There’s one big problem with the Obama administration’s plan for detoxifying the banking system: it won’t work if the banks remain unwilling to take write-downs on troubled loans and securities.
With the federal government providing big subsidies to buyers of toxic assets, finding private investors to participate in the new $1 trillion program shouldn’t be hard. But those buyers won’t have much to do, if the banks continue to refuse to sell assets at a steep discount.
There’s been justifiable criticism over the Federal Reserve’s decision in the initial AIG bailout to make whole banks like Goldman Sachs, Societe Generale and Merrill Lynch, all of which purchased credit default swaps on a collateralized debt obligations. But here’s the thing: some of those banks probably wouldn’t have sold those CDOs to a Fed-sponsored entity for anything less than their face value. And that would have greatly complicated the Fed’s rescue of AIG.
It’s not clear then why Treasury Secretary Tim Geithner believes the banks will be any more receptive now to taking haircuts on their debts. After all, Geithner was the architect of that initial AIG bailout during his stint as head of the NY Fed. Clearly, Geithner didn’t have any success getting the banks to face up to their losses in his former job.