A sure way to increase uncertainty
Is it me, or did Treasury Secretary Tim Geithner make matters worse with his announcement about the TARP today.
Given how long people have been waiting for a “solution” from government, statements like:
We are exploring a range of different structures for this program, and will seek input from market participants and the public as we design it
Seem a bit soft. Surely the market thought that the US government had already done this!
In fact, the market did think this – which is why the DOW collapsed. You increase uncertainty, you reduce the value of capital – it’s as simple as that:
Source (The Austrian Economists)
I don’t think it’s the lack of detail that the market objected to – it’s the fact that the Fed/Treasury are still trying to be clever-clever with their market-based solutions. The banks – and therefore anyone that has money tied up with them – won’t be happy with anything that stops short of making the problem go away at zero cost to them. That means either a government-owned “bad bank” that buys up all the toxic assets at their inflated book values, or a suspension of mark-to-market accounting so that they can go on pretending that the problem doesn’t exist. In fact, it looks like the Senate may already be pushing for the latter, in light of the poor reception to this plan.
Hi Miguel,
I imagine that the bank’s are a bit wound up. However, the clarity of the solution has to be part of the issue. If the US government is still exploring the structure of the solution the market is bound to feel uneasy – and is therefore less likely to invest (and also value capital at a lower level).
My concern is that public policy in the US may move so slowly that government action will end up making the situation in the US much worse than it needs to be, or would have been.
No amount of detail is going to make this plan any more appealing, because the whole thrust of it is to ensure that banks rather than taxpayers bear at least some of the burden. But the banks want to be let off scot-free, and they’re going to hold their collective breath until they get their way, as in this article: http://www.businessday.co.nz/industries/finance_banking/4844318
But a plan that the bank’s are unhappy with would still be better than a plan where the liability for everyone in the economy is unclear – which is the situation we have at the moment …
No, because if the banks are unhappy with it then they simply won’t participate – there’s nothing in the plan that compels them to realise any losses on their books. If the Treasury made it clear that it was either this or nationalisation, then you might see some action. Otherwise, as long as the banks believe they can hold out for a better deal – and experience has shown that they can – this program is destined to go nowhere.
Miguel,
All I am saying is that the fact that the rest of the market also doesn’t know what is going on makes things worse – if a firm doesn’t believe that the government is doing anything about fixing their channels of credit, they will continue to hoard cash and cut back investment.
Also I don’t see why it matters if banks want to participate or not – the most extreme scenario is that the government states that they will not intervene, then the bank’s go bankrupt and the credit market is defunct.
If the government is clear with what they are actually doing, and can commit to it, the bank’s will have to work within that framework – currently they still believe that if they hold on, they will get a bailout, leading to the state of flux we are in at the moment.
It makes all the difference whether or not the banks participate, because the banks’ intransigence is the very problem that the govt is trying to address. Bank’s aren’t owning up to the full extent of their losses because (1) in many cases it will reveal that they are deeply insolvent and (2) they think, rightly, that the govt is more desperate for a resolution than they are – there’s angry voters to appease. This plan changes nothing, because bank’s aren’t compelled to sell their toxic assets for less than book value (which no private investor would be dumb enough to pay).
I think the Martin Wolf in the FT has got it spot on: http://www.ft.com/cms/s/0/9ebea1b8-f794-11dd-81f7-000077b07658.html
“[The administration] has not asked what needs to be done to be sure of a solution. It has asked itself, instead, what is the best it can do given three arbitrary, self-imposed constraints: no nationalisation; no losses for bondholders; and no more money from Congress. Yet why does a new administration, confronting a huge crisis, not try to change the terms of debate? … The correct advice remains the one the US gave the Japanese and others during the 1990s: admit reality, restructure banks and, above all, slay zombie institutions at once.”
There’s also a more mundane reason why sharemarkets tanked – the market had been led to believe that the plan would include some or all of: a bad bank, suspension of mark-to-market accounting, and a govt guarantee on interbank lending. I agree that uncertainty is a problem, in that the market will continue to believe that these steps are inevitable, and will put everything on hold until they get them.
“There’s also a more mundane reason why sharemarkets tanked – the market had been led to believe that the plan would include some or all of: a bad bank, suspension of mark-to-market accounting, and a govt guarantee on interbank lending. I agree that uncertainty is a problem, in that the market will continue to believe that these steps are inevitable, and will put everything on hold until they get them.”
I think we completely agree here – my post was on how Tim’s speech increased uncertainty, both for bank’s and for the rest of the economy, and how that appears to have been a pretty bad move.
I agree that part of the fall in the DOW was the result of bank’s throwing a tanty. However, the main thrust of my post was that recent actions have increased uncertainty – which is a bad thing.
However, this specific problem of uncertainty isn’t going to be solved until the government actual commits to what it is going to do.