Larry and Timmy's Excellent Vegas Adventure

Obama's economic team has a plan: go into partnership with a bunch of hedge funds who will to go to Vegas and make some bets. I think it may work a little like this: if the bets make money, the government makes its share of the profits, whereas if they lose, the losses come out of the government's share first. Heads we both win, tails, the taxpayer takes the loss.

Sounds like a good plan, Larry and Timmy. What could possibly go wrong? Could there be anything in it that might lead those hedge funds into making some unreasonably risky bets?

Brad DeLong has a defense and a FAQ. DeLong likes it, but on the central question his answer is deeply dishonest:

Q: What if markets never recover, the assets are not fundamentally undervalued,
and even when held to maturity the government doesn't make back its money?
A:
Then we have worse things to worry about than government losses on TARP-program
money--for we are then in a world in which the only things that have value are
bottled water, sewing needles, and ammunition.


I've got to call bullshit on this one Brad. My way or the apocalypse? There are a lot of degrees of bad, and the idea that the only alternative to Road Warrior is giving Citi group a bottomless taxpayer credit card is ridiculous. If the MBS are mostly as bad as the markets seem to now believe it is bad, but it's not the end of the world.

Jaime Galbraith says, "Hey, maybe somebody should actually look at the books and run the numbers before we spend the next trillion." What a concept.


Hilzoy rounds up the expert commentary here. Put me down with Krugman, Galbraith, and the other unbelievers.

UPDATE: Paul Krugman responds to Brad DeLong and, much more politely and precisely, makes the point I was trying to make above:

Brad gives it the old college try. But he shies away, I think, from the central issue: the non-recourse loans financing 85 percent of the purchases.

Brad treats the prospect that assets purchased by public-private partnership will fall enough in value to wipe out the equity as unlikely. But it isn’t: the whole point about toxic waste is that nobody knows what it’s worth, so it’s highly likely that it will turn out to be worth 15 percent less than the purchase price. You might say that we know that the stuff is undervalued; actually, I don’t think we know that. And anyway, the whole point of the program is to push prices up to the point where we don’t know that it’s undervalued.

So default on those non-recourse loans is a substantial possibility, which means that there is a large implicit subsidy involved. That’s why Christie Romer’s claim that we’re relying on the “expertise of the market” rings so hollow: we’re giving investors a big subsidy, so this has nothing to do with letting markets work.

And a final point: I’m with Atrios here. If getting the prices of toxic assets “right” isn’t enough to rescue the banks, that doesn’t mean that we’re doomed; it means that we actually have to, you know, rescue the banks, Swedish style, rather than rely on fancy financial engineering to make the problem go away.

UPDATE II: Arun, in the comments, endorses David Mizners take on Robert Rubin, Larry Summers, and how Wall Street got to own both political parties. I don't completely agree - I think that there were a lot of positive effects Rubin's policies - but anybody who wants to understand how we got here needs to read it. Obama is still trying to fight off the Reagan-Bush-Clinton-Bush depression with an economic team that was on board with many of the policies that created it.

And the poisonous air of conflict-of-interest still hangs over the whole group.

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