Necessary Evil

This plan may be a necessary evil for a number of reasons. Leave aside the reservations a private investor doing business with Washington might have after observing the spectacle of the past few days. The plan finally addresses directly the central impediment to recovery, namely, the inability of the banks to reduce their leverage -- and hence their functional insolvency -- other than through severe credit constriction or a disruptive bankruptcy. But let's take a step back and marvel at just how broken the banks had become. The government has to offer concessionary financing terms via the FDIC that exceed any margin loan ever available in the private sector even during times of credit mania. (Among other things, these loans will probably violate NASD margin rules). And that's after all the other bailouts--the cheap financing of the capital injections, the counterparty protections afforded by the Bear and AIG bailouts, the coercion of Bank of America to close the Merrill transaction to avoid further panic, the special backstops created for Citi and B of A and AIG securities, the guarantee of bank-issued wholesale paper, and so on.

So if this plan is necessary, why might you call it evil (as opposed to the first fundamental good step taken)? After all, by putting up matching equity isn't the taxpayer going to get the same opportunity to gain as the private sector? Aren't we limiting taxpayer exposure by "leveraging" the TARP funds already allocated? Isn't the auction mechanism a little closer to a market construct? Yes. But the sad thing is the government has to give subsidized financing on a scale never before imagined and funnel half the profits to a small selection of private players in order to bail out those who obviously did create the credit mania in the first place.