please shut up.

Another day, another attempt by a Wall Street bank to pull a bunny out of the hat, showing off an earnings report that it hopes will elicit oohs and aahs from the market. Goldman Sachs, JPMorgan Chase, Citigroup and, on Monday, Bank of America all tried to wow their audiences with what appeared to be — presto! — better-than-expected numbers.

But in each case, investors spotted the attempts at sleight of hand, and didn’t buy it for a second.

With Goldman Sachs, the disappearing month of December didn’t quite disappear (it changed its reporting calendar, effectively erasing the impact of a $1.5 billion loss that month); JPMorgan Chase reported a dazzling profit partly because the price of its bonds dropped (theoretically, they could retire them and buy them back at a cheaper price; that’s sort of like saying you’re richer because the value of your home has dropped); Citigroup pulled the same trick.

Bank of America sold its shares in China Construction Bank to book a big one-time profit, but Ken Lewis heralded the results as “a testament to the value and breadth of the franchise.”

Enough, already.

"The big, big picture"

Elizabeth Warren, video star. I can't recommend this enough.

Giving Geithner a chance

Via Professor DeLong, Nouriel Roubini and Matthew Richardson think Geithner's plan, while not perfect and the going still perilous, a step in the right direction. It's worth reading.

The American oligarchs

You've probably seen other links to the Simon Johnson essay in The Atlantic this month. I don't do the "must read" fever-blogging much, but this one's an exception. What's getting most people's attention is his comparison of U.S. financial industry titans to the Russian oligarchs, but his conclusion is the most terrifying thing. Basically, that the "best case scenario" would be for the financial industry rescue plan to fail so that we can finally admit the rot in our financial institutions, diminish the power of the banking CEOs, and find the political will -- out of absolute necessity -- to reform the industry.

Boris Fyodorov, the late finance minister of Russia, struggled for much of the past 20 years against oligarchs, corruption, and abuse of authority in all its forms. He liked to say that confusion and chaos were very much in the interests of the powerful—letting them take things, legally and illegally, with impunity. When inflation is high, who can say what a piece of property is really worth? When the credit system is supported by byzantine government arrangements and backroom deals, how do you know that you aren’t being fleeced?

Our future could be one in which continued tumult feeds the looting of the financial system, and we talk more and more about exactly how our oligarchs became bandits and how the economy just can’t seem to get into gear.

The second scenario begins more bleakly, and might end that way too. But it does provide at least some hope that we’ll be shaken out of our torpor. It goes like this: the global economy continues to deteriorate, the banking system in east-central Europe collapses, and—because eastern Europe’s banks are mostly owned by western European banks—justifiable fears of government insolvency spread throughout the Continent. Creditors take further hits and confidence falls further. The Asian economies that export manufactured goods are devastated, and the commodity producers in Latin America and Africa are not much better off. A dramatic worsening of the global environment forces the U.S. economy, already staggering, down onto both knees. The baseline growth rates used in the administration’s current budget are increasingly seen as unrealistic, and the rosy “stress scenario” that the U.S. Treasury is currently using to evaluate banks’ balance sheets becomes a source of great embarrassment.

Under this kind of pressure, and faced with the prospect of a national and global collapse, minds may become more concentrated.

What makes this whole thing even more terrifying is that for as bad as the banking execs in the U.S. seem to be, their counterparts in Europe seem to be in even greater denial, with the European governments abetting them in the charade.

More on those damned banks

I am more or less with Ezra on this one. Perhaps Geithner's cunning plan is that when private investors pronounce Citi and BofA insolvent, then Treasury will have the credibility to nationalize, but they certainly don't have that now, even if wise men such as The Maestro are all for it. If the Obama administration had made nationalization priority number-one on Jan. 20, they may have rolled over the political speed bumps, but that day has come and gone.

And while it is certainly true that what is good for Wall Street is not necessarily what's good for the economy as a whole, I don't think we can simply discount the daily gyrations in lower Manhattan. It's one thing to be angry about bonuses and fat cats, it's quite another to be angry about that and watch the S&P 500 dive another 12 percent, taking your 401k along for the sickening ride.

Fifth, they could simply be afraid of the market. More so even than they fear pundits. Though plenty of folks talk about the need to ignore the daily whips of the Dow, Geithner certainly took a lot of damage from the market's reaction to his initial announcement, and you could argue that the administration economic hand remains weakened as a consequence of that damage. Maybe they feared a repeat and so built a bill they knew the market would like.

The administration needs to balance systemic crapulence in the banking financial industry, all sorts of Capitol Hill agendas, the stock market, and a public that is by turns angry and frightened.

UPDATE: The plan seems to be coming together, after all.

When he goes before a Congressional panel Tuesday morning, Timothy F. Geithner, the Treasury secretary, is expected to call for the Treasury Department to be granted greater powers to seize troubled financial institutions that aren’t banks.

“The United States government does not have the legal means today to manage the orderly restructuring of a large, complex nonbank financial institution that poses a threat to the stability of our financial system,” Mr. Geithner said in text of his opening statement, which was made available Tuesday morning on the Web site of the House Financial Services Committee.

This expanded authority would have given the government more options, and potentially more control, when it stepped in to save American International Group from collapse last fall, Robert Gibbs, a spokesman for the White House, said Tuesday morning before the hearing.

UPDATE II: Ambinder seems to have reached a similar conclusion to mine.

Paperwork is overhead, you know

Funny thing's been happening at foreclosure hearings in several states: Gretchen Morgenson finds that judges are finding that no one can prove who holds the note.

On Feb. 11, a circuit court judge in Miami-Dade County in Florida set aside a judgment against Ana L. Fernandez, a borrower whose home had been foreclosed and repurchased on Jan. 21 by Chevy Chase Bank, the institution claiming to hold the note. But the bank had been unable to produce evidence that the original lender had assigned the note, which was in the amount of $225,000, to Chevy Chase.

With the sale set aside, Ms. Fernandez remains in the home. “We believe this loan was never assigned,” said Ray Garcia, the lawyer in Miami who represented the borrower. Now, he said, it is up to whoever can produce the underlying note to litigate the case. The statute of limitations on such a matter runs for five years, he said.

A spokeswoman for Capital One, which is in the process of acquiring Chevy Chase, did not return a phone call on Friday seeking comment.

Mr. Garcia has another case in which a borrower tried to sell his home but could not because the note underlying a $60,000 second mortgage cannot be found. The statute of limitations on the matter will expire in October, he said, and if the note holder has not come forward by then, the borrower will be free of his obligation on the second mortgage.

No one knows how many loans went into securitization trusts with defective documentation. But as messes go, this one has, ahem, potential. According to Inside Mortgage Finance, some eight million nonprime mortgages were put into securities pools in 2005 and 2006 and sold to investors. The value of these loans was $797 billion in 2005 and $815 billion in 2006.

Toxic assets aren't growing any more fragrant.

UPDATED to fix a typo.

What are they waiting for?

Obama will never have greater political capital, at least until he shows he can feed the multitudes with a couple of fish and some stale bread, so, as Simon Johnson asks, let's do this thing already.

Why have we de facto nationalized? Because the private credit system - particularly large banks - is weakened and not getting any better. Attempts to deal with the problem banks are apparently blocked by the political power of influential bankers.

How then do we really privatize? By exercising leadership: take over insolvent banks and immediately reprivatize them. The new controlling owners can replace the boards of directors (tell me: why haven’t they resigned already?), and these boards can decide who to keep and who to let go from existing management. The taxpayer retains a significant number of shares (or the option to buy common stock) as a way to ensure upside participation - the economy will one day recover, and that will be a very good day for owners of the remaining banks.

Resolutions

In the 1980s we nationalized a whole mess of financial institutions, except that we didn't call it that. We called it the Resolution Trust Corporation.

Stress tested

Is nationalization so politically unpalatable that the Obama administration won't deal with the inevitable?

In yet another sign of distress for the banks, Citigroup officials were in active talks with federal regulators on Sunday night about plans for the government to take a bigger ownership stake in the bank, according to a person close to the talks.

Citigroup approached the regulators with a plan that would allow them to convert a large amount of the government’s $45 billion of preferred shares, which is treated as debt, into common stock, this person said. The government owns a stake of roughly 8 percent, but that could grow to as much as 40 percent.

Converting the preferred shares while also issuing more common shares would bring Citigroup closer to the mix of equity that the government is likely to demand when it introduces the stress test. But that would severely dilute the value of shares held by existing Citigroup stockholders.

Still, the big banks say they remain relatively healthy and that, with time and support from the government, they will regain their footing.

But many economists, Wall Street analysts and even some bank executives contend that some of the banks are already effectively insolvent.

Even though banks have reported billions of dollars of losses from bad loans, these critics say, the major institutions still carry trillions of dollars in additional toxic assets and are too damaged to resume normal lending.

This camp says it would be best to nationalize some of them now — with the government wiping out shareholders and taking over the operation of some institutions, at least temporarily — rather than to drag out the process while the economy spirals further downward.

40 percent, after all, is a big bite of nationalization.

Baseline scenario

If you happened to catch Simon Johnson on Bill Moyer's Journal last week, you'll probably want to read his Baseline Scenario. A shorter, and slightly less technical version: We are gnawing on a shit sandwich of epic proportions, almost Carnegie Deli-sized.

Johnson, by the way is Dean Baker approved!

Today, however, he looks at how economic consensus, which can go unchanged for years, if not decades, can quite suddenly shudder and break in the face of new realities, and it can happen so quickly it's difficult to keep up.

We saw this last year with regard to discretionary fiscal policy - fiscal stimulus - in the US. Eighteen months ago, very few mainstream economists or other policy analysts would have suggested that the US respond to the threat of recession with a large spending increase/tax cut. The consensus - based on long years of experience and research - was that discretionary fiscal policy generates as many problems as it solves. To argue against this consensus was to bang your head against a brick wall, while also being regarded as not completely serious.

At some point in November/December 2007, this consensus began to shake. The history may prove controversial but my perspective at the time and in retrospect is that Marty Feldstein was the first heavyweight economist to question the consensus (including in interactions on Capitol Hill), and he was followed closely by Larry Summers’ influential writings in the Financial Times. Within a month or so, the consensus broke. Not only did we get a fiscal stimulus in early 2008 for the US, but the IMF quickly adopted the same pro-stimulus line globally and the terms of the debate changed everywhere. This fed into a process out of which came at least a temporary new quasi-consensus: a large US fiscal stimulus is part of the sensible policy mix today.

The consensus on banking just broke cover. For some weeks it has been under intense pressure. At least since the fall, serious people have been informally floating various new ideas on how to deal with the technical problems surrounding toxic assets and presumed deficient bank capital. But since mid-January, the mainstream consensus - that we should protect existing large banks and keep them in business essentially “as is” - seems to have cracked.

I wonder what the "consensus" is within the White House. "Nationalization" will be a tougher nut to crack then was even the stimulus package, and that is why, I suspect, Obama and Geithner are not yet prepared to use the term. As Simon notes, the banking industry has an enormous army of lobbyists at its disposal and is unafraid to use them. And I might add that this is true even if said lobbyists are now being paid by tax payers. You could see this over the weekend when Democrat Chuck Schummer thought nationalization would never happen, while Lindsay Graham seemed open to the idea. Schummber is not the only Democrat who regularly receives healthy donations from the banking/financial sector. So, Obama's significant political skills will be tested when this gets on the table, as he'll have to wrangle members of his own party along with the opposition, who will no doubt be hearing from konstituents yelling "fascism!111! Red Dawn!11111111!"

Nationalizing banks

Is Obama unaware that we're doing that on a weekly basis?

It's a wonderful life