Wednesday, May 20, 2009

P-PIP: The Puzzle...

The head spins trying to take it all in. The numbers. The spreads. The math. The odds. The payout.

No it's not the odds of the filly winning the Belmont Stakes.

It's a discussion of PPIP, the US government's private-public investment plan to unload the toxic assets from the balance books of the banks.

Apparently the private organizations will do well under the plan.

The public gets fleeced. At least according to Columbia University professor Jeffrey Sachs, in a post that I found on Vox. Here's his take on PPIP:

"Specifically, the FDIC is lending money at a low interest rate and on a non-recourse basis even though the FDIC is likely to experience a massive default on its loans to the investment funds. The FDIC subsidy shows up as a bid price for the toxic assets that is far above $360 billion. In essence, the FDIC is transferring hundreds of billions of dollars of taxpayer wealth to the banks."

And the reason Americans aren't marching with pitchforks on Washington - the math is just too damn complicated:

"With a little arithmetic, we can calculate the size of that transfer. In this scenario, the private investors (who manage the investment fund) will actually be willing to bid $636 billion for the $360 billion of real market value of the toxic assets, in effect transferring excess $276 billion from the FDIC (taxpayers) to the bank shareholders! Here's why.

Under the rule of the Geithner-Summers Plan, the investors and the TARP each put in 7.15 percent of the purchase price of $636 billion, equal to $45 billion. The FDIC will loan $546 billion. (All numbers are rounded). If the toxic assets actually pay out the full $1 trillion, there will be a profit of $454 billion, equal to $1 trillion payout minus the repayment of the FDIC loan of $546 billion. The private investors and the TARP will each get half of the profit, or $227 billion.

Since this outcome occurs only 20 percent of the time, the expected profits to the private investors are 20 percent of $227 billion, or $45 billion, exactly what they invested. Similarly, the TARP's expected profits are also equal to the TARP investment of $45 billion. Thus, both the TARP and the private investors break even. As competitive bidders, they have bid the maximum price that allows them to break even.

The bank shareholders, however, come out $276 billion ahead of the game, while the FDIC bears $276 billion in expected losses! This transfer occurs because the investment fund defaults on the FDIC loan when the toxic assets in fact pay only $200 billion, an outcome that occurs 80 percent of the time. When that happens, the investment fund is "underwater" (holding more in FDIC debt than in payouts on the toxic assets). The investment fund then defaults on its debt to the FDIC. The FDIC gets $200 billion instead of repayment of $546 billion, for a net loss of $346 billion. Since this outcome occurs 80 percent of the time, the expected loss to the taxpayers is 80 percent of $346 billion, or $276 billion. This is exactly equal to the overpayment to the banks in the first place."

See what I mean about the math? It looks like it will add up nicely for the banks – and the execs who run them, because they'll be declaring profits and celebrating with bonuses in '09.

Yet I assume there is a reason why these assets have been labeled "toxic" - because they're not worth anything. The beauty of "the free market" is that the loss needs to be absorbed somewhere - so if not the banks who accumulated the toxic assets, then the public.

We get to pay the price for the big toxic spree made by the banks.

I keep harkening back to Reagan's "trickle down" theory. If only we'd loosen the surly bonds of government, we'd unleash the power of the free market - and see money trickling from the top to the very bottom.

That's what they sold us back then. If you click on this link, you'll see a chart that shows how that plan worked. The top one percent has seen extreme increases in income since Reagan; everyone else, not so much. In fact, the bottom 80 percent has not really seen much growth in income at all since Reagan.

(And if you're a big fan of charts, you can go straight to the source of that chart over here at the Congressional Budget Office website.)

Today, with PPIP, we're not even talking about the money "trickling down." The continued transference of wealth to the wealthy is presented to the public as an "investment." But it's looking like an investment in toxicity that benefits only those at the top.

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