Bailout Suggestions to Hanky Bernanke from a Banker

[Arraya]

1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.
-Or if congress and the fed did not say we are on the verge of an economic meltdown
-Or if banks were not spontaneously combusting in front of our eyes
-Or if every major bank was not insolvent
-Or if maybe if anything resembling honesty came out of any officials mouth.

These conditions and many others do not instill confidence. Maybe besides short selling they should ban pessimism and lack of confidence.

Lying to instill confidence only works for so long. Cramer and the CEO of Bear Stearns gave the ultimate confidence booster two days before it went BK.

This whole bailout is just further looting of the treasury for the made men, not unlike all those CEOs that left with golden parachutes after they ran their companies into the ground. This time it’s the whole country.

MSNBC had this headline (today):

Treasury Secretary Paulson says credit markets remain frozen

Treasury Secretary Henry Paulson says the nation’s credit markets are very fragile and still frozen and Congress must move quickly to pass a $700 billion bailout package for financial firms.

Translation: Gimme your money before you look at the details of the proposal and see what a bad deal you are getting.

The empire wears no clothes….

[davelj]

[quote=arraya]1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.

[/quote]

I agree with this, however… let’s talk a little about what we’ve decided as a society regarding banking and what the trade-offs are.

The govt. could decide tomorrow that previous capital levels for banks were too low and that they should be twice as high. This would definitely make the banking system more “sound.” But would anyone like the consequences? I doubt it. Bank investors need to get an adequate return on their capital in order to invest their capital in a bank. If equity capital requirements were doubled – and I’m just using this as an example of where increased “soundness” from a capital standpoint gets us – then the return on equity would decline dramatically all else being equal. Therefore, interest rates (for lending) would have to rise dramatically in order for the banking business model to generate enough return to attract capital. Thus, as a society, we’ve decided to have certain capital levels and FDIC insurance, etc. in order to have a banking business model that attracts capital for lending at “reasonable rates” (whatever that means). We’ve also decided that in order to maintain this system we’ll have to plug the occasional hole in the system when we have a blow up (like now). So, the capital providers to banks are going to get their returns (in aggregate) one way or the other. It’s up to society – via our government – to decide the manner in which they receive these returns – lower rates and higher leverage, higher rates and lower leverage, lower rates and less regulation, higher rates and more regulation, etc. But one thing’s for sure: if the returns aren’t there, the capital won’t be there either.

Personally, in order to ensure that this madness doesn’t happen again, I’d tackle things from the regulatory side. A few suggestions:

(1) Restrict the size that banks can grow to. Make it a big number, but no bank should be large enough that its failure could cause irreparable harm to the system. We probably have about 10 banks that fit into this category right now. We should have zero. (There are actually size restrictions related to deposits, but only one bank in the country bumps up against them – BofA. Obviously, the size restrictions are way too large.)

[OK, the free marketers don’t like this one. But here’s the fact: that FDIC insurance is, in effect, a subsidy from tax payers to the banking industry (which flows back through to the tax payers, of course). So, the taxpayers – via the govt. – should be able to restrict the activities of those who are benefiting from their largesse. Sorry, that’s just the way it is.]

(2) Change the appraisal methodology for single family residences to reflect what the homes would rent for. In other words, underwrite homes as you would apartments. Perhaps some adjustments can be made for the tax benefit to the prospective owner, but otherwise let’s change the appraisal process to more closely reflect the economics of the transaction. If this single change had been put into effect in 2000 we wouldn’t be in this mess.

(3) Restrict the amount of construction and development exposure that a bank can have on its balance sheet relative to its equity. Regulators kind of do that now, but were WAY too lax.

(4) Set up an exchange for credit default swaps that’s regulated, so that the system knows where all of this shit is hiding and who is exposed.

(5) Set up a regulatory body for the investment banks and demand higher capital requirements and far greater transparency. If they’re going to have access to the Fed discount window, then they’re going to be regulated and they’re going to have to hold higher capital levels. This means lower profitability, but boo fucking hoo. The previous “high” profits were mostly fakery anyway.

If these changes had been enacted even 5-6 years ago, we wouldn’t be in this mess.

[davelj]

[quote=arraya]1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.

[/quote]

I agree with this, however… let’s talk a little about what we’ve decided as a society regarding banking and what the trade-offs are.

The govt. could decide tomorrow that previous capital levels for banks were too low and that they should be twice as high. This would definitely make the banking system more “sound.” But would anyone like the consequences? I doubt it. Bank investors need to get an adequate return on their capital in order to invest their capital in a bank. If equity capital requirements were doubled – and I’m just using this as an example of where increased “soundness” from a capital standpoint gets us – then the return on equity would decline dramatically all else being equal. Therefore, interest rates (for lending) would have to rise dramatically in order for the banking business model to generate enough return to attract capital. Thus, as a society, we’ve decided to have certain capital levels and FDIC insurance, etc. in order to have a banking business model that attracts capital for lending at “reasonable rates” (whatever that means). We’ve also decided that in order to maintain this system we’ll have to plug the occasional hole in the system when we have a blow up (like now). So, the capital providers to banks are going to get their returns (in aggregate) one way or the other. It’s up to society – via our government – to decide the manner in which they receive these returns – lower rates and higher leverage, higher rates and lower leverage, lower rates and less regulation, higher rates and more regulation, etc. But one thing’s for sure: if the returns aren’t there, the capital won’t be there either.

Personally, in order to ensure that this madness doesn’t happen again, I’d tackle things from the regulatory side. A few suggestions:

(1) Restrict the size that banks can grow to. Make it a big number, but no bank should be large enough that its failure could cause irreparable harm to the system. We probably have about 10 banks that fit into this category right now. We should have zero. (There are actually size restrictions related to deposits, but only one bank in the country bumps up against them – BofA. Obviously, the size restrictions are way too large.)

[OK, the free marketers don’t like this one. But here’s the fact: that FDIC insurance is, in effect, a subsidy from tax payers to the banking industry (which flows back through to the tax payers, of course). So, the taxpayers – via the govt. – should be able to restrict the activities of those who are benefiting from their largesse. Sorry, that’s just the way it is.]

(2) Change the appraisal methodology for single family residences to reflect what the homes would rent for. In other words, underwrite homes as you would apartments. Perhaps some adjustments can be made for the tax benefit to the prospective owner, but otherwise let’s change the appraisal process to more closely reflect the economics of the transaction. If this single change had been put into effect in 2000 we wouldn’t be in this mess.

(3) Restrict the amount of construction and development exposure that a bank can have on its balance sheet relative to its equity. Regulators kind of do that now, but were WAY too lax.

(4) Set up an exchange for credit default swaps that’s regulated, so that the system knows where all of this shit is hiding and who is exposed.

(5) Set up a regulatory body for the investment banks and demand higher capital requirements and far greater transparency. If they’re going to have access to the Fed discount window, then they’re going to be regulated and they’re going to have to hold higher capital levels. This means lower profitability, but boo fucking hoo. The previous “high” profits were mostly fakery anyway.

If these changes had been enacted even 5-6 years ago, we wouldn’t be in this mess.

[davelj]

[quote=arraya]1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.

[/quote]

I agree with this, however… let’s talk a little about what we’ve decided as a society regarding banking and what the trade-offs are.

The govt. could decide tomorrow that previous capital levels for banks were too low and that they should be twice as high. This would definitely make the banking system more “sound.” But would anyone like the consequences? I doubt it. Bank investors need to get an adequate return on their capital in order to invest their capital in a bank. If equity capital requirements were doubled – and I’m just using this as an example of where increased “soundness” from a capital standpoint gets us – then the return on equity would decline dramatically all else being equal. Therefore, interest rates (for lending) would have to rise dramatically in order for the banking business model to generate enough return to attract capital. Thus, as a society, we’ve decided to have certain capital levels and FDIC insurance, etc. in order to have a banking business model that attracts capital for lending at “reasonable rates” (whatever that means). We’ve also decided that in order to maintain this system we’ll have to plug the occasional hole in the system when we have a blow up (like now). So, the capital providers to banks are going to get their returns (in aggregate) one way or the other. It’s up to society – via our government – to decide the manner in which they receive these returns – lower rates and higher leverage, higher rates and lower leverage, lower rates and less regulation, higher rates and more regulation, etc. But one thing’s for sure: if the returns aren’t there, the capital won’t be there either.

Personally, in order to ensure that this madness doesn’t happen again, I’d tackle things from the regulatory side. A few suggestions:

(1) Restrict the size that banks can grow to. Make it a big number, but no bank should be large enough that its failure could cause irreparable harm to the system. We probably have about 10 banks that fit into this category right now. We should have zero. (There are actually size restrictions related to deposits, but only one bank in the country bumps up against them – BofA. Obviously, the size restrictions are way too large.)

[OK, the free marketers don’t like this one. But here’s the fact: that FDIC insurance is, in effect, a subsidy from tax payers to the banking industry (which flows back through to the tax payers, of course). So, the taxpayers – via the govt. – should be able to restrict the activities of those who are benefiting from their largesse. Sorry, that’s just the way it is.]

(2) Change the appraisal methodology for single family residences to reflect what the homes would rent for. In other words, underwrite homes as you would apartments. Perhaps some adjustments can be made for the tax benefit to the prospective owner, but otherwise let’s change the appraisal process to more closely reflect the economics of the transaction. If this single change had been put into effect in 2000 we wouldn’t be in this mess.

(3) Restrict the amount of construction and development exposure that a bank can have on its balance sheet relative to its equity. Regulators kind of do that now, but were WAY too lax.

(4) Set up an exchange for credit default swaps that’s regulated, so that the system knows where all of this shit is hiding and who is exposed.

(5) Set up a regulatory body for the investment banks and demand higher capital requirements and far greater transparency. If they’re going to have access to the Fed discount window, then they’re going to be regulated and they’re going to have to hold higher capital levels. This means lower profitability, but boo fucking hoo. The previous “high” profits were mostly fakery anyway.

If these changes had been enacted even 5-6 years ago, we wouldn’t be in this mess.

[davelj]

[quote=arraya]1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.

[/quote]

I agree with this, however… let’s talk a little about what we’ve decided as a society regarding banking and what the trade-offs are.

The govt. could decide tomorrow that previous capital levels for banks were too low and that they should be twice as high. This would definitely make the banking system more “sound.” But would anyone like the consequences? I doubt it. Bank investors need to get an adequate return on their capital in order to invest their capital in a bank. If equity capital requirements were doubled – and I’m just using this as an example of where increased “soundness” from a capital standpoint gets us – then the return on equity would decline dramatically all else being equal. Therefore, interest rates (for lending) would have to rise dramatically in order for the banking business model to generate enough return to attract capital. Thus, as a society, we’ve decided to have certain capital levels and FDIC insurance, etc. in order to have a banking business model that attracts capital for lending at “reasonable rates” (whatever that means). We’ve also decided that in order to maintain this system we’ll have to plug the occasional hole in the system when we have a blow up (like now). So, the capital providers to banks are going to get their returns (in aggregate) one way or the other. It’s up to society – via our government – to decide the manner in which they receive these returns – lower rates and higher leverage, higher rates and lower leverage, lower rates and less regulation, higher rates and more regulation, etc. But one thing’s for sure: if the returns aren’t there, the capital won’t be there either.

Personally, in order to ensure that this madness doesn’t happen again, I’d tackle things from the regulatory side. A few suggestions:

(1) Restrict the size that banks can grow to. Make it a big number, but no bank should be large enough that its failure could cause irreparable harm to the system. We probably have about 10 banks that fit into this category right now. We should have zero. (There are actually size restrictions related to deposits, but only one bank in the country bumps up against them – BofA. Obviously, the size restrictions are way too large.)

[OK, the free marketers don’t like this one. But here’s the fact: that FDIC insurance is, in effect, a subsidy from tax payers to the banking industry (which flows back through to the tax payers, of course). So, the taxpayers – via the govt. – should be able to restrict the activities of those who are benefiting from their largesse. Sorry, that’s just the way it is.]

(2) Change the appraisal methodology for single family residences to reflect what the homes would rent for. In other words, underwrite homes as you would apartments. Perhaps some adjustments can be made for the tax benefit to the prospective owner, but otherwise let’s change the appraisal process to more closely reflect the economics of the transaction. If this single change had been put into effect in 2000 we wouldn’t be in this mess.

(3) Restrict the amount of construction and development exposure that a bank can have on its balance sheet relative to its equity. Regulators kind of do that now, but were WAY too lax.

(4) Set up an exchange for credit default swaps that’s regulated, so that the system knows where all of this shit is hiding and who is exposed.

(5) Set up a regulatory body for the investment banks and demand higher capital requirements and far greater transparency. If they’re going to have access to the Fed discount window, then they’re going to be regulated and they’re going to have to hold higher capital levels. This means lower profitability, but boo fucking hoo. The previous “high” profits were mostly fakery anyway.

If these changes had been enacted even 5-6 years ago, we wouldn’t be in this mess.

[davelj]

[quote=arraya]1) The first thing to realize is that the single biggest issue in the financial system is confidence in the system itself. I think we can all agree on that.

Spoken like a true banker;)

-Maybe if the banking system was sound then there would be more confidence.

[/quote]

I agree with this, however… let’s talk a little about what we’ve decided as a society regarding banking and what the trade-offs are.

The govt. could decide tomorrow that previous capital levels for banks were too low and that they should be twice as high. This would definitely make the banking system more “sound.” But would anyone like the consequences? I doubt it. Bank investors need to get an adequate return on their capital in order to invest their capital in a bank. If equity capital requirements were doubled – and I’m just using this as an example of where increased “soundness” from a capital standpoint gets us – then the return on equity would decline dramatically all else being equal. Therefore, interest rates (for lending) would have to rise dramatically in order for the banking business model to generate enough return to attract capital. Thus, as a society, we’ve decided to have certain capital levels and FDIC insurance, etc. in order to have a banking business model that attracts capital for lending at “reasonable rates” (whatever that means). We’ve also decided that in order to maintain this system we’ll have to plug the occasional hole in the system when we have a blow up (like now). So, the capital providers to banks are going to get their returns (in aggregate) one way or the other. It’s up to society – via our government – to decide the manner in which they receive these returns – lower rates and higher leverage, higher rates and lower leverage, lower rates and less regulation, higher rates and more regulation, etc. But one thing’s for sure: if the returns aren’t there, the capital won’t be there either.

Personally, in order to ensure that this madness doesn’t happen again, I’d tackle things from the regulatory side. A few suggestions:

(1) Restrict the size that banks can grow to. Make it a big number, but no bank should be large enough that its failure could cause irreparable harm to the system. We probably have about 10 banks that fit into this category right now. We should have zero. (There are actually size restrictions related to deposits, but only one bank in the country bumps up against them – BofA. Obviously, the size restrictions are way too large.)

[OK, the free marketers don’t like this one. But here’s the fact: that FDIC insurance is, in effect, a subsidy from tax payers to the banking industry (which flows back through to the tax payers, of course). So, the taxpayers – via the govt. – should be able to restrict the activities of those who are benefiting from their largesse. Sorry, that’s just the way it is.]

(2) Change the appraisal methodology for single family residences to reflect what the homes would rent for. In other words, underwrite homes as you would apartments. Perhaps some adjustments can be made for the tax benefit to the prospective owner, but otherwise let’s change the appraisal process to more closely reflect the economics of the transaction. If this single change had been put into effect in 2000 we wouldn’t be in this mess.

(3) Restrict the amount of construction and development exposure that a bank can have on its balance sheet relative to its equity. Regulators kind of do that now, but were WAY too lax.

(4) Set up an exchange for credit default swaps that’s regulated, so that the system knows where all of this shit is hiding and who is exposed.

(5) Set up a regulatory body for the investment banks and demand higher capital requirements and far greater transparency. If they’re going to have access to the Fed discount window, then they’re going to be regulated and they’re going to have to hold higher capital levels. This means lower profitability, but boo fucking hoo. The previous “high” profits were mostly fakery anyway.

If these changes had been enacted even 5-6 years ago, we wouldn’t be in this mess.

[davelj]

[quote=CA renter]davelj,

I think your plan is excellent (much like what I proposed in the “call your representative” thread). 😉

The only thing I would disagree with is the loans for new mortgages. The govt should not be in the mortgage business, as it will continue to distort prices. Besides that, many of the current homes on the market will still lose over 30%, and the 10% down will lead us to the same problems we have today, except the govt is directly on the hook.
[/quote]

Look, I don’t like the idea of the govt. being in the mortgage business either. I think the market should handle all of that business. But… we’ve already decided that we’re going to be in the bailout business. So, my suggestion is predicated on that fact. IF we’re going to throw a bunch of money at the problem, then let’s at least throw it in the right direction. You mentioned price declines as an issue, and it’s a good one. Here’s my solution (related to what I discussed in the post above this one): Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.

[davelj]

[quote=CA renter]davelj,

I think your plan is excellent (much like what I proposed in the “call your representative” thread). 😉

The only thing I would disagree with is the loans for new mortgages. The govt should not be in the mortgage business, as it will continue to distort prices. Besides that, many of the current homes on the market will still lose over 30%, and the 10% down will lead us to the same problems we have today, except the govt is directly on the hook.
[/quote]

Look, I don’t like the idea of the govt. being in the mortgage business either. I think the market should handle all of that business. But… we’ve already decided that we’re going to be in the bailout business. So, my suggestion is predicated on that fact. IF we’re going to throw a bunch of money at the problem, then let’s at least throw it in the right direction. You mentioned price declines as an issue, and it’s a good one. Here’s my solution (related to what I discussed in the post above this one): Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.

[davelj]

[quote=CA renter]davelj,

I think your plan is excellent (much like what I proposed in the “call your representative” thread). 😉

The only thing I would disagree with is the loans for new mortgages. The govt should not be in the mortgage business, as it will continue to distort prices. Besides that, many of the current homes on the market will still lose over 30%, and the 10% down will lead us to the same problems we have today, except the govt is directly on the hook.
[/quote]

Look, I don’t like the idea of the govt. being in the mortgage business either. I think the market should handle all of that business. But… we’ve already decided that we’re going to be in the bailout business. So, my suggestion is predicated on that fact. IF we’re going to throw a bunch of money at the problem, then let’s at least throw it in the right direction. You mentioned price declines as an issue, and it’s a good one. Here’s my solution (related to what I discussed in the post above this one): Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.

[davelj]

[quote=CA renter]davelj,

I think your plan is excellent (much like what I proposed in the “call your representative” thread). 😉

The only thing I would disagree with is the loans for new mortgages. The govt should not be in the mortgage business, as it will continue to distort prices. Besides that, many of the current homes on the market will still lose over 30%, and the 10% down will lead us to the same problems we have today, except the govt is directly on the hook.
[/quote]

Look, I don’t like the idea of the govt. being in the mortgage business either. I think the market should handle all of that business. But… we’ve already decided that we’re going to be in the bailout business. So, my suggestion is predicated on that fact. IF we’re going to throw a bunch of money at the problem, then let’s at least throw it in the right direction. You mentioned price declines as an issue, and it’s a good one. Here’s my solution (related to what I discussed in the post above this one): Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.

[davelj]

[quote=CA renter]davelj,

I think your plan is excellent (much like what I proposed in the “call your representative” thread). 😉

The only thing I would disagree with is the loans for new mortgages. The govt should not be in the mortgage business, as it will continue to distort prices. Besides that, many of the current homes on the market will still lose over 30%, and the 10% down will lead us to the same problems we have today, except the govt is directly on the hook.
[/quote]

Look, I don’t like the idea of the govt. being in the mortgage business either. I think the market should handle all of that business. But… we’ve already decided that we’re going to be in the bailout business. So, my suggestion is predicated on that fact. IF we’re going to throw a bunch of money at the problem, then let’s at least throw it in the right direction. You mentioned price declines as an issue, and it’s a good one. Here’s my solution (related to what I discussed in the post above this one): Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.

[CA renter]

Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.
——————–

That sounds fairly reasonable to me. To clarify:

1. Underwrite mortgages/appraise houses based on market rents (I’d suggest long-term averages to help keep short-term distortions from having too much influence).

2. Require at least 10% down, and it cannot be seller-financed.

How about that?

[CA renter]

Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.
——————–

That sounds fairly reasonable to me. To clarify:

1. Underwrite mortgages/appraise houses based on market rents (I’d suggest long-term averages to help keep short-term distortions from having too much influence).

2. Require at least 10% down, and it cannot be seller-financed.

How about that?

[CA renter]

Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.
——————–

That sounds fairly reasonable to me. To clarify:

1. Underwrite mortgages/appraise houses based on market rents (I’d suggest long-term averages to help keep short-term distortions from having too much influence).

2. Require at least 10% down, and it cannot be seller-financed.

How about that?

[CA renter]

Underwrite every loan as if it’s a rental. Obviously, most of the loans that would quality would be foreclosures and short sales which are by definition closer to the “bottom.” This would alleviate, although not eliminate, a large part of the “further decline” issue.
——————–

That sounds fairly reasonable to me. To clarify:

1. Underwrite mortgages/appraise houses based on market rents (I’d suggest long-term averages to help keep short-term distortions from having too much influence).

2. Require at least 10% down, and it cannot be seller-financed.

How about that?

[Author]

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