Thursday, September 17, 2009

The Annals of "Whatever Happened to PPIP?"

Remember, PPIP was the Geithner plan rolled out amid much fanfare back in March. The government was to pony up funds and partner with private investors to buy up crappy assets clogging bank balance sheets, through a series of auctions. This act of Roto-Rootering our financial system was depicted as necessary to restoring the banking industry to the pink of health.

Early on, I predicted the plan would die because the banks wouldn't play ball. They wouldn't dare, knowing that they'd have to revalue huge chunks of their assets once the investors' low bids revealed how little their loans and securities were really worth. My conviction hardened as the year went on.

So naturally, I was more than a little intrigued by this story:
FDIC Names First Winner in Toxic Asset Program

So did I get this wrong? Is the program finally stumbling out of the starting gate? Well, it turns out my reputation remains intact. Check this out about the first winning bidder (bold mine):
Fort Worth, Texas-based Residential Credit Solutions Inc. is paying $64.2 million for a 50 percent stake in a new company that will have about $1.3 billion in home mortgages from the failed Franklin Bank.
Yup. The picture starts to become clear. We're not subsidizing investors who are buying the assets of sick banks to make these lenders healthier. We're subsidizing investors who are buying the assets of stone-dead banks. This just flat-out doesn't make any sense. Let's read on to see why:
The program is part of the government's public-private partnership to guarantee private investors' purchases of toxic assets to help banks raise new capital, get credit flowing and aid the economic recovery.
So buying up the assets of failed Franklin Bank will help it raise capital and allow it to increase lending and ... wait a minute ... it's DEAD. D-E-A-D. Put a finger under its figurative nostrils. This bank can't fog a mirror any longer.

This bank is like the parrot in the Monty Python sketch that's been stapled to the perch and sold to an unwitting customer. Franklin Bank is a dead parrot. Why are we lavishing subsidies on a dead parrot? The bank can't raise any more capital or lend half a million to Bucky's Sub Shop for a new store on the east side or sponsor the Little League team this season because it's PERISHED, KAPUT, EXPIRED, GONE TO THE GREAT FDIC GRAVEYARD IN THE SKY.

Then we have this chuckle-worthy paragraph. I can't tell if the reporter is trying to wring out a little dry irony:
The FDIC said it will analyze the results of the RCS-Franklin Bank sale to determine whether the same process could be used to get toxic assets off the balance sheets of banks that are still open and functioning, as opposed to failed banks.
So essentially PPIP has turned into the worst of all possible worlds. Think of it as a "vulture" subsidy -- a way of slipping a little money to private investors to buy up crummy assets of failed banks. The problem is, you shouldn't need to do this. Just take the low bid sans subsidy, for crying out loud. The FDIC has a process firmly in place for selling off assets of failed banks.

Why they're using PPIP for this purpose is beyond me. The machinations behind the federal bailout(s) of the financial system have grown downright impenetrable.

5 comments:

  1. Finance guy, you should not be so worried. Do you remember M&M?

    My paper "Slicing the Toxic Pizza: An Analysis of FDIC’s Legacy Loan Program for Receivership Assets" at http://ssrn.com/abstract=1476333 argues that the PPIP financial structure is largely irrelevant in terms of the long term returns to the FDIC when receivership assets are sold. The inflated prices that the FDIC gets in the short run are matched by an offsetting loan guarantee liability that bites the deposit insurance fund in the long run. I analyze the RCS transaction in that paper.

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  2. Couldn't seem to download your paper, but -- the FDIC is essentially selling the assets to itself as it retains half the equity certificate (and a private investor goes along for the ride). Why go through these contortions? (I know the line is "this is a pilot run," but why not pilot with a live bank? PPIP makes no sense to me with dead banks). I think I get the gist of what you're saying, but I wonder: if you compare how much the FDIC gets by selling the assets outright and how much it gets by selling back to itself and a private partner, with all the related paperwork and LLC management fees, I find it very hard to believe it comes out ahead doing the latter. I assume you don't argue that; only that the loss (if the two scenarios were stacked side by side) wouldn't be that great because the inflated offer is offset by the loan guarantee. I see the logic in that, and indeed it perversely makes sense, as the government is essentially selling to itself.

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  3. Finance guy,
    If you give me your e-mail address, I'll e-mail you a copy. At SSRN at http://ssrn.com/abstract=1476333 you click twice to download. You click the download button, and then you click the location you want to download from New York, Chicago, Stanford, et cetra.

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  4. Okay, I got it no problem this time. I think there was a glitch on the site first time I went there (no download locations displayed, as they did just now). I'll take a look.

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