Posted on 07/13/2008 11:58:38 PM PDT by bruinbirdman
Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies. Their support for the housing market is particularly important as we work through the current housing correction.
GSE debt is held by financial institutions around the world. Its continued strength is important to maintaining confidence and stability in our financial system and our financial markets. Therefore we must take steps to address the current situation as we move to a stronger regulatory structure.
In recent days, I have consulted with the Federal Reserve, OFHEO, the SEC, Congressional leaders of both parties and with the two companies to develop a three-part plan for immediate action. The President has asked me to work with Congress to act on this plan immediately.
First, as a liquidity backstop, the plan includes a temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.
Second, to ensure the GSEs have access to sufficient capital to continue to serve their mission, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.
Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer.
Third, to protect the financial system from systemic risk going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator’s process for setting capital requirements and other prudential standards.
I look forward to working closely with the Congressional leaders to enact this legislation as soon as possible, as one complete package.
Going forward, I would like a plan to break them up and privatize them again.
Yeah I’ve always wondered why a private company should deserve tax breaks and an implicit guarantee. I know I wouldn’t be all that concerned about what sort of mortgages I was taking on if there was an implicit guarantee that the federal government will bail me out if anything goes wrong. It’d be like investing in stocks but if things got a little nasty the government would swoop in and take care of your losses.
Hank Paulson is a tough guy. He's no pushover: Just look at that phone call to Jamie Dimon, telling him that anything over $2 a share was altogether far too much money to pay for Bear Stearns. So what are we to make of his statement regarding Fannie Mae and Freddie Mac? With apologies to Jack, here's the parse:
Paulson: Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies. Their support for the housing market is particularly important as we work through the current housing correction.
Translation: We can't afford for Fannie and Freddie to go bust, and we're Republicans, so there's no way we're going to nationalize them. And no one could conceivably afford to buy them. Which leaves only one option: somehow maintaining the status quo. Which is not going to be easy, seeing as how their trillions of dollars in assets are imploding daily in the biggest US housing crunch since the Great Depression.
Paulson: GSE debt is held by financial institutions around the world. Its continued strength is important to maintaining confidence and stability in our financial system and our financial markets. Therefore we must take steps to address the current situation as we move to a stronger regulatory structure.
Translation: China and other major foreign investors hold a huge amount of Agency debt, on the understanding that it's risk-free. I'm here to tell them that, yes, it's risk free. Nothing to worry about here. And to prove that there's nothing to worry about, I'll put out a press release on a Sunday night which is designed to reassure you all. There, you're reassured, right?
Paulson: In recent days, I have consulted with the Federal Reserve, OFHEO, the SEC, Congressional leaders of both parties and with the two companies to develop a three-part plan for immediate action. The President has asked me to work with Congress to act on this plan immediately.
Translation: See? I told you I would reassure you. I have a three-part plan for immediate action! OFHEO has signed off on it! What could be more reassuring than that?
Paulson: First, as a liquidity backstop, the plan includes a temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.
Translation: If you guys won't lend the Agencies money, I will. Maybe. But now you know that, you won't be worried about them any more, and I won't even need to negotiate those "conditions for accessing the line of credit". Will I. I said, will I. Good.
Paulson: Second, to ensure the GSEs have access to sufficient capital to continue to serve their mission, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.
Translation: The panic over Fannie and Freddie wasn't connected to any news, beyond the fact that their share prices were falling. So if I say I might come in and buy their shares, then the traders will step in and start bidding the stock up in the hope that they'll be able to flip it to me at the new, higher, price. And then, because the stock is rising, I won't need to buy the shares at all. Clever, eh? Well, it's worth a try, anyway.
Paulson: Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer.
Translation: Don't call this a bailout.
Paulson: Third, to protect the financial system from systemic risk going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator's process for setting capital requirements and other prudential standards.
Translation: When was the last time you saw a "two-point plan"? I needed a third point, and I thought that maybe a few phone calls between the Fed and OFHEO might count. Sound good to you?
Paulson: I look forward to working closely with the Congressional leaders to enact this legislation as soon as possible, as one complete package.
Translation: Congress thought it was just going to be messing around with OFHEO, but now they're going to be asked to authorize the purchase of billions of dollars of the most underperforming shares on the NYSE. But if they don't roll over and do just that, they'll know that I'll be pointing the finger at them if Fannie and Freddie run into any further difficulties. And who wants the blame for nobody being able to get a mortgage any more? They'll do the right thing, the craven little pols. Frankly, they're the least of my worries.
Here’s my translation: No matter what happens, we have printing presses, lots and lots of them. Don’t worry. Especially all you foreign debt holders.
Oh, and that $4 gas? haha you ain’t seen nothin yet, you’ll be begging for $4 gas.
Their deepest fear is of deflation ... less money being spent for goods and services in this country. Rising oil prices are deflationary as they suck money out of our economy and put them into fancy buildings on the Persian Gulf. Declining housing prices are deflationary, as they mean we can't get money out of our homes. Declining stock prices are deflationary. Rising unemployment (in the auto industry, airlines, travel, construction, real estate, banking, investment services, ... so far) is deflationary, as it makes people get fearful and pull in their expenses, just in case they lose their job too. The massive collapse of credit is deeply deflationary, as it means people are putting their extra money into paying down debt, not into spending.
Throughout history, until FDR took office in January of 1933, the economies of modern countries have had repeated deflationary panics, every decade or two. We have now gone 75 years with no serious deflationary crash in America. That is unheard of. It has happened because the Fed's number one job is to fight deflation. Whenever deflation risks rise, they pump more money and credit into the economy.
Each time they do this, it takes a bigger shot of inflationary stimulus.
The Gross Domestic Product of the United States, the deficit of the United States, and the total value of the mortgages on the books of Fannie Mae and Freddie Mac are all about the same ... some 5 or 10 trillion dollars each ... I forget the exact numbers. The total value of toxic derivatives on the books of the major banks may be 50 to a 100 trillion dollars. This time, the Fed's remaining few hundred billion are just not enough.
The mortgage market has nearly collapsed, except for loans backed by Fannie Mae and Freddie Mac. Hundreds of banks are sweating bullets.
When you, and another hundred million Americans, realize that we are in a depression, with less money available for much of anything except essentials, with high and lasting unemployment, and no obvious way out, as people start hoarding money instead of spending it, then the 75 year moratorium from deflationary panics will have ended, likely in a dramatic fashion.
The conditions are almost right for one to start in the Mid-East.
How would we finance that? We're broke.
And chicken coops.
Don't forget the chicken coops.
... yet, anyway
Golly,and just two days ago we were told Fannie and Freddie didn’t have a liquidity problem.
Whenever they have to issue a preemptive denial of a problem, there is guaranteed to be a problem.
Nice analysis, thank you for that.
Your commentary can be summed up in the single aim of getting cash into the bank accounts of individual Anericans. The tax rebates were a small dose of direct stimulus. Successful or not they proved a more important point, that the federal government is more than capable of mailing/transmitting rebates to more than 140 million tax filing Americans. The importance of that point will be clued in below.
The single aim of getting more cash to Americans has, as you alluded to, has taken the form of bull markets in equities, rising home values, expansionary consumer credit and economic growth. Underlying the broad contempoary failure of these measures are a catastrophic combination of costly oil and errant mortgage banking policy (now severely restricted). So there appears no combination of past treatments that will rescue the US economy. Throw in age demographics and it looks worse.
There is one treatment, now considered radical, that would revive the economy, especially American production and manufacturing and put dollars into the hands of consumers. It is a government revenue neutral treatment but would set the stage for the radical treatment which is to cut government’s share of the economy, not spending per se but share of the economy = true cut in federal government. But...the treatment is legislated as revenue neutral for the simple reason to avoid fights over spending cuts, else it would never pass. However, the economic growth and the global competitiveness of American products and services that would ensue would create less tax burden of federal government allowing for more dollars to land in the hands of individual Americans (GDP pie gets bigger but government’s slice of it gets propportionately smaller although still grows in dollars).
Can you guess what the treatment it is? Building a mystery here for entertainment purposes.
Waiting to find out.
FIRE UP THE PRESSES, BEN!! After all, we’re footing the bill.
If, for example, we see the government going into deficit spending, and if Treasury and the Fed both make it credible that they are "targeting inflation of only 3% to 5%" (which is heard by everyone as "tolerating inflation of at least 3% to 5%"), then people start acting as if we are inflating, which is what stops deflation.
Japan has spent the last decade or two getting money into the hands of their citizens, lowering interest rates and taxes, increasing government social programs, and increasing the government debt, to no avail. Their citizens still believe that the Japanese banks and treasury will not inflate.
FDR got instant results, within a few weeks of his inauguration speech in January 1933, before any money made its way anywhere, because everyone "heard" his sharp policy changes as inflationary.
I'd vote for it in a heart beat. I have zero expectation of it happening.
I suspect that a Flat Tax (and a sensible resolution of the impending entitlements tsunami of Social Security, Medicare and Medicaid) are entirely contrary to the increasingly socialized and fascist trends of our illustrious leaders over the last century or two. Such sensible fiscal policies might bring back, in part, the "natural order" of things, including repeating deflationary panics. But we will never know.
Please spare me any potential derogatory commentary there as I was once a skeptic and now see the light. Just so you know my perspective is worth more than blowing smoke, I hold a doctorate in statistics from one of the top three. My thesis chair was a personal friend of Friedman and was a former chair of stat at the University of Chicago.
Okay, that aside I have seen all the attacks against it and as a former skeptic I was surprised at the shallowness and unfactual nature of the counter arguments. In fact it was several instances of disingenuous statements and blatant falsifying from opponents that led me to look seriously at the actual legislation.
And that led me to contact the architect of the legislation who is an economist and attorney, and who is well known in Congressional tax committees and Executive counterparts. I found him to be brilliant and serious, thorough, covering every issue.
I then researched perspective verus reality with respect to passage and found a surprising large number of sponsors (75 members contrasted with the sparsely supported Flat Tax with only 4 or 5 sponsors) and 40 more ready to jump onboard if not held back by the Speaker. The legislation needs Democrats but the Speaker is in the opposing lobbyist camp. Afterall, the current code is a wonderful vehicle for rewarding and punishing at will, and that power is what keeps many lobbyists in powerful position. The current code is actually the root of corruption inside the Beltway.
Okay, so I took what I learned to a few democrat business persons here in liberal Seattle to get their response.
“Isn’t that one of those right-wing red-state Huckabee type of bad ideas?”
(Huckabee was a flat taxer until someone sat him down and opened his eyes. He is a smart man and he does listen. All that is needed is a willingness to listen, to reason and have no prejudice going into hearing.)
But back to Democrats. I made the discovery that a pre-legislation thinker on the idea was a liberal Massachusetts Senator, Paul Tsongas. So I took YouTube clips and briefs by Senator Tsongas and presented it at one of the Old Clubs in Seattle for business elites. It was a big hit. (Republicans are nearly extinct in Seattle or hiding in the closet. Still there are quite a few Scoop Jackson type conservative Democrats in the Seattle business community.) The Tsongas connection gave them what was needed to climb onboard.
Okay, back to perspective versus reality on passage. I learned that the basis for the current system took 52 years (1861-1913) to become legitimate, legal and institutionalized whereas H.R. 25 has been at it a little over ten years. So these movements are measured in decades and not a few election cycles.
Still there are an average 800 people joining the movement everyday (7 days a week). It takes about 3000 people in any legislative district to get the representative onboard.
So ask questions, I will freely share facts and perspectives. All I ask is that you do so in a respectful manner. If you have heard a criticism or you think there are flaws, ask respectfully and I will freely download what I have learned.
FDR and his economists were not sidetracked with obfuscatory definitions of CPI (of which there are eleven last I checked). We know that inflation is a monetary phenomenon of which a CPI (take your pick) is a hopefully accurate measure of its direction.
In the new found freedom just after the fall of the Soviet Union, a simple film was made entitled ‘Little Vera’ (http://www.amazon.com/gp/product/B00004WL3I). Vera lived with several family members in a shoebox apartment in a ramshackle row of such apartments where nearly everyone was going mad from misery.
In one scene, the scraggly sparsely toothed uncle was throwing table objects at the news broadcast on television where state economists would report great progress in production of certain items, butter, beef, etc. Whereas the population was standing in bread lines in the freezing cold at 3am til 8am often to find no bread when they got to the head of the line, the state news service was touting great economic progress. Needless to say the State lost credibility (in fact an important component of the fall was loss of credibility of which Pope John Paul II was an important contrasting influence).
We are there. Our economic credibility hangs in the balance. We can’t rely on expectations of any kind. We can only rely on facts which are weakly reported amidst a daily avalanche of competing news stories. And because these facts are ‘lost in the noise’, credibility wanes.
Regarding the Flat Tax. The Flat Tax is an Income Tax supported by the 16th Amendment. The original Income Tax was a Flat Tax with a maximum rate of 7% applicable to less than 2% of the population, the extremely wealthy. The wealthy have better lawyers and their lawyers went to work to shift whatever income tax burden onto the lower classes. They did this by focusing on the definition of ‘income’ and then by ‘income’ versus ‘taxable income’, etc. These lobbying efforts resulted in a complex code (the original code was 14 pages long).
Since 1913 there have been five major reforms of the tax code because it became too complex and unfair. Each reform attempted to ‘flatten’ the rates and simplify the code. Since the last reform in 1986 there have been more than 16,000 amendments to the tax code and a quadrupling in the number of tax lobbyists.
Clearly the Income Tax is a cancer and a Flat Tax is the cancer in remission after chemotherapy. But the cancer always comes back with a vengeance and you can rest assured that a Flat tax cancer will metastasize within two decades.
The root of the cancer is the 16th Amendment. A Flat Tax needs the 16th in order to be legal and as long as the 16th is left standing, tax lobbyists have work. In fact they welcome a Flat Tax because it gives them a whole new horizon of work opportunities. The 16th is their business license, their permit to change the tax code at will. And who are these lobbyists? Former Senators, former IRS Commissioners, etc. You get the idea. There are about 23,000 tax lobbyists versus 144,000,000 filers. The 23,000 are scared to death of H.R. 25 and have resorted to an all-out propaganda war in an attempt to squelch it. But they are losing on that front as well.
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