On Geithner's PPIP Plan

Earlier today I published this post with two video clips of economist James Galbraith opining on Treasury Secretary Geithner's PPIP plan. My business partner noted that the accompanying text with the videos, provided by fallen tech brokerage analyst Henry Blodget, is quite good and concise. These two charts, here and here, are very arresting.

Galbraith and his interviewers make the case that there is, and always has been, a perfectly good alternative to all of these bailout and rescue plans. Simply put, place insolvent non-bank institutions into bankruptcy, take the banks into the FDIC and put insured depositors into new institutions, while allowing other institutions to bid on the loans and other assets of the failed financial firms.

However, Geithner, his boss, and even people like NY insurance czar Eric Dinallo, this morning on CNBC, swear that the only way credit markets can be rehabilitated is through the process that Giethner proposes. Which, by the way, as Blodget notes, is very much the same vehicle that Paulson proposed with the TARP. Government organizes a sale of assets to the private sector. You can quibble about whether the government attaches a guarantee of some sort to it, and how much each shares in loss or profit, but the basic idea is the same.

Galbraith and Blodget demolish these arguments, and more, in their respective critiques of Geithner's DOA plan.

Then we come to the recent furor over the AIG retention payments. Holman Jenkins of the Wall Street Journal wrote on Wednesday of this week, in his column entitled "The Real AIG Disgrace,"

"Yet the AIG bonus episode, the administration's one true disgrace so far, will not soon be forgotten.

Tim Geithner is rightly on the hot seat for saying he didn't know about the bonuses until just weeks ago -- because he should have quelled this furor before it ever got started. Instead he played dumb and climbed aboard the outrage bandwagon -- and let Mr. Obama do the same.

Whether Mr. Geithner knew the specifics is unimportant. The retention plan was known to his staff. The details had been disclosed over and over in public filings. As far back as October, New York Attorney General Andrew Cuomo had summoned the Treasury-appointed Mr. Liddy to hammer out a deal on AIG's pay practices. Said Mr. Cuomo in a statement afterward: "These actions are not intended to jeopardize the hard-earned compensation of the vast majority of AIG's employees, including retention and severance arrangements, who are essential to rebuilding AIG and the economy of New York."

The voluble Rep. Elijah Cummings had been railing about AIG retention bonuses almost continually, on air, in the print media, and in publicly released letters to Mr. Liddy, since Dec. 1.

On March 3, Mr. Geithner himself was quizzed during a congressional hearing in detail about the AIGFP retention plan by Democratic Rep. Joe Crowley -- a week before Mr. Geithner now says he heard of the plan.

But the biggest lesson here is the old one that the price of freedom is eternal vigilance -- beginning with insistence on the rule of law. Americans clearly cannot trust their elected officials to defend their rights and interests, or care whether justice is served, when the slightest political risk might attach to doing so.

Which brings us back to Mr. Cuomo, whose office has been implicitly threatening to publish names of AIG employees who don't relinquish pay they were contractually entitled to.

Mr. Cuomo is a thug, but at least he reminds us: It can happen here."

First, I think it bears some consideration of what must have transpired for Jenkins to write that last sentence. I would bet that Rupert Murdoch himself cleared it. You don't call the NY AG a thug without steeling yourself for retribution.

But, beyond that, Jenkins' careful recounting of who knew what, when, demonstrates another, more human behavior-based reason why Geithner's PPIP program will fail.

No matter what Geithner swears will be acceptable, including massive private investor profits on these toxic assets, he can't actually guarantee that Congress will not react in the future the same way they reacted to the very reasonable and already known AIG retention payments, i.e., abrogate contracts, pass bills of attainder, and otherwise behave unconstitutionally.

Why will any private investor believe an administration's promises? Remember when Hank Paulson swore that TARP funds would not entail any active interest whatsoever by the federal government in the institutions which agreed, upon request, to accept the money?

Now they have their entire compensation systems subjected to Congressional mandate.

The truth is, nobody knows how today's buyer of a PPIP-offered asset will be treated next quarter, or next year, by Congress, when, in a fit of pique, that branch of government decides that the profits earned by those private buyers are, in fact, unacceptable. That the deal offered by the PPIP was not fair to taxpayers. Or whatever other ex post facto reason Congress may choose to use to unfairly appropriate gains after the fact.

The banks selling the toxic assets at low prices will risk insolvency. The buyers will risk some loss, and, worse, taking of their profits by the government, if they do profit.

On many bases, Geithner's overly-complex, ambitious and naive plan for relieving financial institutions of bad loans and securities won't work. It would be simpler to just force realistic valuations, close the insolvent institutions, transfer any insured deposits, and sell off the assets, thus providing real, market-determined prices. As well as removing inept management and providing room for better managers to provide fresh financing, when and as needed, to the economy.