With respect to the non-bank institutions at the heart of the financial meltdown, Tim Geithner has a plan. Or rather, he has an appointment to make a plan. Today the Treasury secretary will appear before the House Financial Services Committee to describe the broad outlines of the Obama administration’s latest initiative, which would give the federal government power to seize those entities–including hedge funds, private equity firms, insurance companies, investment banks, and major derivatives traders–and rework their balance sheets.
This is not really a regulatory move, though it would obviously be an important precursor to any new regulatory regimen. It’s a proposed addition to the federal arsenal of rescue and triage powers. It’s potentially the most significant legal move yet broached in the crisis, but its ultimate merit depends on what the government proposes to do with it.
On its face, the proposal sounds like a good thing. But all we know so far is the face of it. Geithner told Congress on Tuesday that power would be shared by Treasury and the Fed. According to the Wall Street Journal, “He said that in addition to the power to seize a company, the proposed authority would give the government rights to sell or transfer assets or liabilities of the firm and renegotiate contracts, including those with employees.” And, presumably, the power to simply write down bad debt and make shareholders and creditors–as opposed to taxpayers–take the biggest blow from doing so. Since a) the government previously could do this only with chartered commercial banks, and b) chartered commercial banks are only part of the problem, it looks in theory like an important step toward the kind of systemic bad-debt purge that many economists have called for in the name of nationalization (Paul Krugman et al.) or bankruptcy reorganization (V.V. Chari et al.).
Fed chairman Ben Bernanke made noises to that effect on Tuesday. “If a federal agency had had such tools on September 16,” he told Congress, “they could have been used to put AIG into conservatorship or receivership, unwind it slowly, protect policyholders, and impose haircuts on creditors and counterparties as appropriate.”
But so far every measure advanced by the Obama administration has labored mightily to avoid doing anything like that. The only “haircuts” have been the ones imposed on the public. And Barack Obama has spent much of the current week trying to tamp down the outrage, Congressional and popular, over the AIG bonus fiasco.
For weeks now, the financial press has been filled with rumblings about White House fears that the conditions and the publicity attached to federal aid would cause institutions that need cash to stubbornly refuse it, thus worsening the crisis. It’s altogether possible that the powers Geithner is seeking would be used not to make sick balance sheets well again, but to make the patients hold still while more money is poured down their throats.
If that proves to be the case, then all we’re talking about is a new and improved delivery system for what’s still a snake-oil remedy.