Thursday, November 05, 2009

A Sit Down With Senior Treasury Officials - Part II

In Part One of the recap of my trip to the Treasury, I outlined the questions and answers related to variations on the concept of "extend and pretend" - the refusal to acknowledge bad debts and instead attempt to stick our proverbial policy finger in the dyke and hope that the water will stop spraying out.   Most of the attendees have written recaps of the event, and I found Steve Waldman's piece today to be quite well done, as is David Merkel's ongoing recap.

Later in the meeting, I had the chance to ask a Senior Treasury Official (STO) a question related to this testimony last week from Treasury Secretary Geithner (note - Ritholtz has the location wrong - it's actually from the House Financial Services Committee, I believe):

To summarize the video testimony in the link above: Geithner outlined 5 key points to the Administration's proposed regulatory reform bill:

1) The government has to have the ability to resolve failing firms, with losses absorbed not by the taxpayers, but by the unsecured creditors and equity holders.
2) Firms who cannot survive without government support must face the consequences of that failure.  The government would facilitate the "orderly demise" of the failing firms, not ensure its survival.
3) Taxpayers must not be on the hook - the government will recoup losses by assessing fees on industry peers
4) The FDIC and FED must have limited authorities with respect to these abilities to take over failing firms
5) The Government must have stronger supervisory authority.

Now, the first three points from Geithner's testimony are the main ones, and they are a good idea - they are pretty much saying that we'd never have bailout like we had the last time, where taxpayers were asked to front the capital that the bondholders (in the form of haircuts and debt for equity swaps) and equity holders (in the form of dilution) should have had to pay for.   I think that most of America would agree that these three points are reasonable, and at the very least, a good start.  My question for the STO was how these three new ideals jived with the recently announced imminent THIRD round of bailout money for GMAC.

Back in May, I was stonewalled by Barney Frank when I asked him why bank bondholders and auto bondholders faced such disparate treatment in the bailout proceedings - with the auto bondholders being forced to make concessions as they rightly should have, while the bank bondholders went on their merry way and watched the government commit taxpayer dollars to shore up their balance sheets.

Sadly, I had a similar feeling when the STO responded to my question about GMAC, explaining, basically, that GMAC was different.  The GMAC bailout was part of the Capital Assistance Plan, where the Treasury stood ready to commit capital to any bank that couldn't raise the capital it needed to raise as identified by the stress tests.  GMAC was the only such entity unable to raise its own capital, and the Treasury was making good on its promise.  I was told that the new rules were for the future, which left me raising an eyebrow, as I was complaining about a third round of funding for GMAC that was being announced as we were sitting in that conference room at the Treasury!  It wasn't the future - some as yet unforeseen disaster - it was happening as the Treasury was announcing policies to say that it wouldn't happen!

The STO clearly didn't want to debate this with me, but must have noticed my squirming, wrinkling my nose, and raising my eyebrows as if I'd just walked into a bathroom at Penn Station, because as he was responding to another question, he briefly addressed me, noting that this was another example of how the rules would need to be flexible.

This was even more disturbing, as I basically took it to mean "there will be no bailouts like we had before, UNLESS there needs to be bailouts like we had before."

John Jansen  asked a question regarding the re-opened 3 and 7 year Treasury notes, and the potential saturation of demand due to the massive annualized issuance in these midrange maturities, which he pegged at nearly 1.2 TRILLION dollars a year.   John was similarly stonewalled with a response that basically consisted of "why would you think that?"   A bit perplexed, John replied that this was simply a tremendous amount of issuance, but was told that he'd need to discuss that with a different Treasury official.

One viewpoint I was surprised to hear expressed by a STO, but one that I strenuously agree with, was the dismissal of the notion that investors were duped into buying much of this toxic paper that has inundated our financial system.  It was noted that the products could be understood by those who deigned to actually understand them, and that those who didn't understand what they were buying were responsible for their decisions.  It's pretty clear to me that it's not that the buyers were duped by spurious Wall Street salesmen, but rather by their own greed and relentless hunt for yield in a low interest rate environment.  Interestingly, I tend to have similarly little sympathy for homeowners who claim they didn't understand their mortgages, which leads me to a quick tangent about consumer protection - another topic which was discussed briefly.

I believe some of this is already in the works, but I'd like to see standardized credit card and mortgage documents that have data just like all food products now do - only instead of listing fat content, vitamins, and calories, these docs would list interest rates, loan length and terms.  There should be no fine print - and that goes for television ads too.  A pet peeve of mine are auto ads on tv where there is fine print on the screen that I can't even read if I pause my digital video recorder on my HDTV.  Consumers need to be protected from their own ignorance.

Tyler Cowen asked if the Treasury was worried about the possibility of the economy falling off a cliff, and was greeted with a response that pretty much summed up the Treasury's options:  the response was essentially (and this is not a direct quote) "what else can we do - should we try to pull that potential cliff forward instead of pushing it back?"  Before I could jump out of my chair and shout "BUT PUSHING THE CLIFF BACK MAKES IT TALLER TOO!"  Tyler Cowen uttered almost those exact words.  The STO nodded and pursed his lips - acknowledging the possibility of that reality.

In summary, I think this was an interesting opportunity to gain insights I'd rarely expect access to from senior government officials.  However, one of the bloggers summed it up on the way out, saying "the concept of the meeting was probably cooler than the actual meeting," and I was left feeling similarly unsatisfied, considering the relative brush off of what I thought was a very well reasoned question (GMAC).   I got the impression that the Treasury officials are still very concerned about what the results of their policies will be, and for good reason.  As I've said before, I don't think that continued stimulus or failure to mark to market - the extend and pretend policy - solves anything.  To use an overdone analogy:  you can't give a drunk another drink to help him avoid a hangover.  That hangover is inevitable, and by postponing it with another drink, you're making the eventual reckoning worse, although later!

Unfortunately for the Treasury, much like Tom Cruise's Lt. Daniel Caffy in A Few Good Men, I just don't think America can handle the truth

The truth is that expansion doesn't last forever, even in our economy that seems to rely on expansion (Ponzi?) to run - and that the only way to resume growth is to first acknowledge hundreds of billions, if not trillions of dollars worth of bad debts that need to be washed away.  The Administration, politically, cannot tell this to the people - no Administration can - it's a sad fact of politics.  In times of trouble, politicians who do the right thing and make the tough decisions sign their own political death warrants.  The officials making these policy decisions at the Treasury are clearly not stupid - I think the main realization from this meeting for me was that they really don't feel like they have any other choice but to TRY to resolve the issues in a way that avoids current mass financial pain.   Is it possible that the Fed can simply buy up all the bad debts?  Maybe - I mean, it looks like they are actually trying to do that.  Will the effects of that - potential hyperinflation and pervasive moral hazard be worse than if we "took our medicine" and allowed the system to implode sooner?  That remains to be seen. 



getyourselfconnected said...

unreal. just unreal. Great journalism I apprecite it.

I think we can guess the real policy in place now.

Better to hide than be upfront about things.

Huge diclaimer: I am long gold but maybe you should be;
plus toilet paper
canned soups

Anonymous said...

Great post and appreciate your insights.

Lockstep said...

great post. keep them honest, kid.

The Bracelet said...

Well done, sir.

Anonymous said...

Great reading. We need more people like you trying to get at the "truth".

Anonymous said...

Thanks for the writeup, and thanks for taking the time during a busy week to head to the meeting.

WRT the GMAC question, I think it is both an excellent question to have raised, and the only answer possible to have received under the circumstances. I really can't think of what else they could have said that wouldn't become an unwelcome news item.


BullandBearWise said...

Given the choice between food lines like the Great Depression and a Lost Decade like Japan, which would a policy maker choose? It's a no-brainer, really.

Long Time Lurker at Across the Curve said...


You guys were played and don't even know it...

It's typical that people come out of meetings feeling "gee I hoped it would be better". AND NEVER ASK "Hey what did the other party get out of this?".

Bottom Line you guys were a free focus group for the "new new" message that the Tresury will be trotting out in about 1-2 months.

AND from reading part 1 I think I know _WHY_ you were invited.

To Quote:
"This drew a chorus of "whoa whoa's" and a murmur from a number of STO's present in the room, who quickly banded together to clarify that no one knew the results of the stress tests before they happened, and that they were designed to restore confidence by identifying the levels of capital needed by the banks, and requiring them to raise such capital."

The "Whoa Whoa" is that the treasury wants to recast the Stress Tests as something else now.

So what is the new new spin?

That Identifying the capital needed is what the Stress Test was all about? This is new... earlier this year the tests were to PROVE what banks were sound. And strangely enough they all were go figure.

Or more ominously perhaps they are a few months away from HAVING to explain why the stress test need "re-explaining".

Kid Dynamite said...

@ Lurker - on the contrary - they want the stress tests to just go away, but when they used it as a political point of success, we called them out on it.

it's really hard for anyone to make a sensible argument that I'd have been better off by refusing to attend this meeting, or that i was somehow owned or played by the Treasury.

Kid Dynamite said...

@BullandBear - that is a beautifully simple explanation of the Administrations actions.

My problem is that it seems like we'll be facing the lost (half) decade, and THEN the Great Depression lines when reality hits and the delay and pray method fails!

Longtime Lurker said...

Yep they want stress tests to go away... that's why they had pat answers at the ready. Ok... Santa Claus is comming to town too

Please think a bit more deeply than the standard "troll swat" reply.

The Treasury wanted this meeting to occur. Why?

To entertain themselves?
To communicate with the blogsphere in a more direct avenue?
To answer all your little questions?

Come on. You play poker what happens when a guy bet strong pre then gets cards that are no help on flop, 4th and 5th?

They are TESTING something out. Think about it.

Kid Dynamite said...

look, Lurker, if you think I'm now another arm of the Treasury, or that I've proven to be an instrumental cog in some well designed market research test they're doing, well then, you have a different interpretation of my recap than I do. I hardly think I was complementary or in agreement with any of their policies.

And yes - I'm no fool - the FIRST thing I did when i received the invite to the Treasury was to figure out why they'd do it. the answer is not hard - they hoped to convince some intelligent yet non-wingnut people that their course of action was the right one. It's pretty clear to me, having attended the meeting, that they failed in this endeavor. None of us came away saying "jeez - i guess they ARE correct! this is great policy!"

anyway, what is your point? you think i got "played" ? you think i'd have been better off not going? I disagree

Lurker said...

To put a finer point on it.

Treasury Guy gave a presentation.

how senior was he?
who else from his tribal sub-dept was there?
if so was he observing reactions and not talking?
if not what did he say? what did he ask?

The Presentation

Was it powerpoint?
Did they provide slides?

IF so can we see them
(I know they were not made available... sigh you guys need better training)

Typical Preso Format
DISCLOSURE (whoa whats that!)

So did you guys pay attention or did you get distracted by the pretty picture part?

WHAT was on the last 2 slides???
What was ON THE SLIDE when he said -
"the focus was now on reducing the footprint of economic intervention cautiously, quickly and prudently."?

What you think you know about motive is probably mistaken.

Ok, I'll tell you. They were most likely looking for reactions to something new. They were most likely NOT justifying current policy.

The Played comment was to get your attention not get anyone riled. If you took offense I withdraw that statement.

Yes you were right to go and this may open up future discourse. Who knows? Its a wacky world these days Blogger goes to washington, NY whatever.

Anonymous said...

In one paragraph you state:
"It was noted that the products[toxic paper] could be understood by those who deigned to actually understand them, and that those who didn't understand what they were buying were responsible for their decisions."

But in the next paragraph you contradict yourself by stating: "Consumers need to be protected from their own ignorance."

Could you please clarify that.

Other than that, great recap.

p.s. Was there any period of time you cannot account for? When you got back home, did you check your body all over for any mysterious marks?
Did you touch anything there in a way that they could get a sample of your DNA? If so, then watch your back; They could now create a clone of you to control, and then go ahead and kill you.


Kid Dynamite said...

lurker - there were no slides - it was more of a discussion than a presentation.

at each of our seats there were some background materials, but they are nothing special, and were not gone through as part of the discussion. i didn't even read them until i was on my way home

there were a number of people around the room who looked like junior staffers - paying attention to their blackberries - in addition to the several (six to 8 - they came and went) treasury officials who were at the table.

Kid Dynamite said...

anon - there was a period of time where i fell asleep unexpectedly, and when i woke up my pants were unbuttoned.

what i meant by those two statements you asked about was that the first one applied to buyers of mortgage backed securities - financial institutions etc. who are generally sophisticated, and if they are not sophisticated, should not be trading these products.

The second sentence was about consumers - since it's clear we're not completely willing to tell people they need to be accountable for their bad mortgage decisions, we need to make it so that they can't claim ignorance - we need to protect them from their own stupidity with simple documents.

getyourselfconnected said...

"anon - there was a period of time where i fell asleep unexpectedly, and when i woke up my pants were unbuttoned."

BullandBear said:
"Given the choice between food lines like the Great Depression and a Lost Decade like Japan, which would a policy maker choose? It's a no-brainer, really."

My only problem is it implies policy makers have a choice.

Still, unemployment by some measures right now is as bad as the Depression, but the world is a very different place 70 plus years later. I do not think they had 2 years of unemployment back then.