With the Wall Street rescue talks on the ropes, there is a deal waiting to be done that fixes the Paulson Plan’s problems and gives each key player a win.
The key objectives of the rescue are: 1) to restore stability and liquidity to a US financial system currently threatened by the collapse in value of a large class of assets, a collapse which has led to catastrophic shrinking of the balance sheet equity of many financial houses, 2) to do it without inappropriately favoring one firm over another, 3) while minimizing US taxpayer exposure, as well as 4) minimizing US government acquisition of privately held assets.
Here is what such a plan would look like:
* Build up good assets:
Everyone has focused on the bad assets that the financial houses hold. Start instead with the good assets, mainly corporate stocks, which are currently depressed, and build up their market value. Some have suggested zeroing out the capital gains tax to do this. It is true that pending expiration of the 2003 cuts of the capital gains and dividends taxes is regarded as a drag on the markets. But large classes of market players – pension funds and 401k investors – are not sensitive to tax considerations, so concentrating exclusively on capital gains and dividends would not do the trick.
Both presidential candidates have made statements that can be applied here.
Barack Obama has said that in a shaky economy letting expire the 2003 tax cuts (at least on capital gains and dividends) would not make sense. So, giving him credit, lock in those cuts now.
John McCain has advocated cutting the corporate income tax, a move that would impact all market participants. Giving him credit, bring the corporate income tax rate down to a level competitive with the other major industrial countries now.
In other words, give both candidate claim to a win, while building up the value of good assets in the hands of the financial houses, thereby building up their balance sheet equity and reducing their need to turn to the government for help.
* Create a temporary lending facility for the securities industry:
Instead of making the government’s major role that of buyer, make it first that of lender. To financial houses holding instruments for which there is no current market, the Treasury’s first offer would be a loan, if necessary with the troubled paper or other assets as collateral. The interest rate should be an attractive one to the American taxpayers, assuring them that they were getting a good deal from the lending of their money. Lending first would also minimize the government’s problematic role as an acquirer of private assets and its extremely difficult role (according to those who worked on the S&L bailout) as a disposer of those assets. Equally important, it would give a win to House Republicans, who want to have the rescue program rely on loans rather than asset acquisition.
* Create an exchange for the troubled assets with the government as the market maker:
This is essentially what the Paulson Plan would do, but it would open the government to disposal of assets via on-going competitive bidding. Any firm that sold its troubled assets to the government would come under restrictions that have already been negotiated, including limits on executive pay, coming off them only after all the paper it had sold was out of government hands. It would also give Congressional Democrats and the Administration a win, incorporating the proposal they have already hammered out and agreed to.
By expanding the value of good assets in the hands of financial institutions (and the rest of us), this package would minimize the demand for other government assistance. By relying primarily on loans, it would minimize the need for the government to get in the business of acquiring assets. By making the government’s asset acquisition role that of market maker, it would keep the markets functioning, even as it minimized the time any asset remained in government hands.
Both presidential candidates, both parties in Congress and the Administration could all claim wins – as could the global financial markets and the American people.
Clark S. Judge is managing director of the White House Writers Group. He was a special assistant and speechwriter to President Reagan.