Is Geithner’s Hedge-Fund Bailout Illegal?
In recent months, Treasury Secretary Timothy Geithner and other regulatory officials have made much ado about those “toxic” securities the Wall Street demons concocted by bundling together thousands of mortgages and dicing them up a dozen different ways to sell to investors. The big problem, as we’ve all learned by now, is that it’s next to impossible to figure out what the accursed things are worth. Wall Street firms and pretty much everyone else went by their exchange price rather than by analyzing the loans within. Which all worked out just fine until the underlying subprime mortgages began defaulting like mad. All of a sudden, nobody wanted to trade in these byzantine assets, and banks that owned heaps of them were in serious trouble.
It’s easy to see why government regulators might want to do something about all of this. The trouble is that much of Geithner’s new $100 billion program to help Wall Street hedge funds purchase “toxic assets” from banks—and which could put us on the hook for up to $500 billion—doesn’t involve these securities at all. Instead, about half of that money goes to a Legacy Loans Program to help hedge funds purchase relatively conventional loans. Yes, plain old loans, as opposed to the nightmarishly complicated mortgage-backed securities that have America’s finance sector scratching its head. “This is a big surprise to me,” says New York University economics professor Lawrence J. White, who helped spearhead the government’s response to the savings and loan crisis during the 1980s. “I don’t know why they’re doing it.”
Why, indeed? A March 23 press release from the Treasury Department claims Geithner’s plan will “reduce uncertainty” on bank balance sheets and help banks and investors figure out what the loans are worth. Yet that’s never really been the issue. Sure, valuing loans involves a bit of forecasting: You have to predict whether a borrower will keep her job, stay healthy, not accumulate other debts, and so forth. But these factors are comparatively easy to calculate. “If you’re talking about individual loans, you can put some value on it,” says Ann Graham, a former litigator with the Federal Deposit Insurance Corporation (FDIC) who now teaches law at Texas Tech University. “It’s far easier than evaluating these exotic mortgage-related securities.”
Geithner’s loan strategy goes beyond merely missing the point. Given years of lax federal oversight, the plan all but guarantees—see if this theme sounds familiar—a windfall for banks that lied to regulators and investors so that they’d be allowed to lend out far more money than they could realistically afford to.
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