Yes, We Have No Bailouts

Yesterday, Wonk the Plank watched the House vote down the $700 million bailout while at work.

Later that afternoon, the powers that be summoned us to their office and told us that in such uncertain economic times, the company could no longer afford the luxury of having a Plank on staff we went about our regular business.

Afterwards, we hit the grocery store and found panic in the aisles. Hundreds of shoppers fought and snarled over non-perishable staples like bottled water, canned goods and other staples. The checkout line snaked around the bend into the frozen food aisle. A stampede nearly erupted when management tried to ration out bags of rice and bought the same Wonk food we buy every week.

When we tried to to pay for the groceries, we found our credit card was cut off by jittery lenders and we had to volunteer to bag groceries for an hour just to pay for our own we paid with our credit card and headed home.

Yes, Wonk the Plank has a 401(k) and other investments, and yes, they lost value yesterday. Yes, we could still be headed towards a recession.

But all the same, Wonk the Plank is delighted that this bailout failed.

Heads I Win, Tails You Lose, Or Why Wonk The Plank Hates Bailouts

In moments of introspection, Wonk the Plank sometimes wonders where our unshakable faith in the free market came from. It’s difficult to pinpoint the exact moment, but as best we recollect, it has a great deal to do with a series of improbable blackjack hands we played some years ago.

The Plank was playing with a college acquaintance in our dorm room, betting in increments of 25 and 50 cents. Our opponent soon fell behind 50 cents, but opted to up the bet to a riskier whole dollar. He lost.

The punter, narrowing his eyes to slits, again doubled his bet. In an increasingly determined effort to win 50 cents from Wonk the Plank, our opponent doubled his bet over and over again to $4, $8 and $16, each time losing. Soon his deficit ballooned all the way up to $31.50.

Wonk the Plank eyed the player, and the player eyed the Plank right back. Even $16 was more than we had ever bet before. “I’ll go up to $32,” said the player with a nervous gulp. Incredibly, Wonk the Plank won the hand, leaving the dismayed player $63.50 in arrears.

That was quite enough for the young Wonk. No more credit would be extended, we announced, until existing debts were satisfied.

This sent our opponent into a rage. His intentions were clear, he howled, that he would simply keep doubling his bet until he won the 50 cents. It was patently unfair to him to suddenly refuse credit.

Wonk the Plank’s fury was equally mighty, as we brandished two quarters and screeched that the player had run risks and he would need to accept the consequences of those risks.

Readers may draw a alarming parallel between the betting strategy of player and Plank and the distressing state of the U.S. stock market today. The Wonk’s friend was willing, for a nearly certain 50 cent gain, to bear the risk of a remote catastrophe. The friend, who had gleefully accepted his winnings from past sessions, only realized he hadn’t fully understood the risks he was running when confronted with financial calamity.

That day cemented one of Wonk the Plank’s most deeply-held convictions. Be ye bank, hedge fund, or blackjack opponent, everyone who participates in profits in happier days should be held accountable for ruin.

Wonk the Plank never collected the $63.50.

A Sure Thingie

The story so far according to ModernDomestic:

“A lot of people were given housing loans that they couldn’t actually afford and then those loans were packaged into thingies that were sold to investors for more money then they were actually worth.”

Those “thingies” are actually called mortgage-backed securities in Wall Street parlance, but ModernDomestic has the goods.

Now nobody knows for sure what a fair price for one of those “thingies” is, except that it’s less than its face value and more than zero.

Treasury Secretary Hank Paulson’s “troubled asset relief program” will buy up the mortgage paper at a discount with taxpayer money, which the Hammer says will give cash to banks and set a floor for prices. Hank says taxpayers will recoup their investment as the market stabilizes (and could even make a profit if things go well!).

Think carefully about that last paragraph. If you take nothing else away from yesterday’s congressional testimony, consider this: The deal can’t be great for taxpayers and banks at the same time because it is a zero sum game. The less the government is willing to pay for dodgy mortgage securities, the better the deal is for taxpayers and the worse it is for banks. The more Hank pays with your money, the better for the banks and the worse it looks to taxpayers. To gingerly use an aphorism, you can’t put lipstick on a pig.

There is already a price floor under the mortgage assets; the banks just don’t like what it is. For example, “vulture investor” Lone Star Funds paid $6.7 billion for Merrill’s $30.6 billion face value mortgage securities back in July. Heck, Wonk the Plank, even, will buy any mortgage security sight unseen for $5.

That deal might be a brilliant move for Lone Star, might not. It’s a safe bet Lone Star believes it will make money under almost any conceivable market scenario, and at those prices, they might be right. But if the smartest financial minds on Wall Street aren’t willing to pay much more than 20 cents on the dollar for toxic mortgage paper, why should you?

Short Fuses

Boo. Hiss. That’s the sound of Wonk the Plank’s disapproval of Securities and Exchange Commission Chairman Christopher Cox for caving to political pressure, not even from the President, but from a presidential candidate.

On Friday, Cox’s SEC issued new rules banning short selling in some 800 financial stocks, just a day after being called out by John McCain for doing nothing and allowing speculators and hedge funds to turn the markets into a “casino.” McCain said he would fire Cox if he were president (though the campaign later backtracked when someone pointed out the President doesn’t have the right to ax SEC commissioners).

Last time we checked, the SEC’s mission was to ensure fair, orderly and efficient markets, not prevent stocks from going down. The agency’s job is to provide fair and transparent rules of engagement for investors, not pick winners and losers during a financial panic.

For his reactive and ill-considered ban on shorting financial stocks, we think Cox has shown himself less committed to fair, free markets and more committed to keeping his own job. Boo.

I’m John McCain And I Approved This Lie

The New York Times’ Paul Krugman wrote last week that “the McCain campaign keeps making assertions that anyone with an Internet connection can disprove in a minute, and repeating these assertions over and over again.” Enter  “Expensive Plans.” 

Even after being called out by Factcheck on the original spot, McCain recently unveiled a new radio version. We couldn’t locate a primary source, but here’s a link to Politico’s Ben Smith, where we found it.

“Barack Obama and congressional leaders want to raise income taxes on middle class Americans,” the ad says. Wrong. Obama’s plan, as disclosed, calls for broad middle class tax relief. “Middle class families will see their taxes cut – and no family making less than $250,000 will see their taxes increase,” Obama’s plan says.

It’s interesting contrast the language of the two ads. The older television spot says Obama plans “painful tax increases on working American families.” In the new spot, Obama wants, rather than plans, such increases, and the tax hikes affect middle class Americans, not working American families. The wording changes, we think, were made to avoid such an explicit contradiction by the facts. Progress, of a sort.

Lehman Grounded For Life, AIG Gets Fed Discover Card

Sometimes regulating the world’s richest and most powerful economy is uncannily like disciplining a rebellious teenager.

Remember the episode of “The Sopranos” when Meadow is caught drinking with her friends? Tony and Carmella huddle to figure out a punishment. If too charitable, Meadow doesn’t learn that what she did was wrong. Too heavy handed, and they risk alienating her and damaging their relationship with her permanently. The “punishment” Meadow eventually gets – a few weeks without her Discover card – is much too lenient.

This evening, the Federal Reserve threw AIG an $85 billion lifeline after watching, unmoved, while Lehman Brothers collapsed over the weekend. Just a few months back, you’ll remember, Hank and Friends financed the rescue of Bear Stearns. So why help Bear and AIG but not Lehman?

The Fed said it determined that a disorderly failure of AIG could hurt the already delicate financial markets and the economy. Wasn’t that also true for Lehman?

When the taxpayers rescue AIG, Fannie, Freddie and the rest too readily from their financial blunders, the thinking goes, those companies never learn the wickedness of their ways.Talking heads and editorial pages call this “moral hazard.”

But government resources, though vast, are finite. Hank would do well to remember Tony’s advice to Carmella before they meet with Meadow: “Let’s just not overplay our hand, because if she finds out that we’re powerless, we’re f—–!”

Update – Like Fannie and Freddie before it, the AIG rescue has some delightfully stiff terms. The $85 billion dollar loan carries an interest rate of LIBOR +8.5 (which is steep) and the U.S. government now has a claim on nearly 80% of the equity in the company, the Wall Street Journal reports.

Poconos Nothing

Our friends at the Tax Foundation’s Tax Policy Blog brought this gem from the Pocono Record to our attention. It’s a fairy tale  opinion piece from a “Real Estate” writer named Ron DeCesare Sr. The scary part, the Tax Foundation observes, is that this all takes place in Pennsylvania, “a state that could actually make a difference in the election.”

We’re going to help Ron out with some of the finer points of truthful, accurate reporting, drawn from our months of journalistic experience.

First off, Ron warns us that he might not know what he’s talking about. “These facts have been derived from various sources, and I believe them to be accurate.” Ron, don’t bother with your halfhearted “or so I’m told” disclaimers. Either get your facts straight, or move on to a topic you actually understand, like voting Republican or voting Republican.

“Inheritance Tax: President Bush repealed this tax. Obama has proposed to restore the inheritance tax.” Wrong. The death tax is alive and well today.  A simple search of the IRS site would have served Ron well.

Ron may be confused by the ongoing debate about the death tax. Senator Obama has proposed lowering the threshold where the tax kicks in.

“Income Tax…Obama plans to revert to pre-Bush tax cuts…Everyone will be paying more in income taxes.” Wrong. As a rule, avoid blanket statements like this one. Just one exception makes your sentence factually incorrect. For example, under the Obama plan, Wonk the Plank’s tax rate won’t change at all.

Obama’s tax plan shifts more of the tax burden onto wealthy taxpayers and adds credits. We happen to not agree with his approach, but we recognize that many Americans will be paying less in taxes. According to his plan, tax bills will be lower for 95% of workers and their families. So no, not everyone will be paying more in income taxes.

 Here’s the best whopper:

Dividend Tax: McCain does not plan to change this tax. Obama plans to increase it from 15 percent to 39.6 percent.

How will this affect you? If you have any money invested in the stock market, IRA, mutual funds, college funds, life insurance, retirement accounts, or anything that pays or reinvests dividends you will now pay nearly 40 percent of the money earned in taxes. Experts have indicated that higher tax rates on dividends and capital gains would crash the stock market, yet do absolutely nothing to cut the deficit.

Actually, Obama plans to increase the dividend tax to 20%, but that’s the least of our worries in this assertion. By definition, the dividend rate is irrelevant to IRAs and other retirement accounts, and to Americans who participate in the the markets through those vehicles. (Later, Ron writes with apparent sincerity that Obama plans “New taxes on retirement accounts.” Also wrong.)

Oh, and those “experts” that our friend Ron cites? Even the Laffer crowd doesn’t quite go so far as to predict a stock market crash just from higher dividends.

They don’t call it an opinion piece for nuthin’.

Love the Tax Preparer, Hate the Tax

As most Wonk regulars know, we have a special hatred of the U.S. tax code. Perusing ModernDomestic’s favorite paper this morning, we read that a government study found rampant errors by commercial tax preparation firms for individual income tax returns.

Some of the inaccurate returns were because of willful wrongdoing by the tax preparer, moves that can subject the preparer to fines from the I.R.S. But nearly twice as many of the mistakes arose from the preparer’s lack of knowledge of the tax code or mistakes like typographical errors.

The Times reported that IRS agents posed as taxpayers at 28 shops and then checked their work. Only 11 returns were prepared properly. (By the way - 28 returns!? 83 million returns were filed by paid prepapers last year. Does anyone else see a sample size problem here?)

Anyways, we were curious how tough the fake returns were and what tripped up the preparers, so we decided to take a look at the actual report and learn more.

Here’s just one of the five sample tax problems the IRS used to test preparers:

Married parents with two children, one child under age 17 and one child over age 18 who is in college. One spouse is a wage earner, and one is self-employed. The taxpayers had capital gains from the sale of stock.

None of the six preparers who drew this scenario were able to answer it correctly. All of them fouled up the self-employment tax calculations, among various other errors. The IRS says “The five scenarios were not considered complex, and the tax topics were specific, straightforward, and not dependent on interpretation.”

The agency said it would consider creating a registry for paid preparers, so as to pursue the “abusive or incompetent” ones.

We say the fact that most paid preparers cannot correctly calculate this basic return indicates there is a problem with the tax code, not the preparers. Even ordinary people without fancy investments or assets can easily get lost in the tax thicket.

 The IRS concluded that most of the errors were accidental and said some benefited the taxpayers, some benefited the government. That’s probably the most frustrating part for honest folks who just want to pay their fair share, especially considering every taxpayer must swear under penalty of perjury that the information on his or her return is true.

Many years ago, Wonk the Plank used to sell shoes at Sears. Once in a while, the register make a mistake. Maybe the shoe would have too high a price, or a customer’s 25% off coupon would only deduct 20% of the shoe’s cost. Almost everytime this happened, the customer would immediately tell the young Wonk that something was wrong and see that the error was corrected. It’s too bad the tax code is shrouded in such a veil of mystery and complexity – the uninitiated have no hope of catching mistakes.

 

Corrections And Amplifications

Last weekend, we wrote a breakdown of winners and losers from the Frannie/Freddie shakedown. It turns out we were wrong on a couple of our assumptions.

The rumors of preferred and common stockholders being partially protected were…well, rumors. As it turns out, the Paulson plan all but wipes the slate clean of all the equity holders.

Fannie and Freddie Hit The Skids

If major media outlets are to be believed, the end is near for Freddie and Fannie. My own Wall Street Journal broke the story yesterday after the markets closed.

The Treasury Department is putting the finishing touches to a plan designed to shore up Fannie Mae and Freddie Mac, according to people familiar with the matter, a move that would essentially result in a government takeover of the mortgage giants.

The plan is expected to involve putting the two companies into the conservatorship of their regulator, the Federal Housing Finance Agency, said several people familiar with the matter. That would mean the government would take the reins of the companies, at least temporarily.

Officially, Fannie and Freddie have been mute on the subject, but many other media outlets have independently confirmed the Journal’s story, citing anonymous sources. We’re going to take their word for it at this point, and possibly do an update if/when the GSEs release some information. Let’s see how various contingents will fare under the conservatorship.

1. Bondholders. Congratulations guys, you’ve broken every investing rule in the book and lived to tell the tale. Verdict: Winners.

2. Preferred Stockholders. Here’s the biggest surprise of the plan. According to the Washington Post’ s account, preferred shareholders might be protected under the proposal. That’s likely to make a lot of institutional investors very happy. Verdict: Big Winners.

3. Stockholders. Wonk the Plank thinks if common shareholders get anything out of this deal, it’s more than they deserve. According to the Post, their stake “would be diluted but not wiped out.” Verdict: Winners.

4. Taxpayers. Financial engineering is often a zero-sum game, and this is no exception. For every stakeholder the government helps out with the plan, someone must pay. The CBO has previously estimated the cost of a bailout at up to $100 billion. Verdict: Big Losers.

5. Management. Fannie Chief Executive Daniel Mudd’s 2007 compensation was valued at $11.65 million. Even though he’ll undoubtedly be gone under the reorganization, he and the rest of the Fannie and Freddie bigshots will be wealthy for a long time. Verdict: Winners.