Edward Leamer is Professor of Economics and Management at UCLA. Please think this over, he pleads:
Here are some choice words from the Treasury’s LEGISLATIVE PROPOSAL FOR TREASURY AUTHORITY TO PURCHASE MORTGAGE-RELATED ASSETS:
The Secretary is authorized to purchase, and to make and fund commitments to purchase, on such terms and conditions as determined by the Secretary, mortgage-related assets from any financial institution having its headquarters in the United States.Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.
When I first read those words in an e-mail, I thought it was an Internet joke. I was sure the Treasury Secretary would be explaining exactly how he would acquire these assets, since the Devil is in the details. Instead, the Secretary merely wants authority to do whatever he wants. He doesn’t even give us a mission statement, or any metrics for the success of this venture.
I have lots of questions about this and I am sure you have many more:
- How is the Treasury going to determine the values of those illiquid mortgage-backed securities when Wall Street has failed to do so? Surely their values depend on future home prices and future mortgage default rates. How is the Treasury going to forecast home prices and default rates? Will these forecasts be made public?
- How is the Treasury going to avoid the winner’s curse: paying more for these assets than anyone else is willing to? More importantly, how can this plan help the financial institutions unless Treasury does pay more for these securities than their current private market auction value, and even more than their current book value, thus in effect making a capital infusion into the banking system?
- Isn’t there a big risk here for many financial institutions that by standard accounting rules are required to value their mortgage-backed-securities at “market prices” rather than internal prices, if there is a market. Once the Treasury starts buying these illiquid assets, there is a risk of major accounting losses that will raise more insolvency problems rather than less.
- Is Treasury going to buy these securities from firms that are well-capitalized and don’t need the help as well as from firms that are on the brink of insolvency? In other words, is this a way to rescue the mismanaged firms and keep the poorly performing management in place? If it doesn’t do that, what help can the plan offer?
- What exactly is the definition of a “financial institution” from which the Treasury will buy mortgage-backed securities? Does it include pension funds, and mutual funds? How about the loan I gave my neighbor that he now refuses to pay back? Am I a financial institution? I would like to be included in this too.
- How much in losses from this speculative enterprise can taxpayers reasonably expect? What systems will be put in place to limit the losses? Who will be held accountable for losses that exceed the limit? Who besides the taxpayers will have skin in the game?
- Why not just make a one-time Federal capital infusion into all the troubled banks, and let them do with the mortgage-backed securities whatever they like? That would leave the corpses in the hands of those who know where they are buried.1 Wouldn’t that be a more honest and more efficient way of doing this bailout? Or maybe we should just nationalize the whole banking system? (I don’t mean that!!!)
- Perhaps most importantly, have we thought at all about the unintended consequences of this government intervention into the capital markets? The Secretary pays a lot of lip service to the moral hazard problem but a much bigger one is the pound of flesh. Don’t think for a minute that Wall Street can walk away with $700 billion of the taxpayers’ money without draconian consequences. We may be opening up a regulation nightmare that will make Sarbanes-Oxley look like a walk in the park. But the Treasury offered no details. Absolutely none. So we are left to guess.