Sheila Bair is doing a fine job at one thing – modifying mortgage terms in the mortgages she has taken over – particularly those at Indy Mac. As a liberal I would be expected to applaud – but I am profoundly glad that Obama did not do as Robert Kuttner suggested and nominate Sheila Bair for the Treasury Secretary post.
Sheila Bair is simply wrong when she implys that the problem started with mortgages and therefore it will end with mortgages. The problem with mortgages is no more than a trillion dollars (say 20 percent of the mortgages in the US defaulting with a 50% loss). Indeed it is much less than a trillion. If the financial crisis were about mortgages it would be over now – what with 500 billion of capital raising, a few hundred billion chipped in elsewhere (either by the Government into AIG or Maiden Lane or by Lehman and Washington Mutual bond holders and all the Fannie and Freddie losses that will be picked up by the Feds). The financial crisis is not about mortgages – it is about trust.
The people who provide finance to financial institutions (inter-bank and otherwise) no longer believe they will get their money back – and so are no longer willing to provide finance. The unwillingness to lend to financial institutions dooms them regardless of their solvency. The crisis is about trust.
It is alarming enough that the head of the FDIC in so self serving a manner misdiagnoses the nature of the financial crisis – self serving because her institution is building up enviable expertise in modifying mortgage terms. Indeed at best Sheila Bair is the woman saying “we must do something, modifying mortgage terms is something – therefore we must do it”.
But if misdiagnosis of the crisis were the end of it then there would be no pressing need for Sheila Bair to resign. It is not the end of it. Sheila Bair is an obstacle – indeed one of the principal obstacles in the way of reinstalling trust to American financial institutions.
It comes about as follows: if you accept that the problem is that people will no longer lend to financial institutions then the core thing that is required is the perception that the US Government will not arbitrarily confiscate your rights if you lend to financial institutions.
On Friday I suggested that Sheila Bair might confiscate Citigroup wiping out in excess of 100 billion dollars in parent company debt. I am just a humble blogger in Australia – and my suggestion would be outrageous except that Sheila Bair through her actions on Washington Mutual and Wachovia made my suggestion plausible. She has form. She has done it before. She has unilaterally determined that Wachovia required a government assisted takeover when Wells Fargo proved only days later that she was wrong. Her judgement is unsound (proven) and her willingness to use powers to wipe out or compromise people who lend to financial institutions make her unsound judgement dangerous.
She just might confiscate Citigroup – because that sort of rash action is up her ally. She shoots from the hip – and Wachovia proves her aim is not true.
Anyway – this crisis will be over when people are willing to lend to American financial institutions unsecured again. And they will not lend to financial institutions when Sheila Bair is around. Her presence makes it dangerous.
A policy statement saying she will not do it again would be nice – but is implausible. Debt holders make a small amount of money when they are right – and lose a large amount when they are wrong. Sheila Bair – even if she promised not to be so rash again would not be believed.
There remains a small chance that she will again exercise her unsound judgement to compromise debt holders – and that alone is enough reason not to lend to American financial institutions.
I do not know what a complete solution to the financial crisis (other than full nationalisation as per the Citigroup post) would look like – but if full nationalisation is not on the agenda (and as far as I can tell it is not) then any solution to the financial crisis involves removing Sheila Bair. She is an obstacle to trust.
It is simple Sheila. Resign now. You owe it to your country.
John Hempton
Postscripts:
1. There has been some comment my view is because I lost money (a very small amount) in Washington Mutual preferreds. It is not. Had the preferreds but not the debt been wiped out I would think that fair enough. I purchased the prefs with three times the yield of the debt. Sheila Bair made them roughly equivalent. I have no qualms whatsoever about wiping out equity investors and I was one.
2. I have purchased Sheila Bair's name on Google Adwords. The adverts link to this post. I am doing my bit to help solve the financial crisis.
10 comments:
"She has unilaterally determined that Wachovia required a government assisted takeover when Wells Fargo proved only days later that she was wrong."
But it was only proved wrong after TARP was passed and the tax subsidies, which everyone is now claiming they never heard about, but were essential to Wells Fargo's bid on Wachovia, gave Wells Fargo the incentive to buy Wachovia. True, that was part of TARP. The point was to encourage mergers in the private sector with tax subsidies, leaving the government out of it. But you need to show that Wachovia didn't need the FDIC to get Citi involved before TARP was passed, or to show that the tax subsidies didn't play a role in Wells Fargo's decision. I've referenced the stories in my earlier post.
As far as I'm concerned, she can resign. And, oddly, I believe that Citi doesn't need to be saved, and that the decline in the price of the stock is more akin to panic than reasoned analysis. So, a government bailout is a disaster if it happens, from my point of view. But I also worry about the way the FDIC and Treasury worked against each other in the Citi and Wells Fargo bid for Wachovia.
Don the libertarian Democrat
Disagree that Bair's IndyMac loan mods can be decreed a success thus far. Servicer research suggests that 50% re-default within 6 months. Hardly a victory -- just kicking the can down the road.
Bloomberg and NYT Dealbook (I think; no time to dig out the reference, sorry) reported that WFC was sniffing around at WB the same weekend as C, but WFC Chairman Kovacevich said "our loan people didn't like the commercial loan book." Even NYT Dealbook thought this sounded like a cop-out.
WFC obviously got over its WBcommercial loan worries. I think WFC was either slower in its analysis than C, or too clever by half -- they needed some lame excuse to delay, and wanted others to make the first move so they could outbid.
So Bair's only sin may be that she was playing poker with people who were doing bluffs or semi-bluffs.
John, can I contribute to the cost of those AdWords?
Let me know how much it comes to in a couple of months and I'll transfer 50% to your account.
Excellent harnessing of modern tools re adwords! Would be hilarious, if only the consequences of her reactions weren't so dire.
Keep up the good work, JL
This idea that losses on failed mortgages are the only problem is wrong. More fundamentally, the effect of discounted foreclosure properties on the real estate market is the tail wagging the dog. As the price of real estate retreats, the value of the collateral for ALL mortgages goes down with two distinct consequences for the financial markets: 1) The "mark to market" losses erode banks’ balance sheets requiring new capital for 100% of the asset backed securities on their books. 2) Until the real estate market bottoms, there's no way to be certain what the fair value of an asset backed security is so they are not traded except under duress at fire sale prices.
There are only two solutions for acting to forestall the consequences being discussed:
1) Walk away from fair value market valuation. Though it’s appealing to consider valuing performing loans according to the present value of the payment stream is a more rational method than marking to a stressed market, this does not include the means for managing risk that investors require - it could only be used to moderate regulators’ capital requirements.
2) Why not solve the whole problem? Stop dumping foreclosure homes by adopting mandatory guidelines for cram down loan work-outs when they are feasible. The failure of mortgage finance institutions to maintain even rudimentary due-diligence discipline to contain reckless loan underwriting by originators is sufficient culpability to justify making the process mandatory.
As if it weren't in mortgage security investors’ best interest anyway. The losses from collateral asset shrinkage so far outweighs the losses from defaults that you have to wonder what the asset managers were thinking when they allowed foreclosure rates to grow to wholesale levels. Didn't anyone understand the effect that dumping would have on the real estate market and the value of the securities on their balance sheets?
Asset backed securities won't be traded and bank balance sheets will continue to deteriorate until the real estate market bottoms. Present value valuation will only mitigate the regulatory consequence in the mean time - it is no substitute for the needed confidence that a healthy market provides. It'll take years to get relief when enough of the bad loans have rotted out and been foreclosed. Until then, the market distortions from repo dumping will continue preventing anyone from knowing when the real "correction" bottom is reached. Potentially worse, dumping pretty much guarantees overshoot that risks catastrophe while the economy is subject to tipping.
The simple advantage that the Sheila Bair approach provides is the shortest route to a healthy real estate market – what ox is being gored that makes this a hanging offence?
The only 50% cure and redefault rate information readily available is from a 2005 S&P write-up of Aurora Loan Services LLC. They were not doing cram-down workouts in 2005. And Aurora is a Lehman spin-out being sued by the Fed under RICO statutes in CO for their origination activities.
I'd be glad for a better reference.
John
First off - excellent blog, the best I've come across by far.
I do think you are dismissing the losses caused by mortgages too lightly. While loss of trust is the #1 cause of any bank failure, surely this is only a symptom of the underlying losses and the increased credit risk on the back of those losses?
Bronte you are completely missing the point.
The reason we lack trust is because so many mortgage-backed securities will remain close to worthless until the servicers and owners accept the necessary modifications Bair has been proposing. It is the uncertainty over the 1 trillion--not the magnitude of it--that is causing the continued jamming up of credit markets.
I suggest you read the last part of Chairman Bair's testimony to the House in November. It is very clear. http://graphics8.nytimes.com/packages/pdf/business/bairtestimony.doc?scp=4&sq=sheila%20c.%20bair&st=cse
The author of this piece is a nutjob. On 60 Minutes last night this lady said the one thing that has needed to be said throughout this debacle, although she couched it politically, this is the essence: No corporation or company should be allowed to become so big, so ubiquitous that it's failure would damage, much less threaten the economy of this nation.
I'm currently selling the domain name sheilabair.com, let me know if you'd be interested...
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