As featured on p. 218 of "Bloggers on the Bus," under the name "a MyDD blogger."

Tuesday, May 05, 2009


Arianna Huffington delivers the verdict on the Administration's stress tests before they come out later this week, and it's hard to argue with her:

For starters, why the holdup in releasing the results? It's been ten days since the Treasury Department and the Fed let the banks in on the preliminary results of the tests. So how come the public -- you know, the ones who keep bailing out the banks -- are still, ten days later, in the dark?

The reason is, the banks are using this time to negotiate how much information about their portfolios the hoi polloi will be privy to, and are trying to get the government to reconsider its analyses (which are already iffy, since they are based on the banks' own estimates and on assumptions about the economy - including unemployment rates, and cumulative real estate and credit card losses -- that are hardly stress-inducing). This is the equivalent of a teacher giving a student a look at his grades and allowing the student to try to cut a better deal before report cards are sent home to mom and dad [...]

And then there is the trouble with the assumptions at the heart of the stress tests. As Nouriel Roubini put it: "These are not stress tests but rather fudge tests... The results of the stress tests -- even before they are published -- are not worth the paper they are written on."

Nassim Taleb agreed: "This stress test is the equivalent of testing the Brooklyn Bridge by running a single heavy truck on it."

The ongoing horse-trading between the banks and the government has only exacerbated the mistrust, creating what the New York Times' Andrew Ross Sorkin, appearing on Charlie Rose, described as a lose-lose:

"Either you are going to be very realistic, perhaps even too realistic for many people, and you're going to suggest that some of these banks really are insolvent...or you're going to decide that the entire process is a whitewash and you're going to have no confidence in the test to begin with."

The fact that the releases, in absence of official information, have moved from all the banks being well-capitalized to now 10 of them requiring more funding simply destroys whatever positive spin will be overlaid on the eventual release. What some call "requires more capitalization" I call "insolvent," and needing a restructuring of their debt to flush out the toxic waste. Yet that option, as Arianna notes, has been taken off the table. Administration leaders insist that all capital requirements can be met through the private sector and no additional interventions from the government will be necessary. That may be the case on the surface, but considering that multiple government lending programs currently exist that save banks billions of dollars, it doesn't really mean anything. In fact, the web of government largesse outside of direct capital infusions going to the banks suggests a far too cozy relationship between the banksters and the policymakers:

The Federal Reserve Bank of New York shaped Washington's response to the financial crisis late last year, which buoyed Goldman Sachs Group Inc. and other Wall Street firms. Goldman received speedy approval to become a bank holding company in September and a $10 billion capital injection soon after.

During that time, the New York Fed's chairman, Stephen Friedman, sat on Goldman's board and had a large holding in Goldman stock, which because of Goldman's new status as a bank holding company was a violation of Federal Reserve policy.

The New York Fed asked for a waiver, which, after about 2½ months, the Fed granted. While it was weighing the request, Mr. Friedman bought 37,300 more Goldman shares in December. They've since risen $1.7 million in value.

Mr. Friedman also was overseeing the search for a new president of the New York Fed, an officer who has a critical role in setting monetary policy at the Federal Reserve. The choice was a former Goldman executive.

Of course, only the bankers understand the economy, so we should just shut up and let them raid the Treasury.

As Simon Johnson notes, this adds up to a major credibility problem for the Treasury Department.

In any case, this is a serious problem for Treasury’s optics. After long negotiations, the bank stress tests were set to show most banks are close to have their Goldilocks level of capital (i.e., just right) Given that we generally agree (and the President has long stressed) this is the biggest financial crisis since the Great Depression, we seemed to be on the the verge of a capital adequacy miracle.

But instead of this being seen as some combination of good luck and smart policy, ”everyone is basically fine” would look like the banks are running the show. My Treasury friends swear up and down this is not true, but that is now beside the point. Whatever the reality, it looks increasingly to everyone like the banks really are in charge. It’s a nasty rule of politics that you are damaged by where perceived blame lands, rather than by what you actually do.

Perhaps the normal ebb and flow of the business cycle will mask over this continued giveaway to Wall Street interests. But Obama has long said that the financial industry must shrink in size and prestige relative to the economy. I see no way for that to happen in the current environment, which means we'll still be chasing bubbles well into the future, at the expense of ordinary Americans.

...Roubini and Richardson in the WSJ:

The hope was that the stress tests would be the start of a process that would lead to a cleansing of the financial system. But using a market-based scenario in the stress tests would have given worse results than the adverse scenario chosen by the regulators. For example, the first quarter's unemployment rate of 8.1% is higher than the regulators' "worst case" scenario of 7.9% for this same period. At the rate of job losses in the U.S. today, we will surpass a 10.3% unemployment rate this year -- the stress test's worst possible scenario for 2010 [...]

Stress tests aside, it is highly likely that some of these large banks will be insolvent, given the various estimates of aggregate losses. The government has got to come up with a plan to deal with these institutions that does not involve a bottomless pit of taxpayer money. This means it will have the unenviable tasks of managing the systemic risk resulting from the failure of these institutions and then managing it in receivership. But it will also mean transferring risk from taxpayers to creditors. This is fair: Metaphorically speaking, these are the guys who served alcohol to the banks just before they took off down the highway.

I just feel like there's no political will to do this, however necessary it may be.

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