Why Sheila Bair must resign
Sheila Bair is doing a fine job at one thing – modifying mortgage terms in the mortgages she has taken over – particularly those at Indy Mac. As a liberal I would be expected to applaud – but I am profoundly glad that Obama did not do as Robert Kuttner suggested and nominate Sheila Bair for the Treasury Secretary post.
Sheila Bair is simply wrong when she implys that the problem started with mortgages and therefore it will end with mortgages. The problem with mortgages is no more than a trillion dollars (say 20 percent of the mortgages in the US defaulting with a 50% loss). Indeed it is much less than a trillion. If the financial crisis were about mortgages it would be over now – what with 500 billion of capital raising, a few hundred billion chipped in elsewhere (either by the Government into AIG or Maiden Lane or by Lehman and Washington Mutual bond holders and all the Fannie and Freddie losses that will be picked up by the Feds). The financial crisis is not about mortgages – it is about trust.
The people who provide finance to financial institutions (inter-bank and otherwise) no longer believe they will get their money back – and so are no longer willing to provide finance. The unwillingness to lend to financial institutions dooms them regardless of their solvency. The crisis is about trust.
It is alarming enough that the head of the FDIC in so self serving a manner misdiagnoses the nature of the financial crisis – self serving because her institution is building up enviable expertise in modifying mortgage terms. Indeed at best Sheila Bair is the woman saying “we must do something, modifying mortgage terms is something – therefore we must do it”.
But if misdiagnosis of the crisis were the end of it then there would be no pressing need for Sheila Bair to resign. It is not the end of it. Sheila Bair is an obstacle – indeed one of the principal obstacles in the way of reinstalling trust to American financial institutions.
It comes about as follows: if you accept that the problem is that people will no longer lend to financial institutions then the core thing that is required is the perception that the US Government will not arbitrarily confiscate your rights if you lend to financial institutions.
On Friday I suggested that Sheila Bair might confiscate Citigroup wiping out in excess of 100 billion dollars in parent company debt. I am just a humble blogger in Australia – and my suggestion would be outrageous except that Sheila Bair through her actions on Washington Mutual and Wachovia made my suggestion plausible. She has form. She has done it before. She has unilaterally determined that Wachovia required a government assisted takeover when Wells Fargo proved only days later that she was wrong. Her judgement is unsound (proven) and her willingness to use powers to wipe out or compromise people who lend to financial institutions make her unsound judgement dangerous.
She just might confiscate Citigroup – because that sort of rash action is up her ally. She shoots from the hip – and Wachovia proves her aim is not true.
Anyway – this crisis will be over when people are willing to lend to American financial institutions unsecured again. And they will not lend to financial institutions when Sheila Bair is around. Her presence makes it dangerous.
A policy statement saying she will not do it again would be nice – but is implausible. Debt holders make a small amount of money when they are right – and lose a large amount when they are wrong. Sheila Bair – even if she promised not to be so rash again would not be believed.
There remains a small chance that she will again exercise her unsound judgement to compromise debt holders – and that alone is enough reason not to lend to American financial institutions.
I do not know what a complete solution to the financial crisis (other than full nationalisation as per the Citigroup post) would look like – but if full nationalisation is not on the agenda (and as far as I can tell it is not) then any solution to the financial crisis involves removing Sheila Bair. She is an obstacle to trust.
It is simple Sheila. Resign now. You owe it to your country.
John Hempton
Postscripts:
1. There has been some comment my view is because I lost money (a very small amount) in Washington Mutual preferreds. It is not. Had the preferreds but not the debt been wiped out I would think that fair enough. I purchased the prefs with three times the yield of the debt. Sheila Bair made them roughly equivalent. I have no qualms whatsoever about wiping out equity investors and I was one.
2. I have purchased Sheila Bair's name on Google Adwords. The adverts link to this post. I am doing my bit to help solve the financial crisis.