My two cents

Posted: January 30th, 2009 | Author: Wayne Weddington | Filed under: Opinion | Tags: bailout, obama, Opinion |  Email This Post 4 Comments »

It astonishes me how much capital the new Administration plans to use to ’save’ the banking sector. Trillions.

So many brilliant minds have weighed in, each with a slightly different tilt. Each believes that theirs is the only one that would work. Me too. Perhaps Rush Limbaugh’s proposal is the most brief: “Fail.”

I am competitive. So I am compelled to offer my two cents. I hope Obama (a former Columbia classmate of mine) is listening. These two cents could yield billions in investment return — an attractive recompense by any measure — and get investment/lending capital back to work.

Ignore the blather about the perils of nationalism, unAmericanism and communism. This is jargon for those who would criticise rather than solve. America has now become a market “investor” and must begin to think like one. Our forebears would never have hoped that the American Government would invest directly in private enterprise — too risky! not a free market! communist! — but now that we are here America must do so with acumen and sobriety.

Sidestepping the jargon, it would be prudent for America to acquire the banks on the brink of failure. Now that America is a vulture investor She needs to get her just recompense for the risks taken. So far, the TARF capital allocated to the banks yields a paltry 5% annual preferred return… and that for companies that are technically insolvent. Such a proposition is on its face, to re-hash a phrase, ra-donk’-alous.

I know plenty of savvy private equity and vulture investors. When an otherwise good company hits a rough patch, these market opportunists acquire the company at cents on the dollar. They know they cannot succeed without the (spanked) hand of management, so they incent management to earn back its equity ownership with performance. In the process, both management and the investor can benefit greatly. If America buys the banks that are “troubled” by simply assuming the liabilities, and, yes, cramming down the current equity-holders, capital will begin to flow again.

It allows these troubled banks to function as ongoing enterprises buoyed by the strength of America’s balance sheet, (weakened as it may be). They could therefore conduct business again in a meaningful way.  Capital lending would restore because the banks would not have to worry about the “toxic assets” impact on the reserve requirements.

No, America is not going to hold onto them forever. We are not Bolsheviks. Instead, incent management in a way that they understand: old fashioned capitalism. If it turns out that the buy-and-hold of ‘toxic’ assets becomes profitable in the long run, then the banks’ principals would be well-positioned to buy the equity back by raising new capital from the private sector.  Once the enterprise is healthy, management can compensate the American taxpayer at an annual look-back return of say, heck, eight percent, and re-acquire the equity.

In that scenario, Unce Sam would have been justly rewarded for its risk acceptance and, in the meantime, would have provided an appropriate platform for the continuance of the credit confidence and lending so necessary for our economy to stabilize.  And it provides a solid path for restoring America’s “bank holdings” to the private sector.  Given that we are compelled to behave as the investor of last resort….. we should receive just recompense.

I believe that is far better than the “bad bank” proposal where the government would pay a gi-normous up-front market premium for assets that, in the end, worst case, could be worth nothing. Why throw good money after bad?

My two cents.

---