It’s getting to be a pretty big department, I know, but this latest idea being considered, according to the Washington Post, is especially mind-boggling. Under the proposal, the government would potentially put up close to $1 trillion to subsidize the losses of wealthy hedge fund and private equity investors in an effort to entice them into lending more money.
Today, the plan, dubbed Term Asset-Backed Securities Loan Facility (TARF):
Here’s how a typical TALF deal would work: A hedge fund uses $1 million of its own money and gets a $9 million loan from the Fed, payable after three years, to buy a $10 million asset-backed security, which finances consumer loans. Hoping that the market for these assets recovers, the hedge fund would hold the asset for three years.
If the security rises in value to $11 million, the investor would keep the profit, essentially doubling the initial investment. The government, meanwhile, would consider the deal a success because consumer lending was spurred.
If the value fell below $9 million, the hedge fund would lose its down payment but nothing more. The Treasury, using bailout funds approved by Congress, would cover the next set of losses, with the Fed ultimately on the hook for anything more.
This is utterly insane. The reason we’re in this mess in the first place is that banks took risky bets using high leverage within an easy money environment, and those are exactly the conditions that this plan would recreate, and then some. What is happening in credit markets right now is a perfectly natural reaction to the recklessness of the earlier part of this decade. Left on its own, eventually investments wll begin to look attractive to those who have cash, and things will recover. Nobody wants to hear it. Nobody wants to accept it. And our president has declared this point of view out of bounds. But simply doing nothing is a far better alternative to this type of central engineering that will only perpetuate the disease. It’s like if, following a heart attack, your cardiologist told you to eat two apple smoked bacon double cheeseburgers before bed every night.
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