Economist Intelligence Unit — They say that desperate times call for desperate measures. Although there can be no doubt that the current situation in the financial markets is desperate, the measures proposed by Henry Paulson, US Treasury secretary, go beyond desperate to become dangerous. Unless the plan is modified to include more oversight and better protection for US taxpayers, Congress would be wise to reject it.

Given recent events — the collapse of Lehman Brothers, the government take over of AIG and the complete seizing up of credit markets — Mr Paulson is right to try and restore market confidence. His goal is noble: to provide stability and prevent disruption to the financial markets, while also protecting the taxpayer.

Indeed, by rescuing Fannie Mae and Freddie Mac, letting Lehman fail and bailing out AIG only after share warrants had been negotiated, Mr Paulson demonstrated his willingness to protect taxpayers. Unfortunately, his latest plan, which is stunningly brief and offers little detail, does little to shield taxpayers from potentially huge losses and nothing to solve the underlying housing crisis that is responsible for the current mess. …

One of the big myths currently circulating is that banks simply cannot unload these bad assets. In reality, however, there is still plenty of interest if banks are willing to reduce the price low enough. At the end of July, Merrill Lynch liquidated US$30.6bn of asset-backed collateralised debt obligations for US$6.7bn — a discount of 78%.

Most other banks have been reluctant to accept such a steep discount. This unwillingness puts Treasury in a difficult position. Mr Paulson could demand a big discount, which would help protect taxpayers from overpaying on assets that already have a limited market. However, if banks were forced to sell at fire-sale prices, they would suffer a sharp increase in their writedowns, causing them to seek even more capital, which would defeat the plan’s initial purpose.

Instead, Mr Paulson seems intent on paying fair-market values for these troubled assets, noting that any punitive discounts would limit the participation of financial institutions. But it’s not clear what the fair value of these illiquid assets really is. There is a very real danger that Mr Paulson will overpay for these troubled assets just to help recapitalise the beleaguered banks. This could force taxpayers to hold billions of dollars of assets to maturity or try and resell them — either of which has the potential to generate huge losses, especially as long as the housing crisis continues.

Mr Paulson is also demanding complete lack of oversight — his decisions “may not be reviewed by any court of law or any administrative agency”, according to a Treasury draft. So the true extent of the damage to US taxpayers may not be known for some time. Meanwhile, banks that wracked up billions in bad assets will be off the hook.

Coming from an administration that has proven so inept so often, Congress (and the US taxpayer) can no longer afford to believe in the mantra of “trust us”. (09/22/08)
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Princeton University Economist Paul Klugman writes: Some skeptics are calling Henry Paulson’s $700 billion rescue plan for the U.S. financial system “cash for trash.” Others are calling the proposed legislation the Authorization for Use of Financial Force, after the Authorization for Use of Military Force, the infamous bill that gave the Bush administration the green light to invade Iraq.

There’s justice in the gibes. Everyone agrees that something major must be done. But Mr. Paulson is demanding extraordinary power for himself — and for his successor — to deploy taxpayers’ money on behalf of a plan that, as far as I can see, doesn’t make sense.

Some are saying that we should simply trust Mr. Paulson, because he’s a smart guy who knows what he’s doing. But that’s only half true: 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. …

The logic of the crisis seems to call for an intervention, … … the financial system needs more capital. And if
the government is going to provide capital to financial firms, it
should get what people who provide capital are entitled to — a share in
ownership, so that all the gains if the rescue plan works don’t go to
the people who made the mess in the first place.

That’s what happened in the savings and loan crisis: the feds took
over ownership of the bad banks, not just their bad assets. It’s also
what happened with Fannie and Freddie. (And by the way, that rescue has
done what it was supposed to. Mortgage interest rates have come down
sharply since the federal takeover.)

But Mr. Paulson insists that he wants a “clean” plan. “Clean,” in
this context, means a taxpayer-financed bailout with no strings
attached — no quid pro quo on the part of those being bailed out. Why
is that a good thing? Add to this the fact that Mr. Paulson is also
demanding dictatorial authority, plus immunity from review “by any
court of law or any administrative agency,” and this adds up to an
unacceptable proposal.

I’m aware that Congress is under enormous pressure to agree to the
Paulson plan in the next few days, with at most a few modifications
that make it slightly less bad. 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.

But I’d urge Congress to pause for a minute, take a deep breath, and
try to seriously rework the structure of the plan, making it a plan
that addresses the real problem. Don’t let yourself be railroaded — if
this plan goes through in anything like its current form, we’ll all be
very sorry in the not-too-distant future. (09/22/08)
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Bob Swern writes: The true extent and intent of the details of U.S. Treasury Secretary Paulson’s one-sided bailout plan are finally beginning to make it to the light of day.  (There were times when I was certain some of this information wouldn’t get out; but, tonight it is.)

It is very, very scary stuff, what this man and his minions are trying to do to the American taxpayer right now. (A trillion dollars–or two–in U.S. taxpayer money so folks like Henry Paulson don’t end up in jail? Is that what this is all coming to?)

We, the people, are the last firewall here; make no mistake about it. What we do or do not do now will have a profound effect upon our society for generations to come. To make matters worse, only a few understand what’s actually going on, and that is a fact even as far as our own representatives in congress are concerned, as well.
Here’s “the new deal’…

First, for proper understanding of what’s happened tonight, let me take
you “way back” to what may be (IMHO) one of the most important
newspaper columns about the economy ever published for the general
public’s consumption: “Mortgage Meltdown.”
It appeared on the OpEd page of the Sunday, December 9th, 2007 edition
of the San Francisco Chronicle, as written by Sean Olender. It’s been
widely referenced, ever since.

If you fully grasp the meaning of Sean Olender’s column, linked above,
the reality here is that U.S. Treasury Secretary Paulson, and others,
could very well become subjected to criminal fraud prosecution
initiated by foreign buyers of U.S. collateralized debt obligations
(CDO’s) and mortgage-backed securities (MBS’s), based upon his previous
role as CEO of the firm that may be responsible for floating more bad
paper (and earlier) than any other U.S. entity, Goldman Sachs.

The sole goal…is to prevent owners of mortgage-backed securities,
many of them foreigners, from suing U.S. banks and forcing them to buy
back worthless mortgage securities at face value - right now almost 10
times their market worth.

The ticking time bomb in the U.S. banking system is not resetting
subprime mortgage rates. The real problem is the contractual ability of
investors in mortgage bonds to require banks to buy back the loans at
face value if there was fraud in the origination process.

And, to be sure, fraud is everywhere. It’s in the loan application
documents, and it’s in the appraisals. There are e-mails and memos
floating around showing that many people in banks, investment banks and
appraisal companies - all the way up to senior management - knew about
it.

As we all know now, but as Olender told us 10 months ago, this is a worldwide problem:

Despite Thursday’s ballyhooed new deal with mortgage lenders, does
anyone really think that it can ultimately stop fraud lawsuits by
mortgage bond investors, many of them spread out across the globe

The catastrophic consequences of bond investors forcing originators to
buy back loans at face value are beyond the current media discussion.
The loans at issue dwarf the capital available at the largest U.S.
banks combined, and investor lawsuits would raise stunning liability
sufficient to cause even the largest U.S. banks to fail, resulting in
massive taxpayer-funded bailouts of Fannie and Freddie, and even FDIC.

–SNIP–

Perhaps some U.S. government department can make veiled threats to
foreign countries to suggest they will suffer unpleasant consequences
if their largest holders (central banks and investment funds) don’t go
along with the plan, but how could it be possible to strong-arm
everyone?

In addition to the financial and societal implications, this whole mess
is also very much about keeping these guys out of “the big house!” (09/22/08)
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Ellen Brown writes:
Something extraordinary is going on with these government bailouts.  In
March 2008, the Federal Reserve extended a $55 billion loan to JPMorgan
to “rescue” investment bank Bear Stearns from bankruptcy, a highly
controversial move that tested the limits of the Federal Reserve Act. 
On September 7, 2008, the U.S. government seized private mortgage
giants Fannie Mae and Freddie Mac and imposed a conservatorship, a form
of bankruptcy; but rather than let the bankruptcy court sort out the
assets among the claimants, the Treasury extended an unlimited credit
line to the insolvent corporations and said it would exercise its
authority to buy their stock, effectively nationalizing them.  Now the
Federal Reserve has announced that it is giving an $85 billion loan to
American International Group (AIG), the world’s largest insurance
company, in exchange for a nearly 80% stake in the insurer . . .
.

The Fed is buying an insurance company?  Where
exactly is that covered in the Federal Reserve Act?  The Associated Press
calls it a “government takeover,” but this is not your ordinary
“nationalization” like the purchase of Fannie/Freddie stock by the U.S.
Treasury.  The Federal Reserve has the power to print the national
money supply, but it is not actually a part of the U.S. government.  It
is a private banking corporation owned by a consortium of private
banks.  The banking industry just bought the world’s largest insurance
company, and they used federal money to do it.  Yahoo Finance reported on
September 17:

Treasury bills
are the I.O.U.s of
the federal government.  We the taxpayers are on the hook for the Fed’s
“enhanced liquidity facilities,” meaning the loans it has been making
to everyone in sight, bank or non-bank, exercising obscure provisions
in the Federal Reserve Act that may or may not say they can do it. 
What’s going on here?  Why not let the free market work?  Bankruptcy
courts know how to sort out assets and reorganize companies so they can
operate again.  Why the extraordinary measures for Fannie, Freddie and
AIG?

The answer may have less to do with saving the
insurance
business, the housing market, or the Chinese investors clamoring for a
bailout than with the greatest Ponzi scheme in history, one that is
holding up the entire private global banking system.  What had to be
saved at all costs was not housing or the dollar but the financial
derivatives industry; and the precipice from which it had
to be saved
was an “event of default” that could have collapsed a quadrillion
dollar derivatives bubble, a collapse that could take the entire global
banking system down with it.

Until recently, most
people had never even heard of derivatives; but in
terms of money traded, these investments represent the biggest
financial market in the world.  Derivatives are financial instruments
that have no intrinsic value but derive their value from something
else.  Basically, they are just bets.  You can “hedge your bet” that
something you own will go up by placing a side bet that it will go
down.  “Hedge funds” hedge bets in the derivatives market.  Bets can be
placed on anything, from the price of tea in China to the movements of
specific markets.

“The point everyone misses,” wrote
economist
Robert Chapman a decade ago, “is that buying derivatives is not
investing.  It is gambling, insurance and high stakes bookmaking. 
Derivatives create nothing.” 
They not only create nothing, but they serve to enrich non-producers at
the expense of the people who do create real goods and services.  In
congressional hearings in the early 1990s, derivatives trading was
challenged as being an illegal form of gambling.  But the practice was
legitimized by Fed Chairman Alan Greenspan, who not only lent legal and
regulatory support to the trade but actively promoted derivatives as a
way to improve “risk management.”  Partly, this was to boost the
flagging profits of the banks; and at the larger banks and dealers, it
worked.  But the cost was an increase in risk to the financial system
as a whole.

Since
then, derivative trades have grown exponentially, until now they are
larger than the entire global economy.  The Bank for International
Settlements recently reported that total derivatives trades exceeded
one quadrillion dollars — that’s 1,000 trillion dollars. 
How is that figure even possible?  The gross domestic product of all
the countries in the world is only about 60 trillion dollars.  The
answer is that gamblers can bet as much as they want.  They can bet
money they don’t have, and that is where the huge increase in risk
comes in. (09/22/08)
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