Your 12:45 Economics Lesson

Yglesias: Obama Argues That Avoiding Nationalization is a Way to Save Taxpayers Money

In today’s speech, being delivered right at the moment, Barack Obama offers a rationale for why they’ve avoided nationalization of large banks that I think is different from what we’ve heard before:

On the other hand, there have been some who don’t dispute that we need to shore up the banking system, but suggest that we have been too timid in how we go about it. They say that the federal government should have already preemptively stepped in and taken over major financial institutions the way that the FDIC currently intervenes in smaller banks, and that our failure to do so is yet another example of Washington coddling Wall Street. So let me be clear – the reason we have not taken this step has nothing to do with any ideological or political judgment we’ve made about government involvement in banks, and it’s certainly not because of any concern we have for the management and shareholders whose actions have helped cause this mess.

Rather, it is because we believe that preemptive government takeovers are likely to end up costing taxpayers even more in the end, and because it is more likely to undermine than to create confidence. Governments should practice the same principle as doctors: first do no harm. So rest assured – we will do whatever is necessary to get credit flowing again, but we will do so in ways that minimize risks to taxpayers and to the broader economy. To that end, in addition to the program to provide capital to the banks, we have launched a plan that will pair government resources with private investment in order to clear away the old loans and securities – the so-called toxic assets – that are also preventing our banks from lending money.

This I think is close to right. Though the real issue, I think, is less that a takeover would cost “even more in the end” than it is that a takeover would cost even more in the beginning. To do it, the administration would need to get congress to authorize a frightening level of expenditure that congress is, frankly, unlikely to agree to. The virtue of the PIPP is that it might work, and it can be done with existing authority. Many experts would say that to think the PPIP will actually be enough money in the end, and thus fulfill what Obama is promising here, is wishful thinking. And it very well may be wishful thinking. But given the real institutional and political constraints, it’s not clear to me that the administration has any better path available to it in practice. PPIP should do some good, might work, and if it doesn’t work then they can try to convince congress that the time has come for desperate measures.

What’s disappointing about this section of the speech is the incredibly vagueness about what will happen if stress tests prove that banks need additional government capital: “where this is not possible, and banks require substantial additional resources from the government, we will hold accountable those responsible, force the necessary adjustments, provide the support to clean up their balance sheets, and assure the continuity of a strong, viable institution that can serve our people and our economy.” What does that mean?

I liked Obama’s capsule explanation of the paradox of thrift:

You see, when this recession began, many families sat around their kitchen table and tried to figure out where they could cut back. So do many businesses. That is a completely responsible and understandable reaction. But if every family in America cuts back, then no one is spending any money, which means there are more layoffs, and the economy gets even worse. That’s why the government has to step in and temporarily boost spending in order to stimulate demand. And that’s exactly what we’re doing right now.

I also think the thing about the Sermon on the Mount that he hasn’t said yet but that I’ve already read in the prepared text is pretty good.

Sully quotes Reich Not At The Beginning Of The End?

Robert Reich counters the Kudlow crowd:

I'm not even sure we're at the end of the beginning. All of these pieces of upbeat news are connected by one fact: the flood of money the Fed has been releasing into the economy. Of course mortage rates are declining, mortgage orginations are surging, and people and companies are borrowing more. So much money is sloshing around the economy that its price is bound to drop. And cheap money is bound to induce some borrowing. The real question is whether this means an economic turnaround. The answer is it doesn't.

• John Cole adds it is Delusional
  

  I’m sitting here working and the idiot box is on in the background, and the talking heads keep talking about whether or not the economy has turned and using as evidence that Goldman Sachs and another Bank made a profit.

  Has it not occurred to these people that the “profit” these guys made would be non-existent without the AIG bailout and all the money funneled to counterparties? I would love for things to turn around, but given the unemployment numbers, the sales numbers today, and all the other bad news, it just seems insane to think we have bottomed out, especially since we had to spend a trillion or so dollars bailing people out to record this illusory one billion dollar profit.

  Am I missing something here? I think things are going to be catastrophic in the short term when the auto industry takes the inevitable big hits in the next few months.

• atrios piles on with Lucy's Football

  How many stories will our credulous press write about how big financial institutions are on their knees begging to be allowed to give back all the free money they were given. You know, when they can... maybe... some day! It's absurd.
  
  Six months after accepting a financial lifeline from Washington, a newly profitable Goldman Sachs is pushing to return the billions of taxpayer dollars that it received in an effort to extricate itself from heightened government control.
  
  Goldman, which rode out the final, tumultuous months of 2008 with the help of a federal rescue, reported strong quarterly profits on Monday and said that it would seek to raise money in the capital markets to repay the government.
  
  If successful, Goldman would become the first major bank to return funds received under the Troubled Asset Relief Program, or TARP. Such a step would probably enable Goldman — long one of the most lucrative places to work on Wall Street — to free itself from government-imposed restrictions on compensation. This narrative of poor widdle financial institutions desperately trying to get out from under the horrible onerous government restrictions is repeated daily. So stupid.

Yglesias: Wells Fargo Needs Tens of Billions in Extra Capital

Wells Fargo may have posted a record profit recently, but it’s important to note that left to its own devices the bank would have gone out of business already and not be posting any profits at all. Indeed, it appears to be undercapitalized by tens of billions of dollars:

Wells Fargo & Co., the second- biggest U.S. home lender, may need $50 billion to pay back the federal government and cover loan losses as the economic slump deepens, according to KBW Inc.’s Frederick Cannon.

KBW expects $120 billion of “stress” losses at Wells Fargo, assuming the recession continues through the first quarter of 2010 and unemployment reaches 12 percent, Cannon wrote today in a report. The San Francisco-based bank may need to raise $25 billion on top of the $25 billion it owes the U.S. Treasury for the industry bailout plan, he wrote.

This is why nothing you near from the financial sector about how all’s well should be taken too seriously. It’s true that given very bank-friendly monetary policy it’s easy for banks to run an operating profit. But most of these large banks are zombies—insolvent. They’re only able to run an operating profit because they’re not going out of business and being liquidated. And the reason they’re not being liquidated is government guarantees. It’s as if I had a profitable business selling cookies, except I didn’t actually have any cookies to sell and was just putting government-provided cookies in boxes, then bragging about how profitable my company is and how the government should stop hassling me about paying myself a bonus.