“These are the days of miracles and wonders.” The market has collapsed! Only the government can save us now! Thirty years of cant have evaporated. Suddenly, we’re all in it together–Henry Paulson and Ben Bernanke in the lead, Congress pulling like postpartisan galley slaves, George W. Bush lying low and looking, no doubt fervently, for the exits.
Something must be done–but on what terms? Treasury proposes to spend $700 billion to buy mortgage-backed securities, accountable to no one. Paulson asks for trust. But has he earned it? Remember, he started out in office gutting the Sarbanes-Oxley Act; he tried to cripple the SEC and recently relied on Morgan Stanley–not a disinterested party–for advice on the nationalization of Fannie Mae and Freddie Mac. Therefore “trust but verify,” as Ronald Reagan would (and did) say.
Congress must impose conditions to protect the public, the national interest and, not least, the interests of the next administration. Herewith a short list:
1. Disclosure clause. Treasury should have immediate and complete access to information about portfolios, counterparties, the internal valuation methods used by financial firms, their proprietary models and the history of adjustments made to those models to recognize or conceal losses as the crisis unfolded.
2. Pricing clause. Treasury should establish a transparent mechanism to establish a before-the-bailout fair market value for mortgage-backed securities, set limits on the premium paid over that value and require that financial institutions value their full portfolios at the sale price. In other words, concealment of losses–“accounting forbearance”–should be prohibited.
3. Fraud clause. Securities purchased should be reviewed, and those found to be based on fraudulent appraisals, inadequate documentation, predatory and other abusive practices should be kicked back to the lenders at a penalty rate.
4. Enforcement clause. Treasury should be required to establish a framework for investigations and criminal referrals and to prove that it is in aggressive use. Participating firms should be required to investigate and document past frauds, establish internal anti-fraud controls and make criminal referrals as necessary. The FBI and assistant US Attorneys should get “blank check” authorization to pursue the crimes behind this debacle.
5. Arbitrage clause. One big danger of Paulson’s plan is that non-US institutions, hedge funds and others will seize the chance to sell their bad holdings to eligible US institutions, replenishing the swamp just as the Treasury seeks to drain it. All US financial institutions should be required to provide baseline information on their mortgage-backed securities and other eligible holdings as of September 15.
6. Transparency clause. Treasury operations under this plan, including communications and consultation with outside advisers, should be transparent to Congress, which should get whatever information it wants, at regular intervals. No exceptions.
7. Crony clause. This program must be run by people who are free of conflicts of interest. To ensure this the Treasury should require full financial disclosure for anyone hired to administer the program, and impose rules to enforce a strict conflict code. Special note to Congress: John McCain personifies the crony system. Do not pass a bill that would give him, as president, unfettered control over how this program is run.
8. Modification and disposal clause. As foreclosures mount, Treasury will end up with physical properties, which degrade rapidly if not sold or rented and occupied. To prevent this, an agency should be established to rapidly modify mortgage contracts; manage rental conversions; and lease, sell or demolish vacated homes. The agency can be run as draft boards were in wartime, by citizens in each community under federal guidelines.
Is this all? No, it’s only a start. Other measures must follow, including regulatory reform, mortgage relief, revenue sharing to protect state and local public spending as property tax revenues tank, support for public capital investment and job creation. But this is the agenda for the next administration.
Getting to that next administration is the job for the American people.