St. Elizabeth, Mythmaker

A mostly political Weblog.
Sept. 19 2008 6:15 PM

St. Elizabeth, Mythmaker

It's your fault for wanting to know the truth.

(Continued from Page 1)

2) I don't have to imagine what a future administration might do with the unchecked power to spend $700 billion, potentially rewarding friends, etc. I'm worried what the current administration would do. Paulson seems like a straight shooter--but these are Bushes we are talking about. They value loyalty and keep lists. The President tried to put his personal lawyer on the Supreme Court. Enough said. ...

3) Gingrich worries about "a one-week solution that becomes a 20-year mess." I don't see the danger of a 20-year mess. It's only a trillion dollars. It won't take 20 years to spend.

4) Sebastian Mallaby and Paul Krugman both make plausible cases against the bailout. Unfortunately they seem to partially contradict each other.

Krugman (like Joe Nocera) wonders what price the government will pay for the toxic assets its buying--will it drive a hard bargain, paying no more than"fair value"-- in which case it wouldn't seem to be doing much to help the firms it's buying from. Or will it overpay, in effect lavishing a taxpayer windfall on Wall Street screw-ups without asking anything in return? The scheme only makes sense, Krugman notes, if

this is mainly a liquidity problem. So if the government stands ready to buy securities at "fair value", all will be well.

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Mallaby, on the other hand, worries that there is no market price--no "fair value"--at all, and no way of knowing whether the government will have overpaid:

But under the current proposal, the government would go out and shop for bad loans. These come in all shapes and sizes, so the government would have to judge what type of loans it wants. They are illiquid, so it's hard to know how to value them. Bad loans are weighing down the financial system precisely because private-sector experts can't determine their worth. 

In other words, as I understand it, Mallaby says there is too a big liquidity problem, which is precisely what (as Krugman notes) Paulson's bailout is designed to fix--by pricing the toxic assets via a "reverse auction," in which the government pays the lowest possible price, and in effect answers the question "private sector experts" can't.

I don't know if it will work (and I don't see why, to make it work, the government needs to spend all $700 billion dollars). But I don't think both Krugman and Mallaby can be right about why it won't work.

5) Mallaby worries that the government might prop up "the sickest institutions." But in a "reverse auction," in which the government was not overpaying, wouldn't it be mainly the healthiest institutions who could take the low price and still be happy to get the toxic assets off their balance sheets? Or would, in fact, only the weakest and most desperate institutions jump at even a lowball offer?

I don't know the answer. If I did I'd have 13 cars by now.  ...  9:26 P.M. link

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