Friday, September 26, 2008

Political Views: WSJ Says Plan Makes Money for Taxpayers

Hello Bloggers - A contributor sent the following Andy Kessler Wall Street Journal article to us and I agree that it does a very good job of speculating on the upside to the proposed federal bailout proposal. If you're like me and you care about what happens to our economy then I think it's worth a quick study.

Excerpts: The Paulson Plan Will Make Money For Taxpayers

"My analysis suggests that Treasury Secretary Henry Paulson (a former investment banker, no less, not a trader) may pull off the mother of all trades, which could net a trillion dollars and maybe as much as $2.2 trillion -- yes, with a "t" -- for the United States Treasury."

"There is a saying on Wall Street that goes, "The market can stay irrational longer than you can stay solvent." Long Term Capital Management learned this lesson 10 years ago when it got its portfolio picked off by Wall Street as its short-term financing dried up. I had thought the opposite -- hedge funds picking off Wall Street -- would happen today. But in a weird twist, it's the government that is set up to win the prize."

"Here's how: As short-term financing dried up, Fannie Mae and Freddie Mac's deteriorating financials threatened to trigger some $1.4 trillion in credit default swap payments that no one, including giant insurer AIG, had the capital to make good on. So Treasury Secretary Henry Paulson put Fannie and Freddie into conservatorship. This removed any short-term financing hassle. He also put up $85 billion in loan guarantees to AIG in exchange for 80% of the company."

"Taxpayers will get their money back on AIG. My models suggest that Fannie and Freddie, on the other hand, are a gold mine. For $2 billion in cash up front and some $200 billion in loan guarantees so far, the U.S. government now controls $5.4 trillion in mortgages and mortgage guarantees."

"Fannie and Freddie each own around $800 million in mortgage loans, some of them already at discounted values. They also guarantee the credit-worthiness of another $2.2 trillion and $1.6 trillion in mortgage-backed securities. Held to maturity, they may be worth a lot more than Mr. Paulson paid for them. They're called distressed securities for a reason."

"Firms will haggle, but eventually cave -- they need the cash. I am figuring Mr. Paulson could wind up buying more than $2 trillion in notional value loans and home equity and CDOs for his $700 billion. So the U.S. will be stuck with a portfolio in the trillions of dollars in bad loans and last-to-be-paid derivatives. Where is the trade in that? Well, unlike Mr. Buffett or any hedge fund, the Treasury and the Federal Reserve get to cheat. It's not without risk, but the Feds, with lots of levers, can and will pump capital into the U.S. economy to get it moving again. Future heads of Treasury and the Federal Reserve will be growth advocates -- in effect, "talking their book." While normally this creates a threat of inflation and a run on the dollar, and we may see dollar exchange rates turn south near term, don't expect it to last."

"You can slice the numbers a lot of different ways. My calculations, which assume 50% impairment on subprime loans, suggest it is possible, all in, for this portfolio to generate between $1 trillion and $2.2 trillion -- the greatest trade ever. Every hedge-fund manager will be jealous. Perhaps Mr. Buffett is buying a small piece of the trade via his Goldman Sachs investment. Over 10 years this could change the budget scenario in D.C., which can also strengthen the dollar. The next president gets a heck of a windfall. In the spirit of Secretary of State William Seward's purchase of Alaska for $7 million in 1867, this week may be remembered as Paulson's Folly."

(Read the whole Andy Kessler Wall Street Journal article at :

So, if he's right, then things might not turn out that bad after all. I think the conservative Republicans who are currently holding back their support should rethink their positions. Of course, this is only one man's opinion. I hope he's right. I do think he's wrong about one very critical thing in the piece though. He gives Paulson too much credit for selling at the right time to benefit the US taxpayer.

If I'm correct, Paulson is a free-marketer who would probably rather see private enterprise take those profits. Paulson's original plan did not guarantee taxpayers ANY benefit from any increases in value. It only gave the Treasury Secretary the right to buy and sell - he could easily sell at break-even, or a loss, and not worry about profits ( He would probably want to sell them to Wall Street friends who would then make a profit on the US taxpayer - a typical Republican position. It's subsequent Democratic Party congressional proposals and changes that are trying to guarantee an upside for the American people.

How unusual for the WSJ to try and spin it to make the Republicans look good. It is Paulson's Folly, but not for the irony like the original, because Paulson really doesn't want to help us in the end. Your views?

Friday's Political View #1 - Michael

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