The senators, Republican and Democratic, who barraged Treasury Secretary Hank Paulson and Federal Reserve chairman Ben Bernanke with wave after wave of skeptical questions on Tuesday know full well that their constituents are royally pissed. A $700 billion bailout handed to the very people primarily responsible for making this mess -- people who have fought against regulation and government interference in their business all their lives -- makes for very bad politics. Americans are angry.
But Bernanke and Paulson did not give up an inch during the long hearing before the Senate Banking Committee. They were opposed to granting the U.S. government equity in exchange for purchasing "toxic" assets off of Wall Street financial institutions. They were opposed to any restrictions on executive compensation. They were opposed to giving bankruptcy judges the power to rework mortgage contracts.
Like many observers of this drama, I initially found this intransigence infuriating. I am not one of those who believe that simply because Bernanke and Paulson are Bush appointees they are automatically lying and the real goal here is to transfer a huge amount of wealth to Wall Street and cripple the next administration. Smart people on all sides of the political spectrum are deeply worried about the state of financial markets and the disastrous consequences their collapse could have for everyone. There is no question in my mind that Bernanke and Paulson believe that the nation -- and the world -- stand at the brink of economic chaos. As they reiterated time and again, the result of taking no action would most likely be far worse than the disgust and irritation all of us -- including, I think, Paulson and Bernanke -- feel at the prospect of fixing things up by saddling $700 billion worth of debt on American taxpayers.
But come on! A handout is a handout. Why aren't they willing to horse trade? That is the question. And the answer, I think, after poring over their testimony, is that they really believe that the key to making their plan work is to get as many participants as possible to buy in -- not just the financial institutions on the brink of the bankruptcy, but also the reasonably secure corporations that just happen to have some toxic debt on their books.
What Bernanke and Paulson want to do is set up a series of auctions for various forms of securities that at present nobody wants to buy because they don't know what they're worth, and arrive at a price for them that is higher than the "fire-sale prices" that they currently deserve. They want to jump-start a new market, using as a carrot the prospect that the federal government will buy the bad assets at whatever the auction declares. This could be a "reverse auction" in which, basically, the holders of bad debt bid for the right to sell their securities to the government by lowering their asking price, or it could be some other kind of mechanism. In fact, there could be different mechanisms for different classes of securities. Bernanke and Paulson couldn't be explicit on the details, because, quite frankly, they haven't figured it all out. The words "complicated" and "complex" came up more than once in Tuesday's hearing.
But the crucial requirement for making this market work is to get the kind of "broad participation" that, as I understand it, will encourage sufficient numbers of institutions to compete to sell their toxic assets to the government so that a real price can be established for those assets. Viewed that way, it's easy to understand why the financial institutions that could survive without the help would refuse to participate in a system that promised punishment. But if the government restricted its efforts merely to attempting to recapitalize the companies that are in danger of melting down, the root problem of the current crisis would not be addressed -- which is that no one knows how to value all this bad debt, and therefore, there is no market, no liquidity, and a very real threat of an enormous economic contraction.
Having laid all that out, let me say that I do not think it is realistic to imagine that Bernanke and Paulson will get their way without concessions. The overt politics of the bailout are too egregious. Some kind of compromise will have to be crafted that encourages participation in the Paulson plan, but extracts a pound of flesh from Wall Street and gives homeowners as much of a helping hand as investment bankers. I understand Paulson's point, which he made over and over again, that the only reason he and Bernanke had crafted the plan is because the taxpayer and the real economy are in dire danger, so that bailing out Wall Street, in effect, is bailing out the entire economy. But that just won't play with the man or woman on the street -- something that any politician in a tight election 42 days from now is all too aware of.
The time pressure under which to hash out that compromise will be intense. But I have little patience with senators complaining that they have only a week to make a decision. That deadline is a result of Congress' intent to adjourn this week and head home on vacation to do a little electioneering.
Puh-leez. We are staring at the greatest economic crisis since the Great Depression. Cancel your vacation. Because that's what the rest of us are doing, as we stare into the abyss.
And take heart. While there was some political theater to be had in the Senate Banking Committee hearing held today -- a hearing that will be pored over by economic historians for centuries to come -- there was also a raw sense of history in the balance. And while I have not been shy to make fun of Bernanke's statements about the economy over the past year and a half, I must acknowledge that one exchange he had with a senator late in the hearing rang with a desperate honesty. After some back and forth with Sen. Sherrod Brown, D-Ohio, who stuck the knife in all the panelists when he asked: "Do you think Wall Street owes the American people an apology?" Bernanke, who had earlier noted that he was a college professor who had never worked on Wall Street and didn't have "those interests or connections," laid it on the line.
"Well, Senator, I can't predict the future, and I've been wrong quite a few times now. But we may -- we don't know exactly what's going to happen."
Sounds to me like an honest man in a tough spot who isn't getting much sleep. And not likely to get any good rest in the near future, either.