I tried recording this possible solution to the
bailout video just now, but apparently the sound went bad
so I just restarted my computer, so hopefully I won't
turn into slow motion man again.
Well, anyway, the whole discussion so far has been
focused on how did the credit crisis get started, and why
the card bailout proposal, one, is wrong from just a
moral hazard and fairness point of view, and why it
probably won't work even to begin with.
So, you know, why even go into it?
And some of you all said, well,
what could be a solution?
And I've argued a little bit in the wealth destruction
video that you really can't legislate against reality.
That you kind of have to let things correct.
You cannot create wealth just by passing bills.
All you can kind of do is shuffle around
who takes the losses.
But in one of the videos, I argued that if the government
was serious about helping Main Street, about loans to Main
Street, why don't they lend directly to Main Street?
And I kind of said it a little bit flippantly that if that
was their intention, that's what they should do with the
$700 billion.
And I got an email from a friend from business school, a
very intelligent fellow who I respect very much, and he has
a solution that I think is essentially that.
Loan directly to Main Street.
Don't bail out these people who have already acted
extremely irresponsibly and essentially write them checks
from American taxpayers.
And his suggestion is, instead of buying worthless assets,
why not create new banks fully capitalized by the
government-- but you might not even have to capitalize them--
and let those banks lend directly to Main Street?
And he makes a very interesting point.
He says -- let me make sure that I can fit all of this.
And I don't know if you can read it.
I want this to all fit.
But he makes the interesting point.
$700 billion of capital -- this is his email that he sent
to me -- with $700 billion of equity, this is more book
equity, and therefore more lending power, than Bank of
America, J.P.
Morgan, Citigroup, Washington Mutual, Wachovia, Goldman
Sachs, and Morgan Stanley combined.
So combine these institutions, which are really the pillars
of our financial system, they represent $619
billion of book equity.
And remember, this is their book equity.
This is what they say is the book value of their assets.
But we've already learned that they're probably being
overstated, and that's why we have to go and buy them at
prices more than what they're worth.
But this -- just to get an idea how large of a dollar
amount this is -- this $700 billion is more than what
these banks say they're worth.
It's probably several multiples of what
they really are worth.
Some of these banks probably aren't worth anything.
And as it points out, the new bank would have no prior
committed loans, so the incremental amount of lending
available would be much larger.
Which means you are not lending into a black hole.
When you lend money or you essentially give money to one
of these banks that have all of these other bad
liabilities, your money's essentially just being poured
into a black hole and there's no assurance that that bank is
going to go and then lend that money to other people, and go
to main street.
But if you inject it into a bank with a completely
pristine balance sheet, a new bank -- you could call it you
know the Bank of Washington, the Bank of Jefferson.
And I would actually recommend having multiple banks, just so
you have competition and you don't have that too big to
fail problem.
But these banks, they would have pristine balance sheets,
and they would go out and make loans, and they would go out
and make loans wherever it is most prudent.
And he says, you know, this accomplishes the goal of
injecting lending capital into the system without creating
the moral hazard problem, and at the end of a few years, the
government will probably be able to IPO sell the bank for
more than one times book value, which will include the
original $700 billion, generating a substantial
profit to the taxpayer.
Exactly.
In fact, they could either do that, the government could own
it and then try to IPO it in five years or so, like Todd
suggests, or another option is maybe each of these banks--
maybe the bank takes $700 billion and creates 10 banks
that each have $70 billion in initial equity capital.
And maybe the government issues 300 million shares of
each of those banks, and every American man, woman, and child
gets one share of each of those banks.
I think that would have a very powerful political statement.
And it actually would make economic sense.
All of a sudden you would have the American people are now
the owners of the banking system, instead of this
concentrated wealth that's really formed over the past
150 years in the old banking system.
And then, you know, he goes on to point
out some other things.
Sure, the more current banks would fail probably quicker,
and we all know that's a good thing.
What happened in Japan?
What happened in Japan is we kept infusing capital into--
well, we didn't, the Japanese government kept infusing-- or
either did it themselves or coaxed other people to infuse
capital into banks that were essentially zombie banks, that
were insolvent, and just slowed down.
It slowed down the downfall, and essentially led to their
lost decade.
So he says, you know, more banks would fail, but many of
them probably would be deserve to fail, and the financial
system would be preserved.
I agree with him completely.
If the new bank wants to lend new money to new
borrowers, it can.
Or if it thinks it will make more money buying up old
loans, like the CDOs or the residential mortgage backed
securities, at a deep discount, it can do this too.
But it will be making a clear economic profit decision.
And I'd add-- just so that we make sure that the management
of these new entities, so that they are aligned with
profit-making as opposed to bailing out their own previous
past bad decisions, or bailing out the people who they used
to work with-- I would try to not put these
banks in New York.
Maybe you put them in Detroit and New Orleans and Stockton,
California, which is the foreclosure capital of the
world, of the country.
Put them in places that are separate from Wall Street.
Hire very intelligent people who have some distance from
what has happened the last five, six years in Michigan.
And I'll tell you, there are tons and tons of very
competent, very intelligent managers who understand these
issues deeply in this country.
Unfortunately, a lot of them haven't been
heads of banks lately.
And they would be happy to work for something less than
$20 million a year.
In fact, I think many of them would do it out
of patriotic duty.
But you could pay them $100 thousand a year, and then you
could say, you know what?
You, as the new employees of these new American banks that
are owned by the American people-- and they can be
traded on an exchange, so it's essentially immediately
privatized.
It's never owned by the government.
It's immediately owned by the private sector, by the
American people, not by the government.
When I say American people, it's literally owned by
private individuals, not by the government.
But you can actually create an incentive structure, that
whatever the equity value of your company is five years
out, you all, as the employees,
share 1% of the benefit.
And that's actually a huge number, that actually
might be too much.
But you'll be able to hire excellent managers, especially
considering how many people are getting laid off right
now, very intelligent people because of bad, risky
decisions made by others.
But then he finishes up, I recognize this will be less
politically popular among banking lobbyists, but see it
as a much better way to, one, protect the financial system--
I agree with him completely-- two, minimize the risk,
maximize the reward to the U.S. government.
And he welcomes any comments, criticisms. And I think it's
interesting, he started off the idea, he says, "The
problem is this sort of plan would be political suicide,
with key financial donors to political campaigns." And
that's true.
Unfortunately-- I think this is a good idea, but I think
the current old banking system has a much more receptive ear
of our government unfortunately, than I, or
Todd, or frankly the American people seem to have right now.
But anyway, I was kind of parsing Todd's email.
Let me actually draw out a plan of what this would be.
So you take $700 billion-- and let me write that out-- 700,
that's thousand, that's million, that's billion.
You take that $700 billion, and you-- I don't know, I
think the more banks the better.
You want competition.
You don't want to have this too big to fail problem.
So you take that $700 billion, and the first time I recorded
this video, I said you put it in 10 banks.
But, I don't know, let's put it in-- let's see, 700 divided
by 10 banks would be $70 billion each.
If you do what?
If you do 70 banks, you would have $10 billion each.
So let's do that.
Put it in 70 different banks.
70 different banks.
Or maybe do it in 50 different banks, one bank for each state
of the country.
70 different banks.
I mean, that sounds crazy, but when you think about what the
government was originally--
Actually, let's do 50 banks.
I like the sound of that.
One bank in every state, right?
And they're not all concentrated in New York, and
they're not, you know, so you get fresh thought,
fresh blood in them.
And they might actually hire people that are getting laid
off in the manufacturing sector or the real estate
sector or whatever.
You take 50 different banks.
You capitalize them each with what?
50 goes into 700 billion 14 times?
Right.
14, let's see, 15 -- right, goes in 14 times.
So you capitalize them each with $14 billion, so their
balance sheets are going to look like this.
Equity-- this is each bank-- $14 billion of initial equity.
And they're going to have 300 million shares,
one for every American.
And if they don't like the holding shares,
they can sell them.
They'll all IPO on the exchanges.
And then these will be member banks of the Fed.
And so they'll be regulated, but they can
lever up 10 to one.
So they can, let's say with $14 billion of assets, each of
these banks can control $100-- with $14 billion of equity,
each of these banks can control
$140 billion of assets.
Which, essentially, that's $140 billion that they can
lend out to the world.
If they see good returns, good economic investment in Main
Street, they'll do it there.
If they think that some of the existing banks are actually
good credit risks, that they could lend maybe to J.P.
Morgan, or Bank of America, they'll do it.
Maybe they won't do it at 6% like the Fed wants them to, or
at 2%, or whatever, they'll say that's a little risky, or
maybe I'll do it at 10% or 12%.
And this is another side note I'd like to say, it seems like
the Fed is getting frustrated that it wants to dictate that
banks have to lend to each other at 2%, but they're
willing to only lend to each other at 6%.
And so it's losing control over that notion of what banks
lend to each other at.
6% is still low.
If I have to lend money to someone who could go under
next week, I want at least 12% or 15%.
And I don't think that's a crazy interest rate.
That's what people were paying in the early '80s, and they
weren't talking about financial
Armageddon back then.
But anyway, each of these banks would have $140 billion
in assets, and then-- I don't know, how much in liability?
Let's see, 140 minus 14 is $124 billion in liabilities.
And they would be very easy to borrow money.
These banks would have an easy time borrowing money from a
bunch of different people.
And why is that?
Well, one, they have completely
pristine balance sheets.
No one worries about what kind of stinky things they have on
this side, because it's all new investments.
And then if the government really wants to make sure that
these banks get off the ground running, they can make them a
temporary government back stop on it.
So essentially, they could be government-sponsored
enterprises, but not indefinitely.
We don't want a Fanny Mae, Freddie Mac again.
You could say five year government back stop.
Which essentially says, if you lend to these banks over the
next five years, anyone lending to these banks over
the next five years, if for whatever reason these banks
were to go under you will be made whole.
So there's literally no risk to investing in these banks.
And frankly, frankly, if just this five year government back
stop on these banks, I think will encourage people to
invest equity in these banks, and the government might not
even have to put these $14 billion in each bank.
But anyway, I've run out of time.
I'll continue this in the next video.