February 27, 2009
BILL MOYERS: The global meltdown has become so enormous, volatile and dangerous, that the Director of the CIA told reporters this week President Obama now receives a daily top secret briefing on the national security implications of the worldwide recession. That comes on the heels of an earlier warning to Congress from the Director of National Intelligence who said global economic chaos has replaced terrorism as America's number one threat.
DENNIS BLAIR: Economic crises increase the risk of regime-threatening instability if they are prolonged for a one-to-two- year period, and instability can loosen the fragile hold that many developing countries have on law and order, which can spill out in dangerous ways into the international community.
BILL MOYERS: Hoping to stave off that chaos, the Treasury today took steps to shore up the failing giant Citigroup -- so poorly managed and so deeply in debt the US government is quadrupling its stake in the bank, and shaking up the board of directors. It's the third time since October the government has stepped in to pull the bank -- considered too big to let die -- back from the grave.
Remember when economists poked fun at Ronald Reagan's voodoo economics? Well, now they are dead serious about so-called "zombie banks" - financial giants like Citigroup and Bank of America whose debts are greater than their assets, with stock worth less than zero, and they're only able to stay alive by devouring federal bailout bucks. Those banks, in turn, are terrified by talk that the government might come in and nationalize them. Well, some critics ask, why not? Given all this, I wanted to talk to a man with a clear-eyed perspective on the worldwide economic impact of this banking crisis. Robert Johnson was once the Chief Economist of the Senate Banking Committee under the chairmanship of that fiercest of budget pit-bulls, the late Wisconsin Senator William Proxmire. Johnson became a Managing Director at Soros Fund Management, and now serves on a United Nations Commission recommending reforms of the international monetary and financial system.
BILL MOYERS: Welcome to the JOURNAL.
ROBERT JOHNSON: Thank you.
BILL MOYERS: Given what we know is happening around the world, are you scared?
ROBERT JOHNSON: Yes I am.
BILL MOYERS: What scares you the most?
ROBERT JOHNSON: That everybody will stand and watch and cater to past patterns of power. The banking system has been the dominant sector in our society and in our politics, which is heavily money driven, for a very long time. As they falter, we could stagnate, catering to their needs disproportionately while the system sinks.
BILL MOYERS: This week, a term came into play that I hadn't heard before. People refer to Citibank, Citigroup, as zombie banks. What's a zombie bank?
ROBERT JOHNSON: A zombie bank is a bank that's insolvent that's allowed to continue its activity. It's allowed to go on living as a dead financial entity.
BILL MOYERS: And what's the threat to the financial system of a zombie bank?
ROBERT JOHNSON: That the zombie will continue to lose more, and the taxpayer, kind of off the government's budget, will continue to experience larger and larger burden of future losses.
BILL MOYERS: So are these negotiations going on this week between Treasury and Citigroup crucial to this process?
ROBERT JOHNSON: I think they're crucial to the process. I also think, if you're going to allow them to act as zombies, then the regulators need to be really fierce. To curtail the activities within the bank while it's motoring along, hoping for a rebound.
BILL MOYERS: This is what puzzles me. I mean, Citigroup executives who got that bank into this ditch, seem to have as much authority in dealing with the government, the Treasury, as the Treasury has in dealing with them. Does that seem right to you?
ROBERT JOHNSON: It doesn't seem right, but it does seem real. When one looks at websites, like OpenSecrets.org, and looks at the scale of campaign contributions that come from Wall Street, one understands why Wall Street, how do I say -- when they talk, people listen.
On the other side of that issue, the flood lights are so bright now we're talking about $700 billion for TARP. Obama has asked for another $750 billion in the budget this week for the banks.
We're talking a trillion and a half dollars. People can't do sneaky things on the side as easily. Because the scrutiny, the watchdogs have now arrived. They understand this is a colossal problem. So I do think there's more scope for good public policy because it's such a large and deep crisis.
BILL MOYERS: What have you learned this week about the Obama plan that encourages you?
ROBERT JOHNSON: What encourages me is they're talking about very profound changes in financial regulation. I have yet to see the details. But Mr. Obama made a statement, a couple days ago, that was very, very concrete about: the old rules don't work.
PRESIDENT BARACK OBAMA: And I intend to hold these banks fully accountable for the assistance they receive, and this time they will have to clearly demonstrate how taxpayer dollars result in more lending for the American taxpayer. This time, this time CEOs won't be able to use taxpayer money to pad their paychecks or buy fancy drapes or disappear on a private jet. Those days are over.
ROBERT JOHNSON: He also spoke about what you might call free market fundamentalism. Unfettered, unregulated markets as one pole, and what you might call administrative socialism as another pole. We've got to end up somewhere in the middle. Where the market's dynamism and flexibility is honored, but where you have real regulation and real enforcement. It's been a long time since the president has talked like that. So I think that's a hopeful sign.
But the question is, as this man stands at the crossroads, as a very young president, will he exert the will to implement what, say, his heart tells him when he gets it?
BILL MOYERS: What do you mean crossroads?
ROBERT JOHNSON: The crossroads right now is that we could have a society become despondent. People who think that proper reforms, and proper business restructuring, are just romantic notions. And what Obama needs to do now is not talk, he needs to deliver the goods. He needs to deliver the goods plain and simple where people will regain their trust.
BILL MOYERS: How do we stop the bleeding?
ROBERT JOHNSON: People talk of nationalization. I just call it restructuring. Restructuring is a part of capitalism. That's how the airlines get restructured when they go through bankruptcy. How you might have to deal with the auto industry, how you deal with venture capital projects. Do the same thing with the banks.
BILL MOYERS: The economist Dean Baker agrees with you. He says there's a growing consensus among economists like you, that this would be the fairest and most efficient thing to do. Put the banks through the same sort of receivership process that the FDIC, the Federal Deposit Insurance Corporation, uses all the time. Is this, however, nationalization in disguise?
ROBERT JOHNSON: Well, I think the notion of nationalization has been a little bit of a PR spin. Restructuring is what you do as capitalist economies to maintain function and continuity. Nationalization invokes the specter of the state seizing the means of production, like Che Guevara is about to take over or something.
BILL MOYERS: Exactly what does it mean to nationalize the banks?
ROBERT JOHNSON: Well, what I think they need to do is inspect them thoroughly, examine, mark down the assets to a conservative level that protects the taxpayer. See the resulting deficit on the balance sheet, which is the hole.
Then the government injects the capital. People continue to operate the banks. People who continue to work there then perhaps sign new contracts with the government. And the government just becomes the stockholder until such time that they sell the stock back to the market and get paid back a little bit for all the lost support that they're creating for these banks.
BILL MOYERS: Haven't we already nationalized some big banks? Washington Mutual, WaMu, Wachovia, which was taken over by Wells Fargo. They transferred control of the assets to new owners, and depositors, like me, didn't even notice that anything happened over the weekend.
ROBERT JOHNSON: Well, that's what the process entails. The difference this time, to give the authorities some credit, is that there were people that could take over WaMu. There were people that could take over Wachovia. But now you have four enormous institutions, JP Morgan, Wells Fargo, Citigroup and Bank of America.
I don't know if there's anybody big enough to take them over. Though they could take over pieces. You could break them up and sell the pieces. And that would continue to function. The continuity of function that you described in your banking relationship is vital to preserve.
BILL MOYERS: So what's the objection to that from the people you talk to who don't like it?
ROBERT JOHNSON: One is people feel the government would make a mess of running things. I actually don't agree with that.
BILL MOYERS: Well, FEMA's a pretty unsettling model.
ROBERT JOHNSON: Yes, it is. But I would say you could work with Tim Geithner, who's quite a competent man, working with the existing Citibank management, with just a different set of stockholders. The one danger you have, when you keep these banks open, when they're insolvent, is they have a temptation to very risky activity.
Sort of like a quarterback throwing the Hail Mary pass. The losses on an interception accrue to the taxpayers. And the touchdown is kept by the stockholders. So if they take excessive risk in those times they can actually endanger the stockholders further. The plan that Geithner and the White House, the Obama administration, is adopting right now, which I will call intravenous drip capitalization, is one of forbearance. Meaning, don't realize the losses on the balance sheet now. Don't account for everything in a prompt way. Don't truncate the losses, but allow them to go on. And the danger is the ditch could get deeper and deeper.
BILL MOYERS: What's the most discouraging thing you've seen about the Obama plan?
ROBERT JOHNSON: I think the capital assistance program is warehousing zombie banks and running the risk of the taxpayer over the next one or two years, will experience much larger losses.
BILL MOYERS: The capital assistance program. That is?
ROBERT JOHNSON: That's the bailout, the drip intravenous capital injections.
BILL MOYERS: For which he's asking, in his budget this week, for another $750 billion.
ROBERT JOHNSON: That's right. And I do think, perhaps, the reason they went with the intravenous program, is they were fearful, given the way the well was poisoned by Henry Paulson's TARP plan, that Congress won't give him any more money. But they're foreshadowing that the scope of the problem is enormous.
Perhaps the only difference between Secretary Geithner and myself might be that he knew after negotiations, he couldn't get all the money he needed. So he has to go on the drip until he builds a consensus, and then can do the more profound restructuring.
BILL MOYERS: And you're saying that the drip is too slow, too risky, too dangerous, and that what we need is immediate surgery?
ROBERT JOHNSON: Well, I guess if the heart of the economy are the four or five major banks, you do need a transplant.
BILL MOYERS: And so the government would step in and do what?
ROBERT JOHNSON: I would ask for letters of resignation from the top executives of all the major banks. I would not do a case by case restructuring. I would take the largest group all in and say, "I want everybody's letter for resignation."
You might not honor all those letters, but you'd have them. I would then say, "The stock is worth zero. The balance sheet is too far negative to continue risking the taxpayer's money." The examiners, somewhat like FDR did in a bank holiday, would examine the depth of the hole in those balance sheets.
Fill that hole with money, taxpayer's money, to recapitalize. Send them back out into the marketplace where people know they're wholly capitalized. And last thing I would do is I would separate the toxic assets from the bank that you put back in the marketplace.
So everybody knew the resulting creature was sound and confidence could rebuild. Inner bank credit could start to flow again, 'cause they aren't afraid of each other.
ROBERT JOHNSON: But the question is would that resulting system of financial institutions, separated from the bad assets, recapitalized for the medium term, create new credit flows?
Give people confidence that there was fair play. That the economy and the financial system, I would say, was subject to the same discipline as the rest of us. There's an old saying about you don't ever want to walk under a guillotine, but after the blade falls, you can walk over it. Well after the blade falls people just start walking forward again. But they don't want to be walking under it.
BILL MOYERS: You're saying that the blade should fall, on the management of these banks, and the shareholders who went along with this excessive risk taking, because they wanted the big returns. The blade should fall on them. Get them out of the way. Government restructures. And then offers the banks back into the market and new investors come in.
ROBERT JOHNSON: That's correct.
BILL MOYERS: So the people pay the price who bet wrong, right?
ROBERT JOHNSON: That's correct. I think that's very fair. I think that's how markets are constructed.
BILL MOYERS: And what happened to the markets over these last 25 years. They created a lot of wealth for a few people, relatively, and then passed enormous losses onto the public.
ROBERT JOHNSON: Yes. We had a very, very false vision of the sufficiency of markets left unfettered. When, in fact, the financial sector, as we now know, can spill over.
This is a fascinating dimension. Financiers used to say, with all of their academic consultants, and everything else, "You can leave us alone, and we'll create flexibility and prosperity. Trust us." And then, when they got in trouble, they say, "You have to bail us out, because if you don't, your hostage in society goes down with us." Which is kind of what's happening right now.
We had 25 years of excessive risk taking with people like Alan Greenspan and everybody else underwriting by rescuing each crisis. Robert Rubin and Larry Summers rescuing from the Mexican crisis, the Long-Term Capital Management deal, which didn't involve taxpayers' money but it involved public officials organizing it. But you kept anaesthetizing the fear of loss on the part of financiers, and they built the bubble bigger and bigger and bigger. And now they need the bailout. We made a mess of regulation in the old days because we acted like they would never do something that took excessive risk. And they did do things that took excessive risk.
BILL MOYERS: So we had a system that enabled them to take huge sums of cash out of the short run, and pass the long run losses onto the public. That's essentially what it comes down to.
ROBERT JOHNSON: That's right.
BILL MOYERS: As you look around the world, and see what's happening, the consequences of our own financial meltdown, what's the worst case scenario?
ROBERT JOHNSON: The worst case scenario is that the Asians have built a world based on export led growth. Ever since World War II, the United States consumer has been the buyer of last resort. The American consumer is shut down. If the Asians don't rebuild, based on the power of their own consumers, and they drop their exchange rate, what's called beggar thy neighbor devaluation, it can put deflationary stress back on the United States and on the European countries.
BILL MOYERS: Deflationary stress meaning?
ROBERT JOHNSON: Lower prices. In other words, if the yen weakens tremendously, the US car companies have an even greater problem competing with Toyota and Nissan. But I think there's even a more violent possibility.
We have a group of countries in central Europe and Russia. CIS, the Commonwealth of Independent States that were in the transition, from the days of communism, and they haven't become mature industrial market economies.
BILL MOYERS: You mean, the Berlin Wall is down, but they haven't built up their own--
ROBERT JOHNSON: They were on their way. But this disruption is so violent that we could see their social systems disrupted and shattered as credit is cut off, as banks pull back, as foreign direct investment ceases. And they could go back into turmoil. And the, what you might call architecture of the integrated world, would be shattered. They have a system there. They have this European Union. I think, if it starts to disintegrate, the Germans and the French are going to have to step forward.
So the existing constellation of property rights means the Swiss banks or the Austrian banks experience the default. But if the whole system disintegrates, they'll have to socialize those losses, just like the Americans are socializing the loss of its mega-banks.
BILL MOYERS: By socializing the losses you mean?
ROBERT JOHNSON: The taxpayers of the respective countries would pay those losses together. So that a German bank may not be the one that created the losses, but they may have to bail out the Austrian banks to keep the whole system functioning.
BILL MOYERS: And then what happens to us? The United States?
ROBERT JOHNSON: Well, if they don't handle that resolution well, the further weakening of those countries feeds back to weakening in the United States.
BILL MOYERS: What's the worst case scenario there for us?
ROBERT JOHNSON: Well, the worst case scenario for us we saw in the 1930s, was the Great Depression. I don't think it's as likely. We have made some structural changes. Obama's administration did pass what I don't think was a strong or vigorous enough stimulus program, but they did pass a stimulus program, that will alleviate some of that downturn.
BILL MOYERS: When I talked to you last week, you were really pessimistic. This week you seem a little more hopeful. What's happened?
ROBERT JOHNSON: Well, they say life is a fine balance between hope and despair. And I've seen this week on the positive side. Conversations about reinvigorated regulation. I've seen a very capable man appointed for procurement at the Pentagon to stop spending, Ashton Carter.
I've seen a budget plan that involved changes in tax loopholes, and a positive stride towards health care spending. And the only thing that sticks in my craw is I don't think that the bank resolution plan, the capital assistance program is strong enough or fast enough.
BILL MOYERS: Rob Johnson, thank you for being with me on the JOURNAL.
ROBERT JOHNSON: My pleasure.
SENATOR CORKER: We're going to give them public dollars .... That, to me, is nationalization. I mean, that - I'd like for you to give me a term to use as I leave here as to what we would call that.
BEN BERNANKE: Call it a public-private partnership.
Bridge Loan to Nowhere?
September 24, 2008
An extended version of this article was published on The Nation.com September 22.
Henry Paulson and Ben Bernanke's bailout plan is not only the most expensive; it is also the most likely to fail. But there is more than one way to restore trust and restart markets. First, take a leaf from the New Deal. That is, just send bank examiners into all the institutions--investment houses and insurance companies, as well as banks--to assess them. Insolvent ones are closed; everyone knows then that those that survive are solvent. Economic life restarts. The total cost to taxpayers is minimal.
A second way is for the government to inject capital directly into those financial institutions with a reasonable prospect of surviving in the long run. This was the essence of Senator Chuck Schumer's proposal, which surfaced just ahead of Paulson's announcement. The New Deal did this, too. It used the Reconstruction Finance Corporation, which put severe terms on banks receiving aid. Wall Street, of course, would love the money but not the terms. Somebody to inspect and certify the solvency of financial houses is also prerequisite for this option, which is anathema to the Street.
Finally, there is Bernanke and Paulson's choice. Just have the government buy the junk, giving Wall Street real money--our money--in exchange for it. Notice three points about this one. First, the lucky firms continue merrily in business; the Paulson plan, thus far, pays only lip service to reforms. Second, there is the truly alarming likelihood that $700 billion will not be enough. Estimates of the amount of junk out there vary, but the key point is that most financial experts have consistently underestimated the problem, and there is no reason to believe their forecasting has improved. Third, the draft plan is silent on the prices at which assets are to be bought and, presumably later, resold, raising the possibility of sweetheart deals.
It is vital that Congress insist on reasonable terms for the public. For example, the government could take equity in the firms it bails out, which can be sold later at a profit. We prefer this method to warrants, which are rights to buy shares at a low price that ensures a gain if and when they are finally exercised; in past bailouts, firms like Chrysler pressured the government not to exercise such warrants.
To recapture some of the broader market gains flowing from the injection of public money, one could place a modest new tax on interest and dividends. "Carried interest," the ludicrous special tax break for private equity that not only Republicans but Schumer and other Democratic leaders continue to defend, should go as part of any deal on a bailout.
And finally, obviously, it is necessary to re-regulate. The details might require time to work out, but handing out money before nailing down reforms is too dangerous. Congress should legislate, with a promise to fix details later. If Wall Street doesn't like it, it doesn't have to accept the money.