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Wednesday, February 11, 2009

The names have changed, but...

Geithner Announces Restructured Bailout Plan
Plan Aims to Aid Banks, Spur Lending, Push Private Investors to Buy Toxic Assets
David Cho and Lori Montgomery
Washington Post Staff Writers Tuesday, February 10, 2009; 1:10 PM
Treasury Secretary Timothy F. Geithner announced Tuesday morning an aggressive and multi-faceted program that could commit $1.5 trillion or more in public and private funds to rescue banks and financial institutions and thaw frozen credit markets.


Well, as much as I hate to admit that anything Microsoft has a hand in, MSN Money had it right weeks ago and, to top it all off; explained in plain simple terms that even I could understand.

Why the bank bailouts are doomed
It's tempting to believe that more money will fix the messes of our financial institutions. But simple math tells us the system is insolvent, and the solutions are unpalatable.
Jon Markman
MSN Money

I took the liberty of cut-and-pasting a cliff-notes version below.

Unfortunately, I think the only things that have “changed” with the new administration are the names…

“In the past 12 months, taxpayers, sovereign wealth funds and private investors have sunk $1 trillion into failing U.S. and British financial institutions.

Yet major banks continue to collapse. Why

The math is not complicated. Bank losses from the write-offs of bad loans and busted derivatives tally up to $1.5 trillion so far. In addition, $5 trillion to $10 trillion worth of off-balance-sheet businesses such as structured investment vehicles -- leveraged lending vehicles used by big banks to fatten their profits in boom times -- are being forced back to banks' balance sheets by regulators. Rules require banks to keep a base of real shareholder capital amounting to 10% of those funds. So banks need to find up to $1 trillion within the next year to meet that objective.

Add the $1.5 trillion in losses to $1 trillion in needed new reserves, and you can see that banks need as much as $2.5 trillion in new capital to remain solvent under current rules.

In aggregate, therefore, the entire system is simply insolvent, as liabilities are greater than assets. Governments aren't forcing banks to admit this, but investors are, and that is why big banks' shares have lost half of their value this year. Governments, meanwhile, are trying desperately to help banks plug the gap, but they're coming up short. When you add the $500 billion from sovereign wealth funds to the $500 billion from the first tranche of the Troubled Assets Relief Program, it's only $1 trillion. That's already been provided. So that leaves a gap of $500 billion to $1.5 trillion.

Because the calculation is so easy -- and so devastating -- it kind of makes you wonder why the Bush administration created TARP in the first place. But the administration couldn't do nothing, as that would have been politically unpalatable, so $500 billion has basically bought more time for someone to come up with a better answer. Tick, tick, tick.

You can't very well have a bankrupt banking system, however, so the market has spent the first three weeks of the new year pricing in the inevitable next step: nationalization of most large banks. The reason is simple: If your owner can print money, you don't need to keep any reserves. Problem solved.

The new Treasury secretary should stop the charade with the second tranche of TARP money and certainly not contemplate TARP II and TARP III, as has been discussed in Washington. Just nationalize the banks and get on with the next phase rather than pour more money down a hole.

The best course of action, which would have been the most painful in the short term but beneficial in the long term, would have been to force banks to open all their books to regulators and investors, allowing us to see which were solvent and which were not. Then the Federal Deposit Insurance Corp., which is sort of a mini-nationalizer, could have closed the bad banks and merged their assets into strong banks, and we would be halfway through the crisis by now.”


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