The Bad Bank Bailout Plan

Was that an ambiguous title? It works both ways. Seriously, how can I make sense of this? Why do Geithner and Obama believe its okay to keep trucking out the same, tired idea without responding to the critics, explaining why their plan is better than the alternatives, or explaining why we should expect it to work? I have tried to assess the plan sympathetically, but what's to love?

The plan is likely to offer generous subsidies, in the form of low-interest loans, to coax investors to form partnerships with the government to buy toxic assets from banks.

So we give money to "investors" who can safely overbid on securities, while the government protects them from taking losses. The most charitable interpretation of this would seem to be that the Obama Administration believes that market prices for toxic securites are significantly below their actual worth, and thus that there's minimal downside in creating a system that inflates their price. A far less charitable interpretation is that this is seen as a quick way to clear banks' balance sheets of garbage assets for something close to book value, with the difference between the inflated purchase price and actual value being absorbed the taxpayer over time... perhaps $100-$200 billion per year, or so.

To help protect taxpayers, who would pay for the bulk of the purchases, the plan calls for auctioning assets to the highest bidders.

As others have pointed out, taxpayers do the best under this plan when sale prices are low, as we're protecting the investors from taking losses. Auctions don't protect taxpayers - higher purchase prices make eventual losses more likely, and thus increase the risk to taxpayers.

The goal of the plan is to leverage the dwindling resources of the Treasury Department’s bailout program with money from private investors to buy up as many of those toxic assets as possible and free the banks to resume more normal lending.

Call it the "hair of the dog" cure - fix the hangover from excessive leveraging of debt with a bit more leveraging.

Because the government can hold those mortgages as long as it wants, officials are betting the government will be repaid and that taxpayers may even earn a profit if the market value of the loans climbs in the years to come.

Why are we betting, when it's... not necessarily easy, but perfectly feasible to check beneath the hood? What about that isn't supposed to make me conclude that the last thing Geithner wants to do is find out what these securities are truly worth. If you don't trust market value, why not look at the underlying assets, the default rate, recoveries after foreclosure, the number of properties that aren't likely to ever recover in value....

Analysts worry whether the prices investors offer will be high enough to induce the banks to sell assets. The hope is that high valuations at the auctions will increase the price of assets that remain on the books of banks, bolstering confidence in the sector.

This part has never made much sense. It's a given that these assets are overvalued by banks, at least compared to current market values. Swapping the bad assets for cash doesn't improve the bank's balance sheet, but perhaps we've injected enough cash into the banks that Geithner no longer regards that as a concern. Yet it's reasonable to assume that banks aren't going to want to worsen their balance sheets.

This notion that "auctions will increase the price of assets that remain on the books"? Where's the basis in reality for that type of optimism?

Many investment executives said they were worried that participating in any bailout program would expose them to political wrath and potentially steep new restrictions on their own pay.

Yeah, so many that you can't even name one. Spare me.

Rather than trotting out the same plan, with a few details changed, time and time again, I would really like it if the Obama team would explain (a) the assumptions they are using, particularly in relation to toxic assets; (b) why they believe toxic assets are undervalued by the markets, using objective data; (c) why they believe banks are either fairly valuing or undervaluing those same assets, even though they're listing them far above recent market prices, using objective data; (d) the precise nature of their plan; (e) why their plan is better than alternatives - in detail; and (f) how much they expect it to cost taxpayers, both if it goes as planned and if it turns out that critics of this plan are correct.

I'll add this; I'm still willing to assume that Geithner is a dedicated, hard-working public servant who means well, and who believes in this approach to the problem. But if he can't or won't explain himself, he deserves no deference.