Like most of us on Main Street, I watched Paulson on C-Span on this past Tuesday morning (OK, so not everyone watches C-Span at 6.15am, but you get my point).
Many of us scratched our heads thinking, "This guy is smart, he's an ex-Goldman guy, and I only have an MBA, but for the life of me, this just doesn't make sense......"
Here's why. Paulson confuses - and his plan does not distinguish between, nor does his plan address - asset risk, valuation and liquidty risk.
This citizen offers a simple, easy-to-implement plan, using current infrastructure to address our nation's current financial crisis. Yes, there's oversight, and yes, it may cost a bit - but a heckuva lot less than $700 bills.
Hop over the fold and I'll explain.
The main reason that Paulson ran into opposition is that he was caught scamming America. $700 billion, for three pages of legalese, and absolute power? Hey, if I write four pages, can I get some, too?
Paulson lost the trust of America when he proposed this flimsy excuse as a plan. Not surprising that most everybody, including the "fiscal conservative" Dean Democrats (ahem) and the "small government" Republicans smell a financial rat.
I think the week's best quote was [paraphrasing here], 'At first we were pleased to see the cavalry coming over the hill, but then we realized, What, exactly, is the cavalry supposed to do?' So yes, the markets responded positively last Friday to the idea of a bailout. But soured yesterday when they realized that Paulson was offering no real solution.
We have several problems, all intermingled: foreclosures, credit and toxic assets. My approach is to solve them separately, but simultaneously, using existing legal infrastructure.
Could we just skip the bailout, please?
But first, first principles. Yes, we have a problem. Others have written great diaries, but basically when Gramm's Law of 2000, formally the Commodities Future Modernization Act, passed, all kinds of financial institutions placed bets on bets. Californians know that this is the law that permitted Enron to rip us off for $40 billion in energy costs. It's also the bill that allows unregulated credit swaps and precipitated the current financial meltdown.
If you can create "value" just by hitting print, it's no wonder that "value" can be created by just about anybody. It takes years to buy a home or build a business. It only took a few days to create millions of fictional dollars of value in "credit default swaps."
Just to keep things in perspective, in 2006 our US taxpayer federal income tax receipts were $1.2 trillion. Bloomberg News reports that the now-worthless credit default swaps are/were worth $62 trillion. Pardon my skepticism, but how the heck would $700 billion put value back into $62 trillion?
Yes, we need to do something.
Second, there is value in homes, and it's not just financial. Homes send kids to school, keep grandma out of the convalescent facility and keep neighborhoods intact.
Third, several classes of now-toxic assets are worthless. For Paulson to propose that America pay "cash for trash" (thank you so much, Paul Krugman) is outrageous. And to pay too much cash for too much trash, is so obviously stupid, that no one is buying into it.
Fourth, everybody understands that we live on our credit cards, that we need to borrow money for cars, college and starting small businesses. Most people in America who read know that we are dangerously close to having our banking system fail. As in, no ATM withdrawals. As in paying cash for everything, because none of our credit cards would work. As in, all bank accounts over $100,000 would be wiped out.
So here's a four-part solution:
1 Reinstate Glass-Seagall, overturn Gramm 2000. There is nothing wrong with investment banks as long as they are properly regulated, and their leveraged risks are separated from the regular credit markets.
If we did, anybody taking bets on whether Goldman would re-morph into an i-bank, and return as a private partnership....?
2 Set up "Home Bankruptcy Courts" alongside our existing bankruptcy system. There are two parts to this Point 2.
When you file for corporate bankruptcy under Chapter 7, the assets of the company become the property of the court. One individual (or individuals) is designated the "Responsible Person." The court appoints a trustee who discusses the possible value and disposition of the assets with the Responsible Person. Then the trustee tries to find a buyer(s) for the assets, ideally multiple bids to increase the price. The trustee finds a buyer, then makes a recommendation to the bankruptcy judge, both that the assets should be sold to this buyer for this price, but also recommending a specific allocation of funds from the sale.
There are rules about how the asset sale proceeds are disposed of ($10K off the top first to each employee, then the trustee, then her lawyer, then the trustee's accountant, then any state and federal taxes, then distributing the leftovers to the creditors including the investors). Depending on where you live, there is a bankruptcy "district" already set up for you.
My suggestion is that every homeowner who has foreclosed would download a one-page form or bring in a tax return filed within the past 60 days to the bankruptcy court. File the homeowner's financial status with some court paperwork. Receive a case number and be assigned a trustee. Sit with the trustee - this is face to face, no lawyers needed - and make a proposal about a new mortgage (monthly payments, term, amount).
The trustee will have as a reference "comparable sales" in the neighborhood. In other words, she will use existing methods for finding the current value of the house. If the homeowner is smart, she will also bring in her comparables data from the public record and MLS. Or the trustee can ask for an independent valuation. Sure, the bank takes a hit on the value, if the home is worth less than when it was (overvalued) and purchased. But a new mortgage would provide more value to the bank, the homeowner, and the community than the current system.
Those fearing foreclosure could do the same thing. The system is set up so that it's very difficult for scam artists to "game," trying to get a better deal on their existing mortgage.
Yes, bankruptcy courts will have to add staff, perhaps bring more judges out of retirement, and appoint more trustees. But it is a fair and reasonable approach, with plenty of oversight, and one that could be implemented immediately.
The second part of this Point 2 is to have the federal government make loans to cities and counties who wish to set up "Community Housing Foundations." These are usually philanthrophic in origin, like this great faith-based one in Kentucky, Faith Community Housing. In other words, have local entities buy up empty homes, care for them, rent them and eventually re-sell them. The city-county would keep x% of the sale, the American taxpayer would get y% of the sale. Not to mention converting a blight into a cache of affordable housing.
Think of it as a citywide-based Habitat for Humanity in slow motion.
3 Toxic Assets Stockpile. Paulson can set up a fund, but companies should transfer - not sell - their toxic assets to this stockpile.
Trustees would be appointed to manage asset sales. As in a plain vanilla Chapter 7 bankruptcy, the trustees should try to get the best price possible for the assets. As we watched Lehman implode, it was obvious that Barclays waited until Lehman hit the wall, then scooped down like vultures and bought the assets. [I can't help but wonder....did Paulson, a Goldman alumnus, allow this to happen on purpose to settle some old score....?...oh, never mind....]
One of Paulson's arguments under the current plan for "selling" these assets to American taxpayers is to raise capital for the companies offloading them. This is confusing asset valuation and those companies' liquidity requirements.
The companies should simply transfer toxic assets, no value assumed. When and if the assets are sold, the taxpayer should get x% and the company should get y%. In other words, compensate taxpayers based on the value of the assets in the marketplace - not on what Paulson thinks they should be.
I betcha that companies without toxic assets will be able to raise capital. In other words, just cleaning up balance sheets should improve their ability to tap into capital markets. However, if they need more, set up a special credit drawdown facility. This would be more expensive than interbank borrowing. There would be a natural disincentive to access taxpayer funds (more expensive than other forms of borrowing). Companies would only draw down what they need. The extra say, 100 bps over LIBORwould be how these companies pay for the right to restructure themselves.
Note that companies would still have a strong incentive to get the best price for toxic assets. At the moment they have no incentive, other than dump them into Paulson's plan and run.
4 Small business loans. Many of us are running small businesses in part by short- and longer-term loans from credit cards. Access to capital is one of the key issues facing us, see Small Business Majority. Right now banks send us entrepreneurs unsolicited credit cards for our businesses - but they want these corporate cards guaranteed by our personal assets. Not so fast.
If Paulson is so worried about small business owners, why not have SBA or SBIC issue corporate credit cards through banks? In other words, the bank issues a corporate credit card, but SBIC assumes some of the risk.
Small business owners win (access to capital on reasonable terms, not putting homes up as collateral), banks get to keep customers in business and develop a new line of business, and the Feds keep credit flowing to the people who are providing most of America's new jobs.
On a final note, I'm not defending CEO pay, but I just don't see how this is going to work. Perhaps we could get a commitment from the people working in companies who access Paulson's toxic stockpile, people with salaries over $250,00 a year, to do community service in housing and housing projects. It's not just the money that divides us. It's the lack of mix between people of different economic classes.
Greed got us here. Let's work on showing the greedy what it's like to live on hard times. Dickens taught us that even Scrooge can have an awakening. Maybe it can work for us.