Ryan Ellis

ATR Calls for Strict Scrutiny of TARP Expenditures

Posted by Ryan Ellis on Tuesday, November 4th, 2008, 12:15 PM PERMALINK

The Honorable Henry Paulson
Secretary of the Treasury
1500 Pennsylvania Avenue, NW
Washington, DC 20220

Dear Secretary Paulson:

In October, Congress passed the “Emergency Economic Stabilization Act” in order to give Treasury authority to purchase assets adversely affected by recent market turmoil. The public policy rationale behind this was to have the government intervene where there was a clear problem in existing private markets, and where systemic industry collapse appeared imminent.

That principle is in danger of not being followed in the area of credit enhancement.

Legacy bond insurers made poor investment decisions which left them open to an imprudent amount of risk. However, there is no systemic risk in the industry. This is evidenced by WL Ross investing in Assured Guaranty, Berkshire Hathaway starting BHAC, and Macquarie-Citadel launching MIAC. The problem is not in the credit enhancement industry in general—rather, it’s limited to a few legacy bond insurers who should face normal market correction—not a bailout. Furthermore, despite the drop-off of many of the legacy bond insurers, credit enhancement still exists as state and local governments have simply shifted to other forms of credit enhancement (including letters of credit).

Hundreds of billions of taxpayer dollars are at stake in the “Troubled Asset Recovery Program” (TARP). It’s vital that no taxpayer funds be used to bail out companies when the downside risk of failure is something less than systemic market collapse. Giving money to a company merely so it will not fail (and not to prevent a larger problem from resulting) falls short of the strict scrutiny that should be applied to TARP expenditures.

The public policy rationale behind TARP is itself controversial. Broadening
the application of TARP to bail out failing companies in healthy markets is
unacceptable from a taxpayer perspective.


Grover Norquist

View the PDF version of the letter.

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The Four Horsemen of the Financial Apocalypse

Posted by Ryan Ellis on Monday, September 29th, 2008, 12:00 PM PERMALINK

No matter what one thinks of the financial bailout package, we ought to at least agree how we got here. Below are the real actors behind the mortgage panic of 2008:

Government-sponsored enterprises (GSEs). Fannie Mae, et al, bears a large share of the responsibility. By purchasing mortgages, repackaging them into securities, and selling them on the open market, mortgage lenders were encouraged to issue riskier and larger mortgages. They could then shift the risk to the GSEs by selling the mortgage to them. As of this year, the GSEs owned or securitized half of the $12 trillion mortgage debt market. Exacerbating the GSE risk is the Clinton-era rule which said that the GSEs only needed to retain capital equal to 2.5% of mortgages assumed (it’s 10% for other financial institutions). When the GSEs had no one to whom they could shift the hot potato, the house of cards came crashing down. According to opensecrets.org, the GSEs have contributed over $1.5 million to federal candidates this yearNearly 60% of that money went to Democrats.
Easy money from the Federal Reserve. On January 3, 2001, the Federal Reserve cut the federal funds rate by fifty basis points, to 6.00%. They continued to do so until the rate hit a bottom of 1.00% on June 25, 2003. This also had an effect on mortgages. According to Freddie Mac, the average rate for a thirty-year fixed rate mortgage fell from a peak of 8.52% in May 2000 to a nadir of 5.23% in June 2003. As a result, households with less income could afford bigger and more expensive houses.
As an example, someone paying a $2000 per month mortgage in May 2000 would be able to afford a house worth about $282,000. That same $2000 payment in June 2003 would get our homeowner a house worth about $460,000.
Many of these homebuyers, moreover, didn’t get conventional 30-year mortgages. Because lending was so cheap, banks were offering adjustable-rate mortgages, “balloon” options, and no-money-down at closing.  The banks shifted their risks to the GSEs. When the Federal Reserve started raising the federal funds rate, mortgage rates climbed back up (they’re currently hovering around 6 percent), some of the ARMs matured, and households found themselves unable to as easily make these payments.
Did the Federal Reserve need to cut rates this low “for the economy?” Not if one believes in low inflation as a necessary precursor of economic growth. The price of gold, which is a good indicator of future inflation trends, has grown from about $250 per oz. in 2001 to $900 per oz. today. That’s a gain of 260% in just over seven years.
Community Reinvestment Act (CRA). This legislation, first passed in 1977, gave federal regulators the power to encourage banks to issue loans to high-risk households and small businesses. It was ramped up in the Clinton Administration, who along with groups like ACORN, jaw-boned banks into issuing riskier and riskier loans to poor households. Efforts by the Bush Administration to rein in CRA bureaucratic zealousness met with charges of racism and elitism by Congressional Democrats and left wing activist groups.
Mark-to-market accounting rules. This refers to an accounting practice that forces a balance sheet to value an asset at its current market price (that is, what it could be sold for at the time). The Federal Accounting Standards Board (FASB) issued Statement 157 on November 15, 2007, which required this accounting practice for all financial firms. Some securities holding devalued mortgages still retained underlying value, but could not be sold because there were no buyers. As a result, mark-to-market required the firms to value the securities at or near $0. If, however, the firms were allowed to value the assets at something closer to book value, their balance sheet positions would improve. Mark-to-market is an arbitrarily-restrictive accounting practice that should be scrapped for assets like securities which generate current income. Doing this alone would solve much of the problem. The SEC relies on FASB in an advisory role, but could overrule it in giving guidance to company accounting practices.

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