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Robert Reich: The Coming Bailout of All Bailouts Bill: A Better Alternative

September 20, 2008

Robert Reich

If you think the Bailout of All Bailouts (whose details will be worked out over the coming week) won’t saddle American taxpayers with billions, if not trillions, of risky obligations, you don’t know politics — especially in an election year when members of Congress are eager to get home to campaign; when the incumbent lame-duck president (who was he?) has all but vanished, leaving his hapless Treasury Secretary, a former investment banker, to take the lead and the heat; when voters are in high anxiety over the economy and Wall Street is melting down; when the executives of every financial powerhouse in America have staked lots of money on campaigns in both parties and have indundated Washington with lobbyists.

In other words, watch your wallets. The tab here could be very high. If everything goes extremely well, markets move upward, and the risky loans become far less risky, it’s possible that taxpayers (that is, the Treasury) might actually make money. But if the bottom falls out, American taxpayers could be on the hook for trillions of dollars. What then? The federal debt soars. What then? Interest rates go out of sight. What then? Foreigners lend us less money. What then? We’re cooked.

Some Democrats will try to make the best of the emerging Bailout of All Bailouts Bill, seeking to tack a stimulus package on it. In my view, they’d be better advised to hold out for a different approach.

Paulson is right that it makes sense to allow the big banks to wipe their balance sheets clean of as many bad loans as they can identify, and put them into a special agency that then sells them for as much as possible. The agency would bundle or unbundle the risky loans, slice and dice them as needed, with the goal of getting the most for them on world markets by creating a market for them.

But there’s no reason taxpayers need to be involved in this.

Whether you call it a reorganization under bankruptcy or just a hellova fire sale, the process should resemble chapter 11 under bankruptcy. Any big financial institution that wants to clear its books can opt in. But the price for opting in is this: Investors in these institutions lose the value of their equity. Executives lose the value of their options, and their pay (and the pay of their directors) is sharply limited. All the money from the fire sale goes to making creditors as whole as possible.

Meanwhile, policymakers work on a new set of regulations to ensure transparency on Wall Street — governing disclosures, minimum capital requirements, avoidance of conflicts of interest, and better ensurance against stock manipulation — so that, once the bad debts are off the books, the new numbers can be trusted.

I repeat: This isn’t a crisis of solvency or liquidity; it’s a crisis of trust.

To read Robert Reich’s blog post on the bailouts of all bailouts yesterday at Guernica click here.

Robert B. Reich is Professor of Public Policy at the Goldman School of Public Policy at the University of California at Berkeley. He has served in three national administrations, most recently as secretary of labor under President Bill Clinton. He has written eleven books (including his most recent, Supercapitalism). Mr. Reich is co-founding editor of The American Prospect magazine. His weekly commentaries on public radio’s “Marketplace” are heard by nearly five million people. This entry appeared on his blog.

Copyright 2008 Robert B. Reich

To read more blog entries from Robert Reich and others at GUERNICA click HERE .

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