Author: hankkalet

Amboy National Bank is building a new branch here in South Brunswick at a time when the American financial system is in turmoil.

Amboy’s success — like that of Magyar, First Constitution other local banks — stands in stark contrast to the bigger banks, but also demonstrates that lending institutions that avoid overreach also avoid over taxing their resources will not only survive or thrive.

Yippee. They did it. Congressional leaders from both parties and members of the Bush administration have agreed on a plan to bailout the financial system.

The plan, according to President George W. Bush, is “bold” and designed to “make clear that the United States is serious about restoring stability and confidence in our system.”

At $700 billion, it better be.

While the plan (a synopsis from The New York Times is pictured at the right) addresses some of the basic concerns raised by both conservatives and liberals, it essentially remains a dangerous gambit. In propping up the financial system, the federal government is hoping to ensure that credit continues to flow and that the economy will avoid a meltdown.

At the same time, however, it “looks like another of those shell games that Wall Street has honed to a fine art,” as Joseph Stiglitz points out.

Wall Street has always made money by slicing, dicing and recombining risk. This “cure” is another one of these rearrangements: somehow, by stripping out the bad assets from the banks and paying fair market value for them, the value of the banks will soar.

Just as importantly, he says, the bailout is just another in a long line of rewards for the bad behavior exhibited by corporate America. Wall Street is celebrating the plan, he says, because

the banks realized that they were about to get a free ride at taxpayers’
expense. No private firm was willing to buy these toxic mortgages at what the
seller thought was a reasonable price; they finally had found a sucker who would
take them off their hands–called the American taxpayer.

And while there are strings — limits on CEO compensation — it leaves homeowners who are facing foreclosure at the mercy of mortgage holders who sold them on dangerous mortgages and does nothing to address the basic reasons we are in this mess in the first place.

There are four fundamental problems with our financial system, and the Paulson proposal addresses only one. The first is that the financial institutions have all these toxic products–which they created–and since no one trusts anyone about their value, no one is willing to lend to anyone else. The Paulson approach solves this by passing the risk to us, the taxpayer–and for no return. The second problem is that there is a big and increasing hole in bank balance sheets–banks lent money to people beyond their ability to repay–and no financial alchemy will fix that. If, as Paulson claims, banks get paid fairly for their lousy mortgages and the complex products in which they are embedded, the hole in their balance sheet will remain. What is needed is a transparent equity injection, not the non-transparent ruse that the administration is proposing.

The third problem is that our economy has been supercharged by a housing bubble which has now burst. The best experts believe that prices still have a way to fall before the return to normal, and that means there will be more foreclosures. No amount of talking up the market is going to change that. The hidden agenda here may be taking large amounts of real estate off the market–and letting it deteriorate at taxpayers’ expense.

The fourth problem is a lack of trust, a credibility gap. Regrettably, the way the entire financial crisis has been handled has only made that gap larger.

Stiglitz says “There are alternatives.”

Warren Buffet showed the way, in providing equity to Goldman Sachs. The Scandinavian countries showed the way, almost two decades ago. By issuing preferred shares with warrants (options), one reduces the public’s downside risk and insures that they participate in some of the upside potential. This approach is not only proven, it provides both incentives and wherewithal to resume lending. It furthermore avoids the hopeless task of trying to value millions of complex mortgages and even more complex products in which they are embedded, and it deals with the “lemons” problem–the government getting stuck with the worst or most overpriced assets.

Finally, we need to impose a special financial sector tax to pay for the bailouts conducted so far. We also need to create a reserve fund so that poor taxpayers won’t have to be called upon again to finance Wall Street’s foolishness.

Or the government’s. It is important to remind Americans that the problem on Wall Street was not regulation, The New York Times writes, but a 30-plus-year assault on the regulatory system by conservatives.

This year’s serial bailouts are proof of a colossal regulatory failure. But it is not “the system” that failed, as President Bush, Treasury Secretary Henry Paulson and others who are complicit in the calamity would like Americans to believe. People failed.

For decades now, antiregulation disciples of the Reagan Revolution have eliminated vital laws, blocked the enactment of much-needed new regulations, or simply refused to exercise their legal authority.

The Times admits that there is a need to modernize regulations, that the “system has gaps.” However, the paper adds,

the failures that have landed us in the mess we are in today are not mainly structural. To assert that they are masks deeper failings and sets false terms for the upcoming debate on regulatory reform.

There has been a failure to engage the issue, the paper says, one based on the notion that the market is always right. This allowed the folks on Wall Street and in the banking industry to create an array of unregulated financial gimmicks and engage in some truly unsavory lending practices — the pyramids that I mention in my column from Thursday.

Conservatives want to blame lower-income folks for believing the hype sold them by the banks, for taking out mortgages they could not afford even though they were being told by the industry that they could. The regulatory structure — firmly in the hands of conservatives who “simply refused to exercise their legal authority,” as the Times says — failed to protect the people taking out these mortgages and the taxpayers who are now being asked to clean up the mess.

Add to this the “systematic dismantling of laws that called for regulation” and it is clear that the zealous antiregulation/deregulation approach that, during the Bush years, “found full expression, fueled by an ideology that markets know best, government hampers markets, and problems will magically fix themselves,” is just plain wrong.

Reregulation of the banking and financial sectors must be a priority. That this plan does nothing to enhance the regulatory framework is more than unfortunate. It may be another in a long line of missed opportunities that helped get us to where we are in the first place.