I have made it clear that I think the notion of this Toxic Trust Company Of America is a flawed idea. However, many of you have written me and explained why you think its necessary and it is clear that the panic that has gripped the markets since Monday morning must be calmed. So if we are going to bail out all the bad actors of the last 8 years, we need to get something in return. All of the Wall Street types and neoconservative economists who have resisted regulation will have to surrender in return for the rescue of the capitalist system. Here are some thoughts.
The New RTC-Assuming the government commits $750 Billion to buy the bad loans from many financial institutions, the New RTC must extract warrants to purchase stock in each one of those institutions based on the face amount of the loans they are taking from the companies. Paulson is at heart a trader, and I’m sure he knows that the taxpayers need an upside for taking on all the risk. We did this with the Chrysler bailout in 1979, so there is a precedent.
Hedge Fund Transparency-Hedge funds will have to register with the SEC and be just as transparent as Mutual Funds. These pirates have escaped regulation for too long. They will need to disclose long and short positions in the same way mutual funds do.
Short Selling-We need to restore the uptick rule (you can only short on an uptick in a stock) and ban naked shorting.
Mark to Market-My friend Doug Newhouse sent me a essay by William Isaac, who ran the FDIC from 1980-1985. It explains why the new mark to market accounting rules helped cause this crisis. This clearly needs to be changed back to the way we did it in the 80’s.
The biggest culprit is a change in our accounting rules that the Financial Accounting Standards Board and the SEC put into place over the past 15 years: Fair Value Accounting. Fair Value Accounting dictates that financial institutions holding financial instruments available for sale (such as mortgage-backed securities) must mark those assets to market. That sounds reasonable. But what do we do when the already thin market for those assets freezes up and only a handful of transactions occur at extremely depressed prices?
The answer to date from the SEC, FASB, bank regulators and the Treasury has been (more or less) “mark the assets to market even though there is no meaningful market.” The accounting profession, scarred by decades of costly litigation, just keeps marking down the assets as fast as it can.
This is contrary to everything we know about bank regulation. When there are temporary impairments of asset values due to economic and marketplace events, regulators must give institutions an opportunity to survive the temporary impairment. Assets should not be marked to unrealistic fire-sale prices. Regulators must evaluate the assets on the basis of their true economic value (a discounted cash-flow analysis).
If we had followed today’s approach during the 1980s, we would have nationalized all of the major banks in the country and thousands of additional banks and thrifts would have failed. I have little doubt that the country would have gone from a serious recession into a depression.
Democrats and the Obama campaign cannot be herded into doing a simple rescue action for the banks without extracting these basic regulatory changes. Now is the point of maximum leverage on the here to fore resistant parties on the right.