The new rescue package being put together by Treasury Secretary Timothy F. Geithner is fundamentally flawed. Essentially, it may be viewed as an attempt to defy the laws of financial gravity at a cost of $ 2 trillion. Why is it flawed?

There are two main reasons why it is flawed. The first has to do with how the market for bad debt works, and with two problems with the functioning of this market currently. The second has to do with the stage the crisis of the American economy is in now.

Let’s start by looking at how the market for bad debt works. For the moment it is difficult for banks to unload this debt. The primary reason for this is that the pricing of it is difficult. There is a risk that the value of the debt may deteriorate even further if the crisis deepens. And currently sellers are not willing to sell at a price that reflects that possible downside and want a higher price than buyers are willing to pay.

But why do they not want to sell at the price where the market would clear? In other words, why is the market for bad debt not functioning as it normally does? There are two reasons, I think. The first is government intervention, the second is balance sheets.

The government intervention argument is, simply put, that as long as there is a chance of the government being the first to “chicken out” (due to the political pressures resulting from the crisis) of “the game” of conflicting interests that the crisis also is, there is also a possibility that banks may be able to shore up their balance sheets with government subsidies or capital infusions that allow them to ride out the storm. Thus the debt is worth more to them as sellers – as there is a potential upside in terms of subsidies – than it is to potential buyers lacking this potential upside. So the market will not clear due to a history of government intervention and expectation of more interventions that creates an asymmetric situation. This is perfectly rational.

The balance sheet argument is pretty straightforward too: It is likely that some banks, possibly a lot, are not willing to sell bad debt at market prices because if they do the balance sheets will be red or so bad that it will threaten their survival. And survival is a goal with higher priority than stock price or customer confidence.

So, in essence, these lines of reasoning on the functioning of the market imply that putting in $ 2 trillion to subsidize buyers is government intervention to repair flaws in the market caused by government intervention. Signaling instead that no more intervention is forthcoming would be a significantly cheaper alternative that would have the effect of reducing the sellers’ valuation of the bad debt and increase chances of market clearing. But it would not fix the second problem, the balance sheet problem. To fix the balance sheet problem, government would also need to say that they will go in and shore up banks by, for example, buying stock (possibly at market price).

Morally speaking the $ 2 trillion intervention is pretty problematic too. It is an intervention that allows banks to sell bad debt at a price higher than the current market value. As such it is an indirect subsidy to the banks using taxpayers’ money. Also, the plan is to do this in a fashion where FDIC picks up some of the risk for the buyers of bad debt. And this, of course, represents a direct subsidy of investors – rich people not needing subsidies, and probably not deserving of taxpayers’ money.

And this leads me to the stage of crisis problem. In order to be willing to put up 2 trillion dollars – a fairly big sum – one ought to be extremely certain that the money goes into the economic system at the point where it will be the most effective. And, frankly, for the moment I don’t think this is that point. The crisis started with the credit crunch, but for the moment it is not lack of credit that escalates the crisis. Rather it is lack of demand. The reason banks are not lending, is not that they do not have money to lend, it is that the crisis is still deepening and that they therefore in a lot of cases think it is too risky to lend out their money. More money to the banks will not make them lend significantly more if the crisis continues to deepen – it will only make them richer. Elsewhere, I have argued that redistribution in order to increase effective demand is called for, and I think that is still the case.

So the point where the impact is likely to be the biggest as of now is with stimulating the economy rather than with relieving the problems of the banks. In short – the wealth effect is reversed, times are uncertain, jobs are lost and people are not spending. As well, the crisis internationally means foreign demand is reduced too. So public spending, income redistribution, job creation, reduced taxes and similar measures are likely to have much more positive effects than more subsidies to the banks.

So, concluding, I think there is every reason to discuss and most likely rethink the so called TARP 2.0. I think it is very likely that it is not the most effective possible policy measure, and I also think it is wrong morally speaking. There has been too much subsidizing already – it should end.

©2012 nekkidblogger. All Rights Reserved.

Danish newspaper Politiken reports that foreign hackers are attacking and emptying Danish accounts online bank accounts. So far, 8,000 online accounts have been closed as a result of these attacks.

Online banking in much more used in the Scandinavian countries than elsewhere. And so far, the security has been assumed to be good. There have been numerous attacks from hackers, but generally the systems have been able to fend off the hackers.

Recently, however, Danish online banks have been exposed to a series of far more vicious attacks that have been successful. Hackers that seem to be of Eastern European origin are systematically breaking into Danish online bank accounts and emptying them of funds. Politiken writes:

“We are doing the best we can to be on guard and discover the attacks. But the fact of the matter is that all online banking customers with a PC that is not fully updated are in the risk zone,” Danish Bankers Association spokeswoman Birgitte Mikkelsen tells Politiken.
Old programmes
Some 3.3 million Danes, out of a population of 5.5 million, currently use online banking. Many of them are at risk simply because they have not updated all of the programmes on their PC.
Where previous hacker risks took place because people opened an attached, infected file – the new method of attack takes place without the user being aware of any incursion.
Hackers can use a gateway in an un-updated programme such as iTunes, a PDF reader or Java to lodge spyware which waits until the user keys in an online banking code. The code is then sent to a hacker who is able to log in to bank accounts and transfer funds to another account.
Responsibility
“There is a major risk here because the user doesn’t know that he or she is vulnerable. The banks do a lot in the battle against hackers, but the user must take responsibility for his or her own computer security,” says Peter Kruse of the Csis company, which cooperates with Danish banks to increase security.

The scam is pretty well organized. Chief Inspector Henning Schmidt of the Copenhagen Police Section for Economic Crime confirms that the current attack can be tracked to countries where Russian is spoken. He also indicates that the Russian, Ukrainian or Baltic hackers also use Danish mules or middlemen who make sure that the hacker gets his stolen funds.

©2012 nekkidblogger. All Rights Reserved.

It is popular right now to blame banks for the financial crisis – that is, the current recession in the US. The banking system in the US is not working, people say. Banks are not lending, not passing the government billions on to hungry borrowers. And so on.

The hidden premises behind these lines of reasoning are two. One is that banks ought to be lending more money to borrowers than they do (especially since they have received government bailouts). The other is that the economic system is not working because banks are not lending as they are supposed to. Both premises are seriously flawed.

Banks in the US are currently doing exactly what they should be doing. Look at it this way: You are a banker. For the last several quarters you have had huge losses. So have other banks. Furthermore, the economy is bad. You think housing prices may fall another 20 percent, that GDP may drop another 10 percent, that 5 million more may become unemployed. As well, you expect Dow to drop to 5500. And as lots of other banks are losing money big time, you want to be cautious about borrowing to them as well. Also you read every day about businesses losing money or making considerably less money than before. As well, you know the same thing is happening in Latin America, Europe and the Far East. And commercial real estate is in a decline, and default on credit card debt is rising.

Who would you lend money to? Or – more generally – is this a climate where you would want to lend at all? I think maybe not. I certainly would not if it was my money.

So, in a situation where the economy is still on the way down – and pretty fast as well – the banks are doing the right thing! They are behaving in a rational fashion as far as lending is concerned.

So, if you want to blame anybody – blame the financial institutions for the crisis, and the Bush-administration for giving away money to the financial industry without imposing sufficiently strict terms. But not the banks for not lending right now!

The second premise is equally flawed. Why it is, should be apparent. Simply because the problem is the economy itself, not the banks. It is not that the economy is dropping deeper into recession because banks are not lending, but rather (or more correctly “more”) that banks are not lending because the crisis is still expanding, spreading and deepening. Thus there are few solid, good borrowers around.

Thus the primary task right now is to shore up the economy and make it work again. Forcing banks to lend would be wrong – it would lead to even greater future losses, as the risks currently are simply huge! This is probably true not only for the US, but many other countries as well.

See also: Times: Obama prepares to unveil plan to rescue US banking industry from $2 trillion hole

©2012 nekkidblogger. All Rights Reserved.