Bailout Nation: Freddie, Fannie, and more

[TheNiche]

Tax rates? Speaking of hysterics, I see why you stopped making fun of Bryan histrionics. It is because you are making your own. The market is not tanking on fears of an increase in the top tax bracket to 10.4% lower than Reagan's top tax rate. If it is, then investors are even dumber than you and I have said they are.

I don't know where you're coming up with your 10.4% figure or why you would believe that it would stop there in light of such unprecedented deficit spending. It is also worth noting that taxable income among the socioeconomic classes that actively participate in capital markets typically have income from multiple sources, taxed differently and often often more than once.

For instance, someone who invests in Wal-Mart's common stock might plausibly expect to watch as revenue growth is suppressed by higher state and local sales taxes which make up for shortfalls in some markets, then as Wal-Mart's net income is taxed at a higher corporate rate, causing reduced earnings per share after taxes even if earnings per share before taxes managed to eke out an increase, and then as the stock price adjusts to a lower level consistent within a reasonable range of its historical P/E ratio. The investor's first reaction might be to shift more money into Wal-Mart while other investors are making their projections weighted towards prevailing conditions, except that if they believe that capital gains taxes are going to more than double, then the opportunity cost of invested capital is insufficient to justify investment until the P/E ratio adjusts far enough downward to again justify investing assets rather than engaging in the alternative, which is the consumption of assets. And on top of all that, if dividends (considered as part of personal income) are now going to be taxed at a higher rate because the prospective investor happens to be in one of the top tax brackets, well that's probably just the tip of the iceberg...but it doesn't exactly encourage people to invest rather than to consume, either.

Where the impact of taxes are concerned, you have to bear in mind that investors determine asset prices by making forward-looking assumptions. It was only a couple years ago, in the heady days of excessive consumption spending and overinflated asset prices that credit was easy to come by and the government deficit was incrementally declining. Very few (myself admittedly not among them) foresaw any kind of meltdown on the scale of what has happened, much less anticipated deficit spending on such a catastrophically high level. Most investments were made with an exit strategy in mind that was fewer than five years, and macroeconomic projections (as equally unreliable as they were necessary for underwriting) were trended along what was thought to be a reasonable expectation of growth. To the extent that the possibility of economic contraction was accounted for, nothing on this scale was officially considered plausible, and unofficially, conflicts of interest were ordered such that dissenters were punished. Nobody at that time even knew who would be running for office in 2008, and even as recently as the HAIF event in November, you and I actually agreed with one another (wrongly) that the controlling Party would probably re-evaluate its priorities and become somewhat more cautious with spending on non-productivity-improving programs. The signals being put forth by then president-elect Obama supported our conclusions for a short time.

So up until even very recently, there might have been some sliver of hope among the socioeconomic classes of society that participate most actively in capital markets that government would engage in fiscal restraint. Holding all things other than government intervention constant, an investor looking forward then probably had more reason for optimism that his investment would yield sufficient return for him tomorrow to bother having made the investment--as opposed to consuming something today--than would an investor looking forward as of now. Assumptions have changed, and not in a good way. If investors held on to their assumptions in the face of evidence to the contrary (again)--that would be insane.

Did you learn this argument at the tea party? You need to trade it in on a new model.

There was nothing at all to learn at that pathetic excuse for an event, which was co-opted by the Republican Party. I went there to check it out but came away with nothing but criticism. I hope I was clear about that in the other thread.

And to be perfectly clear, I'm at a point now where neither political party has any redeeming qualities that I can recognize, nor much hope for any kind of transition that I could appreciate (such as you and I discussed and agreed upon in November).

[RedScare]

Your argument does not even make sense in a sterile academic environment, much less in the real world. There are so many different classes of investors who are unaffected by the individual tax rate as to make an argument that it affects the market meaningless. Moreover, investors are not worried about top tax rates when the market has lost over 52% of its value. They are worried whether they will have anything left to invest AT ALL. And, it's not like there are SO many great investment vehicles right now that the discriminating investor is looking at potential increases in the top tax rate after 2010 and deciding where to invest his money for best tax treatment. And, even if he is, it is not like anyone cares. Seriously, who cares?

As to consumption versus investment? Please. I've never met anyone who ever made the balancing test you describe, and if anyone ever did make that comparison, then that is someone who SHOULD be taxed at a higher rate, because he is an idiot.

Dropping the cap gains tax encouraged an overreliance in the stock market. Cap gains should be taxed at the same rate as ALL income. That way, investments will be evaluated on their merits, rather than favorable tax treatment. That's part of what got us in this trouble in the first place.

FYI: Still agree with you that both parties are blind and dumb, and still agree that we need more than two.

[crunchtastic]

The socioeconomic classes that actively participate in the struggling- to- keep- their- s**t- together- so- that -they- don't- have- to- live- under- a- bridge market would think anyone who puts so much effort into worrying about a half point on their tax exposure on an investment is not investing for the right reason.

OK, it's me who thinks that, but I love Niche's new term for rich people so much I wanted to use it in another fashion.

Edited March 3, 2009 by crunchtastic

[TheNiche]

Your argument does not even make sense in a sterile academic environment, much less in the real world. There are so many different classes of investors who are unaffected by the individual tax rate as to make an argument that it affects the market meaningless. Moreover, investors are not worried about top tax rates when the market has lost over 52% of its value. They are worried whether they will have anything left to invest AT ALL. And, it's not like there are SO many great investment vehicles right now that the discriminating investor is looking at potential increases in the top tax rate after 2010 and deciding where to invest his money for best tax treatment. And, even if he is, it is not like anyone cares. Seriously, who cares?

As to consumption versus investment? Please. I've never met anyone who ever made the balancing test you describe, and if anyone ever did make that comparison, then that is someone who SHOULD be taxed at a higher rate, because he is an idiot.

I've tried to provide reasoning and examples, and the best you can do, apparently, is to tell me I'm not making sense and then provide a vastly oversimplified rebuttal focusing on a single aspect of a single taxing mechanism. If you want simple/academic/sterile, I can try to accommodate that.

The very premise of Net Present Value is built upon the question: What is the minimum real rate of return for which an investor would be willing to forgo consumption today for greater consumption tomorrow? The answer to the question is the investor's discount rate.

If the financial performance of business entities are adversely impacted by higher tax rates (in one or multiple forms), it does nothing to change the discount rate; fewer new business entities will have a positive NPV such as would justify their initial capitalization and the transactional value of existing business entities will be reduced. If the increase in tax rate is assumed to only apply to the initial year or so, then the impact is relatively small...especially, as you point out, if that is a recessionary year where most business entities aren't making much (if any) profit and if we're only talking about income tax and not necessarily about property taxes or the demand destruction for that company's products if they are subject to a sales tax. If an increase in tax rate is projected as a constant rate throughout the projected existence of the business entity, and a business entity has any ambitions of being profitable at any point during its projected existence, then its projected earnings would be adversely impacted by a higher corporate income tax rate. Applied to an NPV analysis, the discounted value of the firm's cash flows are made lower, and thus less attractive to investors. A firm conducting this analysis for a new project would be more likely to conclude that its investors would be better served by returning their money to them. A household conducting this analysis would be more likely to conclude that it is in their interests to engage in present consumption rather than investment. There won't always be a better investment out there to pick from, not if they're all subject to the same rules. This is not to say that all investment will come to a screeching halt if there are higher taxes on either business entities or on the household income on gains from investment, as though the investment objectives for all households are the same; however such a change in tax policy will act to discourage investment.

My exposure to this set of knowledge was most fully explained in an introductory Corporate Finance class, however various contributing concepts were covered in five other economics or finance classes that I can remember off the top of my head. That's not counting the ones that I consistently slept through. If you can provide an effective rebuttal, I'd love to hear it. ...and don't just tell me that nobody goes through this exercise. Net Present Value is the most frequently utilized capital budgeting method utilized in business. Just because you aren't familiar with it does not mean that anyone that uses it is an "idiot" as you describe them.

Dropping the cap gains tax encouraged an overreliance in the stock market. Cap gains should be taxed at the same rate as ALL income. That way, investments will be evaluated on their merits, rather than favorable tax treatment. That's part of what got us in this trouble in the first place.

I agree with your conclusion that capital gains should be treated as normal income (for lots of reasons, actually), however that you acknowledge that capital gains caused an increase in investment in the stock market would indicate to me that you understand what I'm saying.

I wouldn't consider it an issue of over-reliance, though. So much attention gets paid to the day-to-day movement of stock market indexes that it is easy to forget that the functional purpose of the stock market is as an equity market where firms can raise capital for new investment. When stock prices drop by 50% and the cost of business is more or less unchanged, the circumstance discourages new investment. And if dropping the capital gains tax was what was responsible for the run-up in stock prices such as actually encouraged new equity investment--and at the same time Americans were engaging in net dis-savings--frankly it seems to me that an appropriate policy would have encouraged savings to an even further extreme.

Edited March 3, 2009 by TheNiche

[Subdude]

Eep! Dow down 311 (4.52%) to 6565, S&P down 4.7%

Look at the chart I posted on the previous page. This means the major indexes have fallen further in a shorter time than any time since 1930. I'm getting this sick feeling..

[BryanS]

Citi now $1.

But still has a market cap of almost ~$5.5 billion.

That means 5+ billion shares.

I still think that is way too many shares; too high of a market cap for such a phony company.

Citi should buy back some of those shares, to boost its share price.

I recommend they buy back about 5 billion shares, leaving 500M left over.

That will get them back on track.

[crunchtastic]

Eep! Dow down 311 (4.52%) to 6565, S&P down 4.7%

Look at the chart I posted on the previous page. This means the major indexes have fallen further in a shorter time than any time since 1930. I'm getting this sick feeling..

I remember predicting a low of 6200-6500.

I meant for the year, not this week. Yikes!

[musicman]

until investor confidence can be raised by appropriate governmental response, things will continue to worsen. additional governmental restrictions on business operations, esp in this economy, only makes the situation worse.

[RedScare]

until investor confidence can be raised by appropriate governmental response, things will continue to worsen. additional governmental restrictions on business operations, esp in this economy, only makes the situation worse.

[TheNiche]

Citi now $1.

But still has a market cap of almost ~$5.5 billion.

That means 5+ billion shares.

I still think that is way too many shares; too high of a market cap for such a phony company.

Citi should buy back some of those shares, to boost its share price.

I recommend they buy back about 5 billion shares, leaving 500M left over.

That will get them back on track.

There's very little difference between buying back shares of stock and issuing a dividend. I wouldn't recommend either route for a distressed company potentially requiring financial support from the government. They'd be skewered in the press and in halls of congress for asking for subsidy to prop up their own shareholders, and rightly so. Any announcement to that effect would no doubt signal how out of touch the executives were with the political environment and would be greeted with a panic sell-off.

If anything, Citi needs to declare a reverse stock split on the order of at least 1-for-6 to get their stock trading at above $5 (opening themselves up to leveraged investors), then issue more shares to raise cash. A 10-for-1 split would be better. That probably accomplishes what you might have thought you were suggesting, only without the gross competence.

[memebag]

until investor confidence can be raised by appropriate governmental response, things will continue to worsen. additional governmental restrictions on business operations, esp in this economy, only makes the situation worse.

Yeah, getting rid of governmental restrictions will fix it. All the investors know that by now.

[musicman]

Yeah, getting rid of governmental restrictions will fix it. All the investors know that by now.

didn't say that. increasing restrictions in the current economy isn't a step in the right direction.

[RedScare]

didn't say that. increasing restrictions in the current economy isn't a step in the right direction.

[BryanS]

There's very little difference between buying back shares of stock and issuing a dividend. I wouldn't recommend either route for a distressed company potentially requiring financial support from the government. They'd be skewered in the press and in halls of congress for asking for subsidy to prop up their own shareholders, and rightly so. Any announcement to that effect would no doubt signal how out of touch the executives were with the political environment and would be greeted with a panic sell-off.

If anything, Citi needs to declare a reverse stock split on the order of at least 1-for-6 to get their stock trading at above $5 (opening themselves up to leveraged investors), then issue more shares to raise cash. A 10-for-1 split would be better. That probably accomplishes what you might have thought you were suggesting, only without the gross competence.

Thanks for the compliment.

Perhaps the incompetent management at Citi will finally take my advice...

[TheNiche]

Thanks for the compliment.

Perhaps the incompetent management at Citi will finally take my advice...

Hrmm...yeah. Unless this was a moderator's clandestine doing, that's pretty ironic. Very amusing.

[ihop]

didn't say that. increasing restrictions in the current economy isn't a step in the right direction.

What is a step in the right direction?

[Subdude]

What is a step in the right direction?

W.r.t. the banks, there is effectively only one step left. Everyone knows it, but they're afraid to move. Fix the financial system and confidence in the rest might return.

Overnight and Asian markets are continuing down.

Here is the chart I posted earlier updated through yesterday's closings:

[Mark F. Barnes]

Well looking for a small spike this morning, then another dump, oh joy!

[memebag]

didn't say that. increasing restrictions in the current economy isn't a step in the right direction.

You didn't say that, but then ... you said that.

[musicman]

You didn't say that, but then ... you said that.

i didn't say "getting rid of governmental restrictions will fix it" you did. i said increasing restrictions at this time isn't a step in the right direction.

[memebag]

i didn't say "getting rid of governmental restrictions will fix it" you did. i said increasing restrictions at this time isn't a step in the right direction.

OK, I think I see. You're saying we keep the same regulations and rules we had when the banks committed suicide, and that will increase investor confidence, right?

[musicman]

OK, I think I see. You're saying we keep the same regulations and rules we had when the banks committed suicide, and that will increase investor confidence, right?

didn't say that either. unfortunately that's what the govt is trying to push on the banks. there are govt mandates that are not good for day to day business and eventually run into problems. this was wrong to begin with from the business standpoint of the banks. to increase the regulations on other industries, such as autos, will only make the environment worse for them as retooling, etc will be necessary to comply but in their current state, it's not really an option if the govt really wants them to survive.

Edited March 6, 2009 by musicman

[memebag]

didn't say that either. unfortunately that's what the govt is trying to push on the banks.

So what are you saying?

[ihop]

i didn't say "getting rid of governmental restrictions will fix it" you did. i said increasing restrictions at this time isn't a step in the right direction.

I still find myself curious what you think a step in the right direction would be.

[musicman]

I still find myself curious what you think a step in the right direction would be.

depends on what specific industry you're talking about. the govt wanting to force banks to make more loans to those who do not qualify isn't good.

[ihop]

depends on what specific industry you're talking about. the govt wanting to force banks to make more loans to those who do not qualify isn't good.

I agree, people getting loans who couldn't repay them was what got us where we are now. And money was so cheap that many more people took out loans than needed to. Pushing banks to lend willy nilly is reactionary and poorly thought out.

But that being said, the banks were lending because of a failure to restrain themselves from taking insane risks. They obviously can't be trusted to police their own actions, and regulations are typically the gov'ts way preventing corporations from taking advantage of others or running themselves into the ground by acting foolishly, etc. So without setting up guidelines (regulations) to prevent such institutions from hanging themselves again, how will anyone regain confidence in the system?

[musicman]

I agree, people getting loans who couldn't repay them was what got us where we are now. And money was so cheap that many more people took out loans than needed to. Pushing banks to lend willy nilly is reactionary and poorly thought out.

But that being said, the banks were lending because of a failure to restrain themselves from taking insane risks. They obviously can't be trusted to police their own actions, and regulations are typically the gov'ts way preventing corporations from taking advantage of others or running themselves into the ground by acting foolishly, etc. So without setting up guidelines (regulations) to prevent such institutions from hanging themselves again, how will anyone regain confidence in the system?

you're forgetting the fmae and fmac fiasco instituted by the govt. in the mid 90's congress pushed both to increase their purchases of mortgages going to low/moderate income buyers to low 40's and by 2000 i believe it was at least 50%. many were subprime, adjustable rate and of course little down. and you know what has happened with a large portion of these. the community reinvestment act did a similar thing with traditional banks. i don't want the govt telling banks to start lending out more money in the same manner. here's an earlier article from the wsj on the subject

Edited March 6, 2009 by musicman

[Subdude]

I agree, people getting loans who couldn't repay them was what got us where we are now. And money was so cheap that many more people took out loans than needed to. Pushing banks to lend willy nilly is reactionary and poorly thought out.

But that being said, the banks were lending because of a failure to restrain themselves from taking insane risks. They obviously can't be trusted to police their own actions, and regulations are typically the gov'ts way preventing corporations from taking advantage of others or running themselves into the ground by acting foolishly, etc. So without setting up guidelines (regulations) to prevent such institutions from hanging themselves again, how will anyone regain confidence in the system?

The problem hasn't been lack of loans for "people who couldn't repay them", it was (especially last fall) lack of funding for businesses, trade finance etc. I'm not defending bad lending standards, but right now the low income borrower thing is a bit of a red herring. All businesses were hurt by the reduced availability of credit during the credit crunch, and that contributed to the seriousness of the recession we're now in. That is why various governments that have bailed out banks have insisted that the banks maintain lending. The lesson from last autumn is that the financial system runs on credit.

[Mark F. Barnes]

At this point in time, people have taken their eye off the ball. Everyone is looking for blame and not for solutions. There is some major house cleaning going to be going on in the financial world. Also in the same sense, there are going to be a lot of paper rich people, that are going to brought back to reality, that they were only pretending to be what they wanted everyone else to think they were. The motivation to all these excesses was driven by one thing, greed! Banks, Mortgage Brokers, Housing Speculators, and John Q Public, all were out their gambling that the bubble was never going to burst, that the housing market would continue to rise forever, and got caught with their pants down. Just for argument's sake, there are primarily three primary perpetrators in this corruption, and they all should be held accountable for all their wicked ways. First and foremost, the lack of oversight by the SEC/Government or whatever you want to call it, was a primary cause, and they should be held accountable. Next, the lending institutions who abused the system should not be allowed to profit from its demise; they need to pay for their mistakes. And the mortgage buyers who speculated on higher housing prices at the expense of moderating risk are also to blame; they should not be given a pass for their mistakes either. I am not saying we necessarily need more regulation, but there needs to be some, and what there is needs to be enforced. Oversight turning a blind eye to what was happening, is the worst culprit of all.

Now, many of those same perpetrators (Namely the big banks) are trying to force the hand of Congress, by pulling in markers they bought and paid for over the years, and by imposing fear into the system instead of trying to help fix the problem, they are just as guilty as all the rest, of creating. And as negotiations become more and more heated, they tend to run for cover, under the pretense of fear of collapse. Fear is the driving factor in this never ending down spiral we are caught in currently. Fear that the banking system will collapse, fear that housing prices will collapse completely, fear that the market will crash, and fears that come election time they, being these congressmen, better have made the right decisions by 2010, are weighing on the minds of these so called policymakers, how they are going to keep their jobs come election time. These fears can cloud judgment just like greed did initially. Stop being afraid of what lies ahead and start being proactive. First off, we need to accept, that the bubble has burst, and the economy is going to continue to weaken over time, based on the diminishing demand for investments. And everyone needs to understand, "This cannot be stopped!!!!". Therefore, accept that the economy will be under pressure, expect it to continue contract, and accept the fact that people will indeed lose jobs along the way. With that understood the direction of Congress should be to lessen the burden on the taxpayer, and soften the blow of a weakening economy as best as possible. Instead they are concentrating on propping up the crooks that put them in office, funded all their lavish lifestyles, and hold vaults full of dirt on all of them, on both sides of the isle.

What they need to do is, do their damn jobs for the people they are suppose to represent. This means, specifically, taking control of government debt. Excessive debt by our Government has directly caused many individuals to feel that they too can incur excessive amounts of debt without concern. Reality hits hard, and it is hitting now. Take control of the debt burdens of the country. By country I mean John Q Public, you want to bail somebody out, bail out people that have been responsible, and done the right thing, and are just faceless victims, in this crime. Now this seven hundred plus billion dollar turd, that they pushed through Congress, does not guarantee that banks will begin to lend to each other though, and that's because risks still exist. Those risks need to be dissolved in order for the banking system to continue. Instead of continuing to just throw money at the banks, with nothing coming in return, the need to come up with a some sort of security bond, or insurance, between the banks. The US Government would guarantee the monies and the risk of default between the banks operating in our banking system would be completely removed from the equation. This would hopefully force banks to start lending again. It's really no different than printing money we do not have. They also have got to find a way to separate the good institutions from the bad ones.

This is going to cause a huge contraction in the banking world, but right now it is badly needed. This also would reduce the volume of lending activity overall, but it would also allow the system to operate. A contraction in the system is required, a reset as some people like to put it, and it will happen regardless of, whatever the current administration does, or whatever the eventual accepted proposal ends up being, in his grand master plan. Pumping money in is just prolonging the eventual pain that is to be. Band-aid on a bullet hole is the term tossed around a lot. It's pretty much just that. It's not rocket science to figure which banks are good and which are not. The good one's need to be given these securities against lending, then if they have a failure, they will be seized and sold on the open market, the taxpayer recoups it's losses immediately from the liquidation and the system continues to roll. The bad banks need to fold up their tents, and proceed straight to the bankruptcy line, and reconcile in bankruptcy court. In part this would work no different that the buyouts of WAMU by Chase and Wachovia by Wells Fargo. Both of those were bought out because they had a lot of good assets, I have mixed feelings on CITI Group, they have a lot of shaky paper. Some Banks will fail, and they should be allowed to fail. The shareholders and bondholders of those banks will be impacted, and they should be. The good assets of the banks who fail will be absorbed into sound financial institutions and a more stable, reliable, and powerful banking system will come out of all of this. This will take time, but in the end the integrity of our banking system will be much more than it is today. More defaults and foreclosures will occur, we need to accept that. In many cases greed forced the hand of ARM loans and other creative loans which are now causing the system to fail. Those persons who engaged in these risky loans, with full knowledge of the risk, should be blamed as well.

Politically, none of this would sit well with some members of Congress, but you know what, tough nookies. Shady politics is what got us into this mess to begin with, and who give a damn what they think anymore. If your local Congressman, was really doing his or her job, it should be a great thing to pursue.And if their constituents took aggressive loans based on the ability to make a quick buck and they were left holding the bag, taxpayers should not be forced to bail them out. But as it stands right now, this is exactly what we are doing. We are covering the asses of the very cowards, that dug this hole we are in, with money we earned, with our sweat and blood. And these politicians are playing with it like it's frigging Monopoly money. They have got to force a reset or contraction in the banking system, to get us moving in the right direction. But it's not going to happen in the direction we are headed currently. We need to weed out all these paper millionaires and make the paper billionaires, be actually the millionaires they truly are. We need some serious house cleaning done, and the people that actually played the game straight will survive. And those that got in over their heads, well, they just need to get used to a less lavish lifestyle. I am prepared to face 1987 again, because that is where we are headed currently. We are far from seeing the end of this tunnel, best get used to it.

Edited for Red

Edited March 7, 2009 by Mark F. Barnes

[Mark F. Barnes]

Damn that wasn't meant to be a thread killer, jeez!