Buy The Companies, Not the Assets

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Doug Elmendorf, senior fellow in economic studies at the Brookings Institution is not, I take it, a Communist of some sort. But he says that instead of buying financial institutions’ bad assets, we should be buying the institutions:

An alternative to the government buying certain types of debt from financial institutions is for the government to make equity investments in a wide cross-section of such institutions. For concreteness, suppose that the government offered to make an equity investment in every firm regulated by a federal or state banking regulator equal to 10 percent of the market value of the company as of September 1st in exchange for a 10 percent equity stake in the company. (The 10 percent figure is illustrative. As with the first approach, a judgment about the appropriate total amount of government funds would need to be made.)

He goes on to observe that objections can be raised to this. But it has several important advantages over what Paulson is proposing. Most importantly, the government would “own the upside” of the bailout. In other words, if the plan worked and confidence was restored in these institutions, the value of the taxpayers’ investments would go up. If the plan failed the public would lose a ton of money, but obviously with any plan if you fail bad things are going to happen. Under Paulson’s plan, by contrast, the public has very little upside.

The other big advantage is that the equity proposal leaves the government bailing out everyone equally. Under Paulson’s plan, as I understand it, you would be giving more help to financial institutions that had made bigger fuckups.

Now in typical Brooking style, Elmendorf is being calm and judicious about this in his tone. Judicious to a fault I would say. He’s acting like this is just a decision that’s going to be made on the merits, so what’s needed is a calm and judicious tone. But there are big interests at stake here. Buying the assets is much less favorable to the taxpayers but much more favorable to well-connected financiers. That, rather than an argument over the merits, is what seems to be crucially at stake here.