Geithner Plan Not Even Close

Today, Timothy Geithner’s proposed plan to restore order to our nation’s financial markets fell so far short of solving the problem that it completely missed the target. This plan is like using a popgun to take down a bull elephant, or steering through a tsunami in a boat made of cork with no rudder. It won’t happen. This plan does too little to restore capital to a completely bankrupt banking system, and it lacks the punch needed to get loans flowing to qualified consumers and businesses as soon as we need it (today).

$1 trillion just won’t do it, folks, not if we want a healthy world economy. The world was so leveraged on mortgages (30-50 times equity), that underfunding the bailout could still be disastrous. Geithner: Wake Up!

What we need is to reset bank capital, and set compensation plans in motion that will not allow executives to (metaphorically) rape the taxpayer. I know that this is a powerful and distasteful analogy, but truth is truth.

In 1992, Congress limited the corporate tax deduction on salaries in excess of $1 million. I threw up big warning flags then, and I am doing it still. By limiting the corporate deduction, companies are forced to compensate executives in other, tax-favored manners, usually in stock options. This caused (and still causes) executives to cook company earnings and make short-term decisions to affect short-term stock prices rather than long-term viability and solvency. Hence, all the leverage.

Executives are like entertainers and sports figures. There is a big market for top talent and they will get paid. By trying to “end corporate greed,” the 1992 Congress put corporate greed on steroids.

Here is what we need to do. We need to start fresh. We need to tear down this old fixer upper and build something new, something that will survive.

First, we need to restore banking capital to healthy levels. We should create an independent bank to purchase bad debt from financial institutions, particularly from the banks. Additional capital should be in the form of convertible debt at low interest rates. (I hate the thought of bank nationalization, but the taxpayers should get repaid somehow). Some will argue that this is inflationary. Restoring lost capital is far less inflationary than creating new capital. When compared to the alternative of fifty million people out of work, and an economy less than fifty percent of what it was, I will pay an extra one or two percent per year for goods for a while.

Second, the new bank should work out all the loan terms with the mortgages they have bought. This includes blanket agreements with creditors and affordable terms with homeowners with the ability to repay. Homes that cannot be refinanced should be sold in an orderly manner, not liquidated through rock bottom auctions. If this means renting properties until home prices stabilize, and this proves to be the most profitable solution, get it done. Remember, this is the taxpayer’s money and it is precious.

Third, changes must be made to compensation structures. We should restore the corporate tax deduction for salaries in excess of $1 million. This will encourage more long-term thinking. If we need to cap salaries, we should do it at levels comparable to other high-paying professions like athletes and performers. Business executives produce at least as much as entertainment figures (which athletes and performers are). If we want to cap salaries to a lower level, then cap the salaries of actors, musicians and athletes, too. Set a price cap on movie tickets, CD and download sales and baseball games. Do not try to cap executive salaries at abnormally low figures, because then all you will get is mediocrity. We don’t want mediocrity now, we need brilliance. We want these men and women making big money, provided they do so for their shareholders (and the taxpayers) over time. This is part of what made our country great.

Fourth, if an executive earns money from stock options, it should be paid into a trust. Payments to the executive can then be made from this trust, provided the company returns a certain return on equity over time. For example, let’s use a term of ten years. If an executive earns $20 million from stock options, the entire amount will be placed in trust. Each year, $2 million will be paid, provided the company remains profitable (within some reasonable parameters). This will significantly reduce the short-term thinking and outright fraud that has been perpetrated on shareholders and taxpayers.

Fifth, stop dictating that Fannie Mae (and other quasi-government organizations) conduct social policy and call it business as usual. These companies were forced to lend enormous sums of money in areas where traditional bankers feared to tread. Estimates are as high as 50% of loans. If the government wants to create social policy (which every government does), then do it with a separate organization. Fund it in a manner that is transparent to the taxpayer, not in a way that bankrupts the world.

There is no hiding from this problem. This entire mess has screwed the country for the next fifty years, perhaps forever. The economics of government, trade and tax policy have changed so dramatically that economists are going to have to rewrite all the texts. This will become one great experiment, where fortunes will be made and lost, where good people’s lives will be destroyed, and other nations (namely China) will become superpowers long before their time.

There is no sense in trying to restore things to the way they were. This will never happen. Never ever. All we can do is make the best of this situation. This will require drastic, dramatic and immediate action that is beyond anything we have ever seen. Our government must take bold steps, decisive steps and do it fast. Otherwise, we are going to be living in a world where today looks like the good old days.

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