Tuesday, September 30, 2008

Failure of the Bailout Vote

Republicans are claiming that the defeat of the Bush/Paulson bailout plan was due to the Democrats' failure to garner enough votes on their side of the aisle. Yet more blame-mongering by the Republicans.

Among the more ridiculous blame games being played by the Republicans is the assertion that they would have passed the bill if only Pelosi hadn't been so mean to them.

So there are a dozen Republicans, who had decided that the package was in the best interests of the country, who changed their minds because of something Pelosi said? I guess we'd better hope that Osama doesn't say the wrong thing.

Don't get me wrong. I previously characterized Pelosi's speech as "partisan bile." But this whole non-issue is a pretty transparent attempt by the Republican leadership to cover up how badly they had mis-counted their caucus.

This isn't a bill that Pelosi or Franks wanted. They had wanted a bill that had a real cap on executive compensation, strict oversight, and bankruptcy court authority to change mortgage T&C. They gave up those elements based on assurances from the Republican leadership. (The executive compensation clause in Monday's bill was toothless.)

Giving that speech was a bad idea, but the failure of the Republican House leadership to deliver on their deal is going to have serious repercussions on a number of areas.

The reason that Clinton negotiated with the Republicans so successfully is because he knew that they would deliver what they promised. If this leadership can't do that, perhaps the caucus should choose leadership that represents them better.

According to Reuters:

Without the bailout plan, which would allow the Treasury to buy toxic mortgage-related assets from banks, credit markets around the world could remain frozen, which could lead to a recession.

I think that Franks had a point last week, that this bailout story is becoming something of a self-fulfilling prophecy. Right now, we're seeing a market rally based on promises that something will pass on Thursday.

Given how low the prices of the mortgage-backed CDOs is, there is probably a killing to be made out there. If only there were more transparency to the underlying loans, there would be more buyers.

A real failure here is in the design of the instruments. If there were better visibility, it is likely that the CDOs based on liar loans would be rated and priced differently, which would have removed the financial incentives for companies to originate them. This sort of design issue is something that regulators should have enforced. This particular problem has been known since the mid-1980s, so there is plenty of blame to be spread over both parties on this one.

According to the AP:

Banks were in miser mode after the House's rejection of the rescue package. The key bank-to-bank lending rate, the London Interbank Offered Rate, or LIBOR, soared to 4.05 percent from 3.88 percent for 3-month dollar loans, and to 6.88 percent for overnight dollar loans — the highest level since tracking began in 2001.

That's especially worrisome because normally, LIBOR is just slightly above the Federal Reserve's target fed funds rates, an interbank lending rate. Now, it is more than 4 percentage points above the target rate of 2 percent. That has troubling implications for other lending rates tied to LIBOR, including homeowners' adjustable rate mortgages.