Reassessing Hank Paulson

July 16, 2009

Imagining that Henry Paulson would threaten Bank of America CEO Ken Lewis into completing the Merrill Lynch acquisition late last year never required a huge mental leap. “I intended to deliver a strong message,” Paulson anticlimactically acknowledged in congressional testimony.

This is the same treasury secretary, after all, who last October summoned the CEOs of the nation’s nine largest banks to Washington and told them that it wasn’t in their financial self interest to refuse government capital infusions. And if the executives happened to disagree with Uncle Sam’s assessment, regulators would force the money on them anyway. Consider it another “strong message” delivered. Yup, the former football lineman makes for an awfully persuasive tough guy.

The drilldown on BofA-Merrill, however, is a transitory issue. And Paulson surely realizes this. He started his testimony before the House Committee on Oversight and Government Reform with a broad defense of his role in the government’s handling of the 2008 financial crisis. Today was legacy enhancing time for Paulson. And the former Goldman Sachs CEO gave a convenient standard by which economic historians and second guessers everywhere could judge him: “Having had the benefit of some time to reflect, and to consider views expressed by others, I am confident that our responses were substantially correct and that they saved this nation from great peril.”

OK, then, were Paulson’s efforts to deal with the horrific collapse of the twin housing and credit market bubbles “substantially correct”? Refusing to support the suspension of mark-to-market  accounting may have been Paulson’s biggest mistake. (Accounting forbearance is letting the banks hold on to the “toxic assets,” rake in the cashflows, and muddle their way back to health so as to avoid a market-eviscerating nationalization.)

But there were other mistakes as well, such as saving the unsecured creditors at Bear Stearns and helping set up false expectations of government salvation when Lehman started to implode. Or the repeated assurances that Fannie and Freddie were solvent.

Then there’s Lehman. Letting the investment bank go down often gets cited as Paulson’s biggest blunder. But Treasury officials seem to believe a) they had no authority to save it, and b) they had given management and the markets plenty of warning that no federal help was coming.

Anyway, “event” analysis of interest rate spreads (serving as risk indicators) by Stanford University economist John Taylor, provides strong evidence that Lehman’s failure was merely another milestone in an ongoing credit freeze. But Taylor does blame Paulson in the poor public communication efforts surrounding TARP that made the program seem like a rushed and panicky response to the crisis. The bad-mouthing of the economy that Paulson and Ben Bernanke undertook to get Congress to fund TARP also unnerved markets and American consumers.

Then with markets quickly deteriorating, Paulson decided to use TARP to inject capital into banks rather than buying bank assets. Taylor concludes: “At a minimum a great deal of uncertainty about what the government would do to aid financial institutions, and under what circumstances, was revealed and thereby added to business and investment decisions at that time.”

Of course, Paulson and Bernanke could have skipped TARP altogether, letting a combination of accounting changes, bank bond and money market guarantees, and Fed lending facilities do the heavy lifting. Former Treasury official Phillip Swagel, though, rejects that counterfactual approach in a recent paper: “With financial institutions beyond Lehman weakening as asset performance deteriorated, it seems likely that the lockup would have taken place, and perhaps sooner than later.”

Perhaps, but TARP has also served to give government an unhealthy foothold into America’s capital allocation system and  furthered the costly bailout fever (and accompanying moral hazard) that hopefully may have finally broken with the government’s decision to not save CIT Group.

Yet any errors must be placed in the context of a fast-evolving financial crisis. It would have taken a cool hand indeed (as well as a strong stomach) to have not attempted something like a $700 billion toxic asset buy. Hey, had that silver-bullet plan had enough time to be put into effect, Uncle Sam could be sitting on some potentially quite profitable assets today.

In the end, however, if the U.S. economy avoids both bank nationalization and a long period of economic stagnation following the double bubble trouble, Paulson may well be judged “substantially correct.”


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You have to be kidding. Paulson was the lieutenant of the elites who have perpetrated the grandest larceny ever perpetrated, anywhere by anyone. And it seems they are getting away with it judging from the record profits at Goldman and other crony-bound institutions. By the way, the toxic assets are still toxic. Accounting gimmicks are exactly that….gimmicks. The system is supposed to let the losers pay for their mistakes. Instead we are “bailing them out”. It should be jail that they were being bailed out of.

Posted by Jonathan Cole | Report as abusive

The choices that were made and which are still in process are likely to prove catastrophic as we are now attempting to build a new bubble in the equity markets based on false confidence, false assumptions, and massive deficits.

These are the same dispositions that created the problem, and they are still very much in place.

They are the policies of Obama, who has sought out and accepted the advice of Summers and Geithner, who have attempted to preserve the world of the past rather than allow the horrific imbalances to correct themselves while attempting to shield those who are most vulnerable.

Consider the inconsistency of an approach that has let the competitors of the likes of JP Morgan and Goldman die, while shoring them up, which constitutes the creation of Really Too Big To Fail And Effectively Coterminous With the Government while letting CIT collapse and if thousands of small business fail for lack of access to credit, well .. too bad.

It seems to me that at this point the US Government and the Financial Interests are very nearly as deeply corrupt as Russia. So far, however, we’ve had fewer shootings of critics in elevators.

I suppose that’s something, but it isn’t much.

This is a deeply corrupt, deeply flawed polity.

Let it fall.

Posted by Super Snark | Report as abusive

I like every other individual American have seen absolutely zero benefit from the intangible bailout activities of Treasury.

Hank Palson had as close to an impossible job in a zero win situation. His decissions in a large part rewarded the banks for behaving badly, particularly his alma mater Goldman Sachs who used Billions of Taxpayer Dollars to support their program trading effort to make Billions of Dollars which will be paid out in Bonus Money. Though the average American might not realize this saved their 401K through the massive inducement strategy.

One reporter put it best when the called the bailout the alcoholics ‘hair of the dog’. The Taxpayer is mad because now that the markets have had another drink and the bankers have preserved their bonus money – joe blow on the street is living in a homeless shelter and can’t get a nickle.

Joe Autoworker has just heard his job is never comin’ back and Joe Michigan just heard their unemployment will probably go from 15.8 to 20%.

Seeing the bankers win while everyone else in the country loses.

No one is in the mood to toast Paulson but everyone in Government knows it is a thankless task.

Paulson did what was necessary within the boundaries of law, which is more than you can say of most.

I’d love to find fault with him, because I’m mad.

But I can’t.

He solved the problem.

We’re lucky he was Treasury Secretary.

The bad news is ‘Too bad the rest of us are screwed.’

Posted by James Reginald Harris, Jr. | Report as abusive

Paulson is the guy who saw the coming meltdown in
real estate and shorted mortgage backed securities.
Rather than sound the alarm, he rode the debacle down
and made a billion or so. Then he was picked to save
us from the calamity he made a fortune on.

Posted by zopilote | Report as abusive

The acronym ‘TARP’ is hardly coincidental – a “tarp” (short for “tarpaulin”) also is a large canvas under which one hides ugly things… in this case, these hidden ugly things include crony ‘capitalism’, massive increases in the public debt, de facto nationalization of the U.S. financial system, and policies which serve only to postpone and ultimately worsen the inevitable financial collapse.

“Too big to fail” = “too big to exist”. Let’s just get this over with; the sooner we do, the sooner we can pick up the pieces and start over.

Au, Ag, Pt, Pb

Posted by Trouble | Report as abusive

With Paulson as SecTres and Bernake as FedChair the astonishing trading of specious investment banks has no parallel.

Bear(just a lousy investment bank) fails into the arms of JP Morgan(Fed Shareholder) with Fed loan guarantees.

Lehman(just a lousy investment bank) fails into dust. Treasury says they can’t do anything to save it. The Fed says they can’t either. What they’re really saying is none of our Fed shareholders are at risk if Lehman fails.

Goldman and Merrill start to teeter because the markets get wind of the exposure of AIG to Bear and Lehman for selling insurance on securities that “don’t fail”. AIG panics and calls the Fed and Treas. Shockingly, now both of them have the powers to save AIG which extends the life of Goldman and Merrill.

Weeks later, Merrill fails into Bank of America(Fed shareholder). Goldman asks the Fed if they can become a bank holding company(makes them a Fed shareholder) and poof, the Fed says “no problem”. Then GMAC asks if it too can become a bank holding company. “Why not” says the Fed.

Goldman Sachs has pulled off one of the greatest cons ever. This is just incredible. And this is the second time they have done this to save themselves.

Just stop pretending as if the Fed and Treas do not have these powers to do whatever the heck they want. They do have these powers. They should just tell it like it is. The United States capital equity is being mortgaged by the Federal Reserve to create cheap and easy credit for the emerging economies in China, India, and Brazil.

Posted by WTF Capital Investments | Report as abusive