Private hands, public money
The U.S. Treasury Department, Federal Reserve, Federal Deposit Insurance Corp., Office of the Comptroller of the Currency, and Office of Thrift Supervision issued an unusual joint statement this week assuring the public that the government ”stands firmly behind the banking system during this period of financial strain.”
The nation’s top financial overlords also went out of their way to declare forthrightly that the government’s ”capital assistance program” comes with the ”strong presumption” that ”banks should remain in private hands.”
As Jon Lovitz’ famous ”liar” character used to say on Saturday Night Live: ”Yeah, that’s the ticket!”
The government’s tepid assurances about the sanctity of the banking system presumably were designed to anesthetize the patient as our federal financial surgeons prepare to perform several life-saving amputations using a multi-trillion-dollar hack saw.
The Treasury Department, which has invested more than $200 billion since September in a spectacularly ineffective effort to prop up Citigroup and AIG, has dropped all pretense of simply ”standing behind” these two dying, mismanaged behemoths. The government is now sitting on their chests, desperately performing CPR, as share prices for the twin basket cases rapidly head for penny-stock designation.
By the end of this week, it is widely anticipated that Treasury will convert the preferred shares it secured in Citigroup and AIG into common stock, effectively increasing the public’s stake in both financial giants to at least 40 percent. Holding this stake below 50 percent will permit the government to avoid using the dreaded word — nationalization — while not quite giving it the power to fire the greedmeisters who have been running these fiscal conglomerates into the ground.
Yeah, that’s the ticket!
The government also is preparing to conduct a ”stress test” of the top 20 U.S. banks (each holding $100 billion or more in alleged assets), apparently to determine which of these illustrious institutions merit the AIG/Citi treatment.
According to the government’s public explanation, these stress tests will measure how large banks would fare under extremely difficult financial conditions, such as high unemployment and negative growth for a prolonged period of time. The government tastefully did not specify what it means by ”prolonged period of time.” We know this is strictly a hypothetical scenario, but, just in case, we’ll ask the former Japanese finance minister to clarify this for us as soon as he sobers up.
The big banking honchos aren’t buying the government’s cover story. Acccording to today’s Wall Street Journal, the large U.S. banks believe the stress tests are merely a prelude to the creation by the government of new capital requirements for financial institutions. The government denies this.
”Additional capital does not imply a new capital standard and it is not expected to be maintained on an ongoing basis,” the federal regulators said, in their joint press release. ”Instead, it is available to provide a cushion against larger-than-expected future losses, should they occur due to a more severe economic environment, and to support lending to creditworthy borrowers.”
Somewhere, Jon Lovitz is smiling.
On Thursday, the FDIC will perform a different kind of ”stress test” on the American public when it releases its updated list of ”problem banks” that are at risk of failure. FDIC’s last tally totaled in the hundreds. Perhaps FDIC could save all of us some eye strain and simply release the much shorter list of banks that have a chance to stay alive in the current economic calamity.
The Obama administration is in the unenviable position of trying to execute a slow-motion nationalization of the banking system while assuring jittery bank shareholders and investors that it has no intention of nationalizing the banking system. And while it is performing this Kabuki break-dance, the government also is trying to figure out how to pay for the nationalization of the banking system.
A graph published in Friday’s edition of the The New York Times illustrates the scope of the problem with stunning clarity.
During the past eight years, the core of the financial system was transferred from the traditional banking regime — in which banks sold and administered mortgages and other loans directly to borrowers — into an unregulated, shadow banking system in which the assets that backed most lending were bundled into exotic instruments generically called mortgage-backed securities.
The entire banking system became dependant on a robust market for these speculative instruments. The big-name banks were simply fronts — they set up the loans, collected their fees and skimmed the lucrative froth off the speculative bubble — but the real money behind the banks came from the shadowy market for mortgage-backed securities.
According to the Times’ graph, the market for mortgage-backed securities peaked in 2006 at about $2.2 trillion. When the bottom dropped out last year, it collapsed to about $250 billion. In the frozen wasteland of this year’s economy, thus far only about $2 billion in mortgage-backed securities have changed hands.
Which means there’s a $2.2-trillion hole in the U.S. banking system where the money used to be.
The joint press release from the nation’s financial overlords helpfully points out that ”a strong, resilient financial system is necessary to facilitate a broad and sustainable economic recovery.”