The Bad Bad Bank Plan

I told you guys yesterday that I'd give you my take on the Bad Bank Plan. This is one of the last ditch efforts by this administration. In summary the plan is a way to try to get the private sector to take some bad assets off of the banks balance sheets. The plan calls for the taxpayer, of course, to shoulder 93% of the risk and get none of the rewards. We've seen this before right? TARP, TALF, AIG, FNE, FRM,etc. ring a bell?

It is thought by many that that these assets are causing the banks to not lend. Therefore removing bad assets will allow them to lend. This is not true. The banks are not lending because there are very few who are looking to borrow. Who needs money to buy a new car? or a new home? or another vacation? or build a new strip mall? or open another nail salon? or another pizza hut?

Most homeowners and businesses are trying to recover from their debt induced hangover. Most of the people looking for money are already in debt up to their eyeballs and make for risky borrowers. The banks have no appetite, nor should they, to lend to these people.

All of the "solutions" involve stuffing the banks full of cash to try to get them to lend at bazooka point. Here is an exerpt from a book written by a fellow about the recent Japanese bout with deflation-

“The [Japanese] central bank's implementation of quantitative easing at a time of zero interest rates was similar to a shopkeeper who, unable to sell more than 100 apples a day at Y100 each, tries stocking his shelves with 1,000 apples, and when that has no effect, adds another 1,000. As long as the price remains the same, there is no reason consumer behaviour should change – sales will remain stuck about 100 even if the shopkeeper puts 3,000 apples on display. This is essentially the story of quantitative easing, which not only failed to bring about economic recovery, but also failed to stop asset prices from falling well into 2003.”

- Richard Koo, "The Holy Grail of Macro Economics: Lessons from Japan's Great Recession" (John Wiley 2008).

In the end I believe that there is really nothing that our government can do to solve the problem. Only time and pain will solve the problem. Government interference can make the problems worse, however, and probably last a lot longer.

On my to do list is to read the book by Richard Koo to find out exactly what Japan went through in their bout with deflation. I do know already that they never were able to beat it despite trying everything we are proposing to do.