The Housing Chronicles Blog: Bailing out the lenders

Monday, February 18, 2008

Bailing out the lenders

Some people unimpressed by what they see as a tepid response from the Bush Administration regarding the housing & credit crisis are suggesting that eventually the federal government will need to step in with an RTC-type bailout.

It's already happening in England with Northern Rock, which was the #5 lender for sub-prime loans in that country. But not all think it's a good idea. From an LA Times article:

The British government waded into the sub-prime quagmire Sunday with the announcement that it would move to nationalize Northern Rock, the nation's fifth-largest mortgage lender...

The northern England bank, which wrote a fifth of all new home loans in Britain last year before it fell victim to cash shortfalls stemming from the U.S. sub-prime crisis, will be held under temporary public ownership until it can be stabilized and resold, government officials said.

Like most British banks, Northern Rock didn't have a significant portion of its loan portfolio in the sub-prime market. The bank was nonetheless caught up in the turbulence because of its substantial reliance for funding on short-term money markets, which rapidly eroded as banks lost lending confidence...

Political opposition leaders accused the Labor Party government of spinning its wheels too long in reaching a decision, and Conservative Party leaders signaled they would oppose the nationalization legislation when it is presented to the House of Commons today.

"Gordon Brown has dithered his way to the disaster of nationalization. Now the taxpayer will bear the full risk of lending 100 billion pounds of mortgages in an uncertain housing market," George Osborne, the Conservatives' shadow chancellor, said in a statement.

"We will not back nationalization. We will not help Gordon Brown take this country back to the 1970s."

The left-center Liberal Democrats said the nationalization decision was the correct one, if too late.

"The object of this, of course, is to get the taxpayers' money back. It's twice the size of the annual defense budget that's at stake here," the party's treasury spokesman, Vince Cable, told the BBC.

Northern Rock shareholders, which include hedge funds and other large investors, have already expressed fears the nationalization will decimate their stakes, and they are expected to sue...

The decision followed several months of attempts to pursue what Brown and Darling had said was the government's preferred option of a private acquisition. But in the end the two private offers, one from the bank's current management and another from a consortium led by Richard Branson's Virgin Group, failed to deliver adequate guarantees for taxpayers, Darling said.

With the Virgin offer, he said, taxpayers would not have seen any share of the private sector's return until the value of the business had reached at least $5.1 billion...

Mortgage banker and syndicated columnist Lou Barnes argues that the total sum of up to $4 trillion in 'bad paper' will necessitate similar measures here in the U.S. in one of his weekly Mortgage Credit News postings:

Bad ideas are pouring from pols and regulators, trying to get foreclosure toothpaste back into the tube instead of working on the real problem ($4 trillion...). There is no solution to foreclosures; most of these households were bad credits to begin with...

Fellas... look: What are you going to do with the $4 trillion in bad paper? The “plan” seems to be to leave most of it in the banking system, financed by central bank credit. Hapless investors hold an unknown fraction, paralyzed as new buyers of securitized credit. The Fed-reduced cost of money will widen banks’ investment spreads, increase earnings and over time generate new capital. Over time. Meanwhile -- years -- the financial system cannot provide new credit because of the rotting mess in its belly.
Why are mortgage rates stuck up high, at just the moment that housing is desperate for cheap, well-underwritten credit? Banks cannot buy new Fannies, Freddies, and Ginnies because they are short of capital. Rather worse, they face new losses, balance sheets crowded with bad assets. So, they are sellers of the only good stuff they have. Sellers of our stuff. Sellers.
I would very much like to be proven wrong, but the word is “bailout”: extract the rot from the system and put it into a nouveau RTC. Then markets can function.

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