Lewis and Einhorn spell out clearly what ought to be done now:
THERE are other things the Treasury might do when a major financial firm assumed to be “too big to fail” comes knocking, asking for free money. Here’s one: Let it fail.Not as chaotically as Lehman Brothers was allowed to fail. If a failing firm is deemed “too big” for that honor, then it should be explicitly nationalized, both to limit its effect on other firms and to protect the guts of the system. Its shareholders should be wiped out, and its management replaced. Its valuable parts should be sold off as functioning businesses to the highest bidders — perhaps to some bank that was not swept up in the credit bubble. The rest should be liquidated, in calm markets. Do this and, for everyone except the firms that invented the mess, the pain will likely subside.
The only thing preventing that is the vestigial free-market religion that somehow hasn’t been expunged yet—you know, the one that says we can’t tell insolvent banks that led us to ruin what to do, even though we’ve given them hundreds of billions of dollars to keep them afloat because they didn’t know how to run their businesses.
Lewis and Einhorn also recommend the regulation of credit-default swaps, a bailout for homeowners, new capital requirements for banks, and a waiting-period for SEC officials to leave for Wall Street. And my favorite of them all:
Another good solution to the too-big-to-fail problem is to break up any institution that becomes too big to fail.
Amen to that. Read the whole thing.
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The story would carry even greater credibility had it not been for the fact that Mr. Einhorn is a victim of his own words. Einhorn has stood in the way of effective progress towards addressing what is wrong with hedge funds today.
When we heard about late trading/market timing we found that the beneficiaries of this fraud were the hedge funds. When we talk about trade failures and the lack of buy-ins we likewise find that the beneficiaries were hedge funds. Our markets insatiable appetite for liquidity (good and bad) was derived from a need to satisfy hedge funds. And when it comes to insider trading, it is usually a hedge fund that is gaining the advantage of non-public info. Unless einhorn sat with his head in the sand he knew/knows of these acts of fraud and not once spoke out against any of it because...he too was a beneficiary of short term gain.
Posted by Dave on Mon 5 Jan 2009 at 10:46 AM
The second op ed, How to Repair a Broken Financial World, is refreshing because it bravely puts forward solutions, which is what all the investigative journalism ultimately enables. Two comments:
First, it seems somewhat contradictory to criticize the government for trying to reinflate the credit bubble, and then several pages later advocate reinflating the housing bubble.
Second, I agree with nationalizing banks, wiping out shareholders and selling off the assets in calm markets; but it's not that simple. Shareholders are just one (and a relatively small) source of capital for the banks. Looking at Citigroup's balance sheet, for example, they have total assets of $2 trillion but a market cap (the value of all outstanding stock) of only $35 billion. And that's before any off-balance-sheet monsters that are hidden.
So what about all the holders of this $1.965 trillion debt? Some are depositors, some are bond holders, some are counter-parties such as hedge funds. Who get's what in the nationalization? If too much pain is inflicted on these lenders, they will be very wary of lending to banks again in the future. Dole out too little punishment and we'll be encouraging the same type of reckless risk taking that caused this in the first place.
Posted by Chris Corliss on Mon 5 Jan 2009 at 04:04 PM
Fantastic article by MICHAEL LEWIS and DAVID EINHORN. Two points:
1/ The use of the past tense ... the same people are still acting the same way. The "END" is a ways off yet!
2/ The is a bigger shoe still dropping and it undermines any attempt for sanity - interest rate swaps. At $306T notional, the domiino collapse from rate changes is seriouly more threatening than CDS.
Hopefully out of the ashes positive cange will occur.
Be safe everyone
Posted by bob on Tue 6 Jan 2009 at 10:42 PM
An interesting column yet they never answer the main question at hand – HOW could Wall Street – and the US government for that matter – have buried itself (and in the case of Congress the rest of us) in mountains of debt? WHERE did all this money come from?
What we are experiencing is something we’ve seen before – a speculative bubble caused by the Federal Reserve counterfeiting money and credit. Sparking the Roaring 20s by counterfeiting money throughout the decade (from 1921 to 1928 the money supply increased by an average of 7.5% a year) the Federal Reserve has never learned its lesson – stop counterfeiting money. There is a reason counterfeiting is a crime – it is stealing.
Say what you want about the “gold bugs”, but the beauty of a gold standard is that you can’t counterfeit gold. THAT is why the politicians and Wall Street hate the very mention of it. Nobody would EVER buy stock in a company that could print and sell new shares of stock whenever it pleased – yet that is the monetary system we live under. Until that changes, Wall Street, and the US government immoral debt binge, will never change, either.
Posted by Cyd Malone on Wed 28 Jan 2009 at 04:25 PM
Dave - Certainly many hedge funds get information others don't (see recent SEC suit against SAC Capital and Third Point) even after Reg FD. By lumping ALL hedge funds together you're keeping your own head deep in the sand. If you want a little perspective on things, read Einhorn's book "Fooling Some of the People All of the time (FSP, spelled out, .com) about how he tried to bring a company fraud to light (he was instead investigated, not the company). Also think about someone like Bill Ackman. Back in 2002 he wrote a 70 page thesis on how the ratings agencies were flawed and in danger of creating a catastrophic situation for everyone. Again, Bill was investigated and the agencies ignored. Anyway, two good examples of hedge funds fighting more for public good (Einhorn was donating to all of his profit shorting this fraudulent company to charity) than for profits.
Posted by Ben on Mon 16 Feb 2009 at 03:49 PM