Tuesday, September 30, 2008

The Financial Crisis and Public Diplomacy

Today the Washington Post ran an editorial entitled Congressional Neroes: Republicans and Democrats fiddle as the economy burns. The headline was well-written; I feel sure you've got the gist of the piece entire. There are a number of competing narratives being shopped around the marketplace of ideas and this is the one with the most currency: that Congress must act immediately or the economy will completely melt down, and that by having failed to pass the bill as is the House (fortissimo) Republicans and (sotto voce) Democrats have betrayed the nation in search of political advantage.

I am uncomfortable with this narrative because for the most part it is not being pitched by people particularly conversant with financial derivatives, their place in the overall financial system, and monetary economics. I am not especially conversant in these things myself, so I have to depend on the read of those who are.

Ordinarily you can find a fair number of economists to take any position you feel like taking on any subject of your choosing, which is nice, because it means you can usually safely ignore the prospectus of any one or other. But, is it mere serendipity that it seems that the great majority of economists--across the entire spectrum--are against the bailout as proposed or as modified? Call me Nero's partisan if you like, but to me that argues it is likely worth weighing their concerns.

I also find the way this "bailout plan" was structured curious. Did the Administration really expect the House to accept a plan which included the following provision?
Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.
Did Secretary Paulson truly believe the House would write him a blank check for $700 billion and simultaneously surrender the power to review his decisions on how to spend the money, completely abdicating their power of the purse? I don't think so. It's possible, but extremely implausible--incredible, in the original sense of the term. Why would a spokesperson for the Treasury respond to a reporter's question on the reasoning behind the number in the bailout with, "It's not based on any particular data point. We just wanted to choose a really large number," as per Forbes?

In the financial world, this provision is known as a "poison pill"
A strategy used by corporations to discourage a hostile takeover by another company. The target company attempts to make its stock less attractive to the acquirer. There are two types of poison pills:
1. A "flip-in" allows existing shareholders (except the acquirer) to buy more shares at a discount.
2. The "flip-over" allows stockholders to buy the acquirer's shares at a discounted price after the merger.
The argument for taking this at face value is that the people of the US Treasury Department are total political incompetents--nincompoops, really. Possible, I suppose, but hardly plausible.

This argues for the conclusion that what we have witnessed over the last week or so is political kabuki. Would the Bush Administration politicize the breakdown of the financial system for some perceived advantage? Given that the Administration was comfortable politicizing the collection of national security intelligence, perhaps.

But, what could the GOP conceivably have to gain from producing a piece of political theater of this sort--one likely to destroy the chances of election for their Presidential nominee?

Here's one possibility:

a) The Bush Administration's political allies in the GOP are not allies of McCain, and would be happy to see his bid for the presidency fail if that meant they could continue to control the direction of the party.
b) The Bush Administration's political allies in the GOP saw an opportunity for them to re-brand the party, figuring that the Presidential contest is lost, but that they can rebuild--given the way the Congressional districts have been gerrymandered--on the strength of their heroic opposition to Bush's plan.

Here's another:

a) There is advantage, from the perspective of the Treasury and the Fed, to delay the reaction of Congress. Consider the prisoners' dilemma. In it, all the prisoners get the most advantage if they act in concert. However, if some act in concert, and others act merely for their own advantage, those who acted to the benefit of all receive the worst compensation, and those who acted in self-interest receive the second-greatest return/advantage.
b) Given that the fiscal stability of the United States is dependent upon the fiscal decisions of the central banks of many other nations (as well as the decisions of the much larger private sector), the fiscal Administration of the US may have decided to include a poison pill in order to encourage other nations to play their hands first.
c) Both parties are using this international gambit for domestic political advantage.

Either way, I simply do not believe that the bail out plan was expected to pass as is, or even necessarily as modified.

1 comment:

vasjpan2 said...

What has happened in the last quarter century is that the central banks have become the counterparty of last resort. When people panic, the Fed moves in and provides liquidity (1987, 1990, 1998, 2001..). The question is how does this square with the Fed's original role (elastic currency d%Credit/d%Y)? Is this theoretically sound? Does this put the Fed in the moral hazard of creating liquidity bubbles (Bubble Act of 1720) that only lead to the next crisis? Is the Fed supposed to be the shock absorber of panics until people come back to their sences? Is that what they really meant by elastic currency? Is there a way to formalise this role as an automatic stabiliser so we don't have to deal with hysterical obfuscation at every crisis?