Courtesy of Roger Ehrenberg, at Information Arbitrage.
Don’t Bailout Wall Street; Re-invigorate Main Street
Needless to say, Messrs. Paulson and Bernanke’s $700 billion rescue package has ruffled a few feathers on Wall Street, Main Street, and the Legislative and Executive branches of the U.S. Government. Some say "Do it now or else we’ll have financial calamity." Others say "$700 billion to bail out Wall Street? They’re the ones that got us into this mess in the first place." Emotions are running high and, I’m afraid, many people are losing sight of the main point: frozen credit markets inhibit small and large businesses from borrowing money, people of all economic strata from buying apartments and houses, and those in financial distress owing to inappropriate mortgages from refinancing. Commerce has slowed due to massive uncertainty and the ripple effects of the credit crisis throughout the U.S. economy. This is not (or, more properly stated, SHOULD not be) about Wall Street, it is about Main Street, and the average, hard-working citizen’s ability to live their life without economic fear not of their own doing.
"Bailout" is clearly a pejorative term and has been bandied about when referencing the "recommended" solution to the current crisis. What I have in mind is not a bailout, per se, because its effects aren’t bailing out those institutions and executives that screwed up. It is a loan. 
A loan with interest that gets repaid over time. With equity kickers. The U.S. taxpayers will own a loan plus warrants, and in exchange will get a credit system that can once again function and support both business and personal economic growth. But the key is in the design. A design, as I’ve stated previously, that takes troubled securities from troubled institutions at market value, buys senior convertible securities (senior to existing debt and common stockholders) to bring capital ratios up to compliant levels, works to restructure and simplify personal mortgage loans that enable credit-worthy borrowers to remain in their homes and works out the securities purchased over time. My vision is not a transfer payment to Wall Street, but a vehicle for re-energizing and re-invigorating Main Street.
A very bright and thoughtful man, Tom Evslin, wrote a post where he has changed his position on the bailout concept. I’ve read Tom for quite some time and he is very cerebral and intelligent, and if he has something to say I listen. That said, I disagree with his post and his reasoning, because I think he’s missed the gravity of the current situation and its close linkage with Main Street. There are elements of his plan, however, with which I passionately agree, though don’t believe they can be dealt with at the current time. I’ve copied the text of his post here and I’ve made my own comments in bold.
I’ve been wrong to advocate hedging the bailout bill with conditions; we should just say "NO".
We can take a fraction of the $700 billion dollars we save and use it for specific anti-recession measures. Let’s start rebuilding our power grid; fix some bridges; maybe even help some homeowners with their mortgages where warranted. But no bailout for Wall Street; none.
The plan, well-structured, wouldn’t be a bailout of Wall Street as discussed above. The mortgage assistance piece is part and parcel of a sensible package in any event. I fully agree with the infrastructure spend; I’ve written about it at length. I just think we shouldn’t be bundling this until we’ve fixed our current financial plight.
If we say "yes" to the bailout bill, the Dow will go up. Great time to sell your stocks because we will have damaged the economy and our competitiveness for a long time to come.
Stocks going up is neither here nor there to the logic of the plan. Credit markets need to unlock. Commerce needs to take place. Mortgages and business loans need to be issued. This may, in fact, cause the market to go up. But it may not. The short-term uncertainty about prospects for the dollar, the possible rise in oil and other commodity prices might place a damper on the euphoria. But bottom line, it isn’t the point.
If we say "no" to the bailout bill, the Dow will plummet – for a while. Big deal; that’s what the Dow does; it’ll create a buying opportunity.
Maybe, maybe not. There are too many degrees of freedom to confidently project the intermediate-term prospects for U.S. equities.
If we say "yes" to the bailout bill, the dollar will plummet. That $700 billion to bailout the world’s financial institutions comes from printing more dollars and devaluing every dollar already in existence. A plummeting dollar means higher imported energy costs. That really hurts Main Street, the real economy, and national security.
This may happen. But, as with the uncertainty surrounding equities, it may not. A poorly-designed plan that looks and smells like a Wall Street bailout will invariably cause the dollar to tank and Tom’s worst fears to play out. But if designed well, where the U.S. taxpayer is monetizing the liquidity option and holding an attractive ROI piece of paper, and the credit markets do once again begin to operate as they should, the dollar could potentially go up as expectations of future growth outweigh the near-term creation of dollars.
If we say "no" to the bailout bill, investors like Warren Buffet and Bank of America will continue to pick up assets from distressed banks cheaply. More power to them; they can deal with the problem of overpaid executives. They are showing us the right way out of this mess.
This really hasn’t happened. The kinds of assets causing the greatest problems simply aren’t moving, and haven’t moved for months. This is the whole point of putting this plan together in the first place. In fact, here is the extract of a comment I wrote tonight about a recent post:
Chip, that is one awesome comment. You raise a great point. But here is my retort. If, in fact, these mortgage securities are so terrific, or at least appreciably better than the current bid, and there is hundreds of billions of liquidity sloshing around SWFs, Berkshire Hathaway, private equity firms, distressed hedge funds, etc., then why aren’t they buying these securities up by the truckload? The system should be self-equilibrating if the securities get too cheap, yet somehow there just isn’t a bid. This can’t fully be explained by firm capital structure, which means something else is at play. Like the securities really are CRAP. Lone Star only took these off Merrill’s hands at $.22 on the dollar, and required Merrill to provide $5 billion of seller financing. Something is amiss, and it happens to be on both sides of the balance sheet. A highly leveraged, short-duration capital structure supporting illiquid, crappy assets means only one thing: you’re going bust.
Normally The Wall Street Journal would have been against the bailout on economic terms and The New York Times against it on populist terms. Apparently our two great national newspapers are too much the hometown newspapers of New York City to see straight. When you look out the windows of their editorial offices, you’re more likely to see out-of-work bankers and empty restaurants than people struggling to pay for gas and home heating oil – or to keep their small businesses running or stay in their homes. So we have to do without their leadership on this issue.
Yikes! Your looking for leadership from them? Come on, Tom. It’s not about being populist, it’s about being political. I think they see both sides of the coin, for what it’s worth. Not that it matters, however.
Fortunately three out of the four candidates in the Presidential sweepstakes are senators; they have to vote on the bill (unless it dies in committee). My vote for President is up for grabs. If there were contested house or senate races in Vermont, my vote for them would be up for grabs as well.
The upcoming election gives us a chance to save ourselves from the horrendous mistake this bailout bill would be. Don’t wait for the pollsters to call; write your senators and congressperson today.
A bad bill would be bad. A good bill would be good. I think what I’m suggesting is good. Not bad.
Bottom line, I think the system would remain too jammed for too long simply letting things play out on their own. Now I am a free markets guy. I grew up in the markets. Love the markets. Believe in the markets. But this market is badly broken, and it needs a bridge loan to begin the healing process. And this can and must be structured in a manner that achieves the objectives without unfair and inappropriate bailouts. The devil is in the details. But to toss aside the call for action is, in my opinion, playing a dangerous and unnecessary game.
NB: My friend and sharp financial thinker Paul Kedrosky has raised many good issues on this topic. Please do check out his thread on the topic.
