Politics and policy from inside Washington
As usual, Ed Yardeni is exactly on point:
1) While Washington wants them to lend more, the bank examiners sent by Washington’s regulators are all over them to improve their credit quality and to tighten their lending standards.
2) They also observe that most of the big banks were forced to take TARP money they didn’t need or want last October 2008.
3) The bankers can’t deny that they contributed to the financial mess, but so did the government by pushing them to make subprime loans through the Community Reinvestment Act and by encouraging Fannie and Freddie to purchase these loans. In his recent book titled “The Housing Boom and Bust,” Thomas Sowell carefully documents this sordid tale of corruption in Washington and on Wall Street.
4) One of the main reasons that the banks are not lending is that the Federal Reserve is pegging the federal funds rate at zero. As a result, investors have scrambled to buy corporate bonds at a record pace. So corporations with access to the bond market have been able to raise lots of money. Indeed, many have raised more than they need, and they used some of the proceeds to pay down their bank lines of credit. Less fortunate borrowers are stuck with trying to get loans from their bankers. The problem is that many of them have become less credit worthy because the economy remains weak. The banks already have lots of problem loans and don’t want to make more such loans, especially with bank examiners on their backs.
A few thoughts on the banker summit at the White House:
1) Some banks were already trying to boost small business lending, such as Goldman Sachs and JPMorgan.
2) Lending was likely to rise anyway as economic growth picks up, so it will be tough to determine if this WH meeting had any independent impact.
3) For the all the talk about loan supply, far less about loan demand and how uncertainty over Obamanomics is chilling small biz expansion plans.
4) The Obama reform plan is not nearly as tough as the Obama rhetoric. It doesn’t embrace, for example, the preemptive dismantling of large, interconnected firms. It doesn’t reduce the Federal Reserve’s regulatory reach. It doesn’t restore the law separating commercial and investment banking. It doesn’t even give bankruptcy judges the power to alter mortgages.
5) Banks have clearly lost control of the narrative. Someone needs to highlight the role of government in creating the financial crisis.
I don’t see this happening in the US. I mean, the effort to raise taxes on private equity carried interest, while passing the House, is going nowhere in the Senate. And that is far less controversial and a less stupid idea. And remember how the 90 percent tax on AIG bonuses fell flat back in March. The one caveat, as Dan Clifton notes in an earlier post, here is that 2010 is an election year and the combo of big bonuses and high unemployment could cause endangered Ds to play the populist card and try something
Already, the crazy ideas are returning, such as mortgage cramdowns. But more could be on the way in 2010, says the great Dan Clifton of Strategas (bank bonus tax, American version?):
We are entering a period where bank profits are increasing but lending is declining. Bonus season is on the horizon while job growth remains negative. And bank lobbying on financial regulation is increasing while politician’s approval ratings are declining. Adding even more fuel is that with government spending up and tax revenues lagging, sovereign fiscal issues are rising to the top of policy matrix.
Henry Blodget explains how to prevent TARP 2.0 when the next financial crisis hits, which the WH embrace of TBTF makes more likely:
What’s the solution?
Debt that automatically converts to equity when a bank’s capital ratio falls below the required level. What does that mean? It means that equity holders will still get hit first if the bank makes dumb-ass loans. But it also means that if the bank makes so many dumb-ass loans that its equity gets wiped out, bondholders, not taxpayers, will pick up the rest of the tab.
How does it work? When the bank’s equity falls too far, some of the convertible bonds convert to equity, thus restoring the bank’s capital ratio. This happens automatically, without bankruptcy or fuss. It happens without surprise. It happens without threatening to bring the whole economy to its knees. It happens without Congressional moaning and hand-wringing and without Treasury secretaries dropping to their knees to beg and plead.
Bondholders who buy these bonds–now called CoCo’s, or “contingent convertibles”–know full well what they are buying, and the bonds are priced to reflect the equity conversion risk. Lloyds just sold a bunch of these in the UK, and there was a market for them.
To fix the banking system, all regulators would have to do would be to require banks to issue enough CoCos that they could withstand financial Armageddon without the taxpayer getting involved. The banks’ ability to make huge bets (and huge bonuses) with small amounts of equity would be preserved, so perhaps the bank lobbyists would agree to stand down for a while. The world could rest assured that SOMETHING had been done to prevent the same mess from happening all over again. And we could all return to peace, happiness, and prosperity.
Former Bush WH deputy press secretary Tony Fratto gives it his best shot:
Over the decades, large, complex financial institutions —big banks— have been unquestionably beneficial to the U.S. economy, and to the global economy. Big banks efficiently facilitate cross-border trade and investment on a global scale, resulting in benefits that have consistently accrued to consumers and improved standards of living for people in all markets.
Large U.S. financial institutions have also contributed to the development of deep, liquid capital markets here in the United States, ensuring unique access to global financing for U.S. firms. Scale and scope are needed to sustain global trade and finance, and big U.S. banks are leaders in delivering those services.
There are ways to increase the safety and soundness of big banks – to prevent the kind of explosion we saw with Lehman Brothers, but breaking up our big banks is the wrong way to go. Initiatives to raise capital levels, improve capital quality, decrease leverage and improve liquidity – across the entire global banking system – make sense.
Me: But I guarantee you that plenty of GOPers in 2010 and perhaps the 2012 nominee are going to call for breaking up the banks and paint the Ds as the party of Wall Street. The party will not be pro-Big anything
There isn’t much doubt that attempts to enforce strict application of mark-to-market accounting procedures has contributed to confusion, uncertainty and inconsistencies among financial institutions. There is a strong case for reviewing the application of so-called fair value standards to commercial banks, insurance companies and perhaps certain other regulated financial institutions.
The problem is not only the difficulty of measuring value in highly disturbed market conditions. More broadly, strict mark-to-market accounting — entirely appropriate for trading operations and investment banks — may introduce a degree of volatility in reporting incompatible with the basic and essential business model of banks, which inherently intermediate maturity and credit risks.
This gem from author and former investment banker William Cohan (via PBS NewsHour):
But I think we do need to restructure the entire architecture of the financial system while we have the opportunity. And letting these banks get out of the TARP and slither away from the grasp of the government at just the moment when we need to restructure the banking system is not wise.
Me: Does Cohan realize there are plenty of Treasury Department openings? Circulate that CV!
The TARP oversight panel, led by medical bankruptcy alarmist Elizabeth Warren, thinks it’s about time to redo the strest tests. Just talked to banking guru Bert Ely about this. He had a number of objections including a) allowing the repayment of$68 billion TARP money probably means the government is already factoring in worsening economic conditions , b) it raises the possibility of reigniting investors anxiety, and c) it continues the politicization of the bank via government control. To what end? To keep the banks under the thumb of Uncle Sam and influence lending. If you control credit allocation, you control the economy.