Obama on the Garbage Pail: “No blank check.”

He’s not playing “New Deal or no deal,” but it’s a good statement.

Obama is up with his “statement of principles” on the Garbage Pail bailout.

He’s not playing “New Deal or no deal.” He wants regulatory updateing, a stimulus package, and some effort to keep homeowners in their homes. (I’m for that, but I’m not sure it should mean allowing them to remain homeowners.) No mention of S-CHIP or unemployment insurance, for example. Perhaps that was the tactical brilliance of the Paulson proposal: it forces Democrats to concentrate on protecting the fundamentals of Constitutional government rather than using the crisis to make progress.

The principles seem sound, as far as they go. One creative idea: asking foreign central banks to kick in. And he’s adopted the “No blank check!” slogan.

Most important in campaign terms, Barack Obama sounds like a President.

Senator Obama’s Statement of Principles for the Treasury Proposal

The era of greed and irresponsibility on Wall Street and in Washington has led to a financial crisis as profound as any we have faced since the Great Depression.

But regardless of how we got here, the circumstances we face require decisive action because the jobs, savings, and economic security of millions of Americans are now at risk.

We must work quickly in a bipartisan fashion to resolve this crisis and restore our financial sector so capital is flowing again and we can avert an even broader economic catastrophe. We also should recognize that economic recovery requires that we act, not just to address the crisis on Wall Street, but also the crisis on Main Street and around kitchen tables across America.

But thus far, the Administration has only offered a concept with a staggering price tag, not a plan.

Even if the Treasury recovers some or most of its investment over time, this initial outlay of up to $700 billion is sobering. And in return for their support, the American people must be assured that the deal reflects some basic principles.

No blank check. If we grant the Treasury broad authority to address the immediate crisis, we must insist on independent accountability and oversight. Given the breach of trust we have seen and the magnitude of the taxpayer money involved, there can be no blank check.

Rescue requires mutual responsibility. As taxpayers are asked to take extraordinary steps to protect our financial system, it is only appropriate to expect those institutions that benefit to help protect American homeowners and the American economy. We cannot underwrite continued irresponsibility, where CEOs cash in and our regulators look the other way. We cannot abet and reward the unconscionable practices that triggered this crisis. We have to end them.

Taxpayers should be protected. This should not be a handout to Wall Street. It should be structured in a way that maximizes the ability of taxpayers to recoup their investment. Going forward, we need to make sure that the institutions that benefit from financial insurance also bear the cost of that insurance.

Help homeowners stay in their homes. This crisis started with homeowners and they bear the brunt of the nearly unprecedented collapse in housing prices. We cannot have a plan for Wall Street banks that does not help homeowners stay in their homes and help distressed communities.

A global response. As I said on Friday, this is a global financial crisis and it requires a global solution. The United States must lead, but we must also insist that other nations, who have a huge stake in the outcome, join us in helping to secure the financial markets.

Main Street, not just Wall Street. The American people need to know that we feel as great a sense of urgency about the emergency on Main Street as we do the emergency on Wall Street. That is why I call on Senator McCain, President Bush, Republicans and Democrats to join me in supporting an emergency economic plan for working families — a plan that would help folks cope with rising gas and food prices, save one million jobs through rebuilding our schools and roads, help states and cities avoid painful budget cuts and tax increases, help homeowners stay in their homes, and provide retooling assistance to help ensure that the fuel-efficient cars of the future are built in America.

Build a regulatory structure for the 21st Century. While there is not time in a week to remake our regulatory structure to prevent abuses in the future, we should commit ourselves to the kind of reforms I have been advocating for several years. We need new rules of the road for the 21st Century economy, together with the means and willingness to enforce them.

The bottom line is that we must change the economic policies that led us down this dangerous path in the first place. For the last eight years, we’ve had an “on your own-anything goes” philosophy in Washington and on Wall Street that lavished tax cuts on the wealthy and big corporations; that viewed even common-sense regulation and oversight as unwise and unnecessary; and that shredded consumer protections and loosened the rules of the road. Ordinary Americans are now paying the price. The events of this week have rendered a final verdict on that failed philosophy, and it is a philosophy I will end as President of the United States.

Designing the Garbage Pail Agency: percentage proffering

Make each institution that wants to sell assets to the Garbage Pail Agency sell a fixed share in its entire asset book. Let an auction set the price.

Jonathan Zasloff, I think, gets it only half-right when he describes the growing liberal consensus against the Paulson “blank check” proposal.

The propsal is pretty damned bad. But is it worse than a financial melt-down? I think there is now strong evidence that a melt-down might be imminent in the absence of some drastic action to restore investors’ confidence in financial institutions and financial institutions’ confidence in one another. If so, we face, in Galbraith’s phrase, a choice “between the distasteful and the catastrophic.”

So no one wants to be in the position of saying “We don’t trust George W. Bush, so we’re going to allow a financial panic that will wreck the real economy.” But the same applies to the Administration. If the Congress passes some sort of Garbage Pail bailout, it’s going to be very hard for Bush to veto; even if the voters would hold still for it, the money guys won’t.

That leaves Reid/Pelosi/Frank/Dodd with two problems:

1. Designing the right plan, in the face of the Treasury’s refusal to do so.

2. Getting it to pass, in the face of a possible filibuster.

The second problem, I think, is easier. Write the Democratic plan. Get it passed in the House. Introduce the same bill in the Senate. If the Republicans filibuster, immediately substitute the Treasury bill as a “strike all after the enacting clause and substitute” amendment, and pass that. Stack the conference so it reports back the House bill. Pass the conference report in the House, and dare the Senate Republicans to filibuster it, promising to keep Congress in session until there’s a signed bill. Don’t move for cloture; make the Republicans take that step if some of their dead-enders are filibustering.

That puts intolerable pressure on McConnell, in two different ways. First, he has more vulnerable Senators up this year, and can’t afford to have them either trapped in Washington (or back home campaigning and looking as if they care more about re-election than about avoiding economic catastrophe). Second, any hint that an actual financial panic is developing as a result of the delay means that McConnell has the “last clear chance” to avoid a meltdown.

Now, what sort of bill to pass? It has to be one that all Senate Democrats, including Landrieu and Ben Nelson, will support; I think we can count on complete Republican solidarity against whatever the Democrats want to do in the way of “New Deal” stuff, though some of them (Hagel, for example) might support putting limits on the blank check. That basically means that it’s up to Landrieu and Nelson how much of a vehicle for broader economic reform (e.g., capping executive compensation) the bill can be.

Since the amount of “New Deal” that Reid and Dodd would prefer is presumably much larger than the amount Nelson and Landrieu will tolerate, we don’t have to debate how much we’d like; the only question is how much we can get. Executive compensation, maybe. Homeowner relief, maybe. Stimulus package, maybe. S-CHIP expansion, probably not, just because it doesn’t look relevant to the underlying purpose of the bill.

On the “no-blank-check” side there are two broad options, as I see it: either limit what can be done, or change who gets to do it.

“Who gets to do it” is the easier problem, so let’s start there.

The Treasury Secretary serves at the pleasure of the President and is subject to his orders. This President is not to be trusted with blank-check authority. The Fed chairman does not serve at the pleasure of the President and is not subject to his orders. So merely moving the authority from the Treasury to the Fed would remove one big objection to the bill. On the other hand, the Fed’s lack of political accountability would create another big objection.

Or we could give the authority to either official but subject to approval by an oversight board: three members named by the Congressional leadership, three members named by the President, four votes needed to approve each class of transactions. That doesn’t prevent folly, but it does prevent some forms of gross abuse, in particular meddling by the Mayberry Machiavellis.

As to what can be done, first things first: the non-reviewability clause has to go. That’s a Constitutional issue, and not negotiable.

But Congress could go further and insist on at least outlining the mechanism by which the assets are priced when the government buys them. Here’s my non-expert suggestion; I’ve run this past some experts, and no one has (yet) told me why it won’t work, but it’s offered subject to the correction of the very large class of people who know more about this than I do.

As I see it, the basic problem to be solved is information asymmetry. The institutions may not know much about what their mortgage-backed securities are worth, but they probably know more than the Garbage Pail Agency will know. So if, for some defined class of MBS, the Garbage Pail Agency sets a price of thirty cents on the dollar, the institutions will try to sell to the GPA those instruments of that class that they think are worth less than thirty cents on the dollar, holding the rest, which means that on average the GPA overpays for whatever it actually buys.

One way to fix that would be to eliminate cherry-picking. Each financial institution has a portfolio of financial assets on its balance sheet. Instead of being able to proffer specific assets, require each institution to proffer a percentage of its total asset book. (Presumably we’d want to set an upper limit on the percentage.) As each obligation it holds is sold or repaid, the institution gives that percentage of what it realizes to the Garbage Pail Agency, which means that the GPA needs only auditing staff rather than having to staff up to manage a pile of assets.

Percentage proffering simplifies the pricing problem in that it means that the Garbage Pail Agency only has to set one price per institution, rather than one price per security. But more important, it means that the proffering institution can’t take advantage of what it knows about which of its assets are better than they look and which worse than they look.

There remains the problem of pricing each institution’s asset book. Here an auction mechanism ought to be feasible. Say Citigroup proffers 5% of its book. I’m not sure how many zeroes that is, but many. Some share of that amount &#8212 either a fixed percentage, or a sliding scale involving smaller fractions of larger proffers, or a fixed amount such as a billion dollars &#8212 is put up for auction, with the price paid at auction setting the price the GPA pays for the balanced of the proffer.

[What sort of auction? English? Dutch? Second-price? Open-outcry or sealed-bid? Should the proffer be binding, or should the proffering institution have the right to refuse once the price is set? Should institutions be allowed only one proffer each, or can they keep coming back as the situation unfolds? Above my pay grade, but this is the precisely the sort of thing Congress could reasonably delegate to whoever runs the GPA.]

In order to guarantee that there will be bidders at each auction, the rule might be that every proffering institution must use X% of whatever it gets from the GPA to bid on proffers from other institutions, either directly or by contributing to one of the pools the investment banks will presumably create to bid on those assets.

With that sort of mechanism in place, I’d expect the GPA not to make out too badly on the deal, and at the same time the proffering institutions could expect to get reasonable, rather than fire-sale, prices for what they sell.

Some institutions would turn out to be insolvent anyway. But the markets would learn that in a hurry, and the solvent institutions could resume the normal business of borrowing and lending to and from one another and the rest of the economy.

Does anyone like this deal?

Consensus at last!

Just a brief swing around the blogospheric and journalistic circle reveals that everyone seems to hate the atrocious proposal that the administration has made for taxpayers to write it a blank check.

Krugman, Mallaby, Marshall, Bainbridge, Baker, Manzi, and RBC all hate the thing.

This, of course, strongly suggests that the Democrats will cave. If they do, Senator Obama, the ball is in your court.

“New Deal or no deal”?

Some form of the Garbage Pail seems to be needed, but what form matters.

There seems to be a strong case for massive intervention to prevent a credit freeze that would damage the real economy. And there seems to be good reason to do it now, or at least for the political players to credibly commit now to doing something soon.

But I can’t work up much enthusiasm for writing a black check to a Treasury Secretary who takes his orders from this President. And there are serious questions about:

* How to ensure that the stockholders and managers of financial-services firms take as much of the necessary financial hit as possible, and the taxpayers as little as possible. That’s easier to arrange when you nationalize institutions (as in the AIG case) then when you buy assets. A related problem: preventing the abuse of the power provided by the new law either for personal enrichment or for partisan entrenchment.

* What else to do at the same time: Bail out some homeowners? Provide some financial stimulus? Do something for the unemployed and the children without health insurance? Limit the salaries and bonuses of the geniuses who so mismanaged their institutions that they need a Federal bailout? Close the new version of the discount window to any firm that hires lobbyists? This is a moment at which the money forces that can usually block progressive legislation need to get something through the Congress; that gives the Democrats some leverage to say “New Deal or no deal.” They shouldn’t hesitate to use that leverage.

What worries me is that the Paulson plan, which is now the plan on the table, will get the benefit of the panic. We should beware of the syllogism the Permanent Undersecretary uses on the Minister in “Yes, Minister:

We must do something.
This is something.
Therefore, we must do this.