At least it isn't clearly stupid ...

By Robert Schmidt and Alison Vekshin
Jan. 28 (Bloomberg)

The Federal Deposit Insurance Corp. may manage the so-called bad bank that the Obama administration is likely to set up as it tries to break the back of the credit crisis, two people familiar with the matter said.

FDIC Chairman Sheila Bair is pushing to run the operation, which would buy the toxic assets clogging banks’ balance sheets, one of the people said. Bair is arguing that her agency has expertise and could help finance the effort by issuing bonds guaranteed by the FDIC, a second person said. President Barack Obama’s team may announce the outlines of its financial-rescue plan as early as next week, an administration official said.

“It doesn’t make sense to give the authority to anybody else but the FDIC,” said John Douglas, a former general counsel at the agency who now is a partner in Atlanta at the law firm Paul, Hastings, Janofsky & Walker. “That’s what the FDIC does, it takes bad assets out of banks and manages and sells them.”

The bad-bank initiative may allow the government to rewrite some of the mortgages that underpin banks’ bad debt, in the hopes of stemming a crisis that has stripped more than 1.3 million Americans of their homes. Some lenders may be taken over by regulators and some management teams could be ousted as the government seeks to provide a shield to taxpayers. (This sounds good. - AM)

Bank seizures are “going to happen,” Senator Bob Corker, a Tennessee Republican, said in an interview after a meeting between Obama and Republican lawmakers in Washington yesterday. “I know it. They know it. The banks know it.” (Busting up the insolvent banks is the type of medicine that the patient needs. - AM)

Laura Tyson, an adviser to Obama during his campaign, said banks need to be recapitalized “with different management” so they start lending again. “You find some new sophisticated management unlike the failed management of the past,” Tyson, a University of California, Berkeley, professor, said at the World Economic Forum conference in Davos, Switzerland today. (The danger is if the new capo is a 'political appointee' the banks become zombies, lending needs to be based on economic merits not political. - AM)

Still, nationalization of a swath of the banking industry is unlikely. House Financial Services Chairman Barney Frank said yesterday “the government should not take over all the banks.” Bair said earlier this month she would be “very surprised if that happened.” (Operative word here is 'all'. Hearing Pandit say this morning that nationalizing one bank means you nationalize all makes me think that he knows that Citi be the first.- AM)

A key question for the bad bank would be how to value the toxic assets it would buy. Geithner, in a Jan. 21 hearing before the Senate Finance Committee, outlined three possible alternatives: look at how the market is pricing similar assets; use computer model-based estimates from independent firms; and seek the judgment of bank supervisors.( If the model considers the bad bank as having a 'low cost of interest' and being able to hold to maturity you could really overpay for the crappy paper. Here's hoping they split the baby down the middle and cause pain in all directions. - AM)

“They all have limitations,” he said. “I think you need to look at a mix of those types of measures.” (Sounds promising.- AM)

Bair has said that cash from the TARP may help capitalize the bad bank and that commercial lenders may kick in some money of their own. One possibility that’s been discussed is issuing firms some kind of stock in the new organization as partial payment for their impaired assets.(21st century equivalent of giving the executioner a few coins so he kills you quickly and painlessly? - AM)


In any new rescue efforts, the Treasury is likely to continue to require banks to hand over ownership stakes to the government as a condition of receiving aid. Programs so far have sought preferred shares and warrants, which can be converted into common stock and cashed out on the government’s request. (Translation : thar be major dilution ahead. Only the suckers will be long at the bank equity table.- AM)


The Fed has participated in Treasury-led initiatives that insured toxic assets remaining on the balance sheets of Citigroup and Bank of America, and analysts said such measures could be used to complement the bad bank.(Devil is in the details. At least it isn't clearly stupid, that is a small bit of progress.- AM)

The government will likely use its ownership of toxic assets to rework soured mortgages and prevent foreclosures.

The FDIC is already modifying troubled mortgages held by IndyMac Federal Bank FSB, the successor to the failed lender managed by the agency since July. Bair, a longtime advocate of foreclosure relief, said the initiative was meant to serve as a model for the mortgage industry. (The only government sponsored plan that has shown any success so far. - AM)

The Fed also said in a policy paper released yesterday by the House Financial Services Committee that it will ease terms on residential mortgages acquired in the rescues of Bear Stearns Cos. and insurer American International Group Inc.