Henry Paulson made tens of millions of dollars off of the mortgage securitization business when he was at Goldman Sachs. As Treasury Secretary he stood by or actively assisted as Goldman competitors Bear Stearns, Merrill Lynch and Lehman Bros. were permitted to fail or were sold under duress to other institutions. As in the AIG bailout and those of Freddie Mac and Fannie Mae, all of these failures were managed in a way that ravaged shareholders and corporate management, but preserved the interests of counterparties.
After Lehman went down, and Goldman's stock started to plummet indicating it was next in line, Paulson in coordination with the Fed and the SEC immediately banned short selling of financial stocks. Paulson then tries to ram through a $700B giveaway package of taxpayer dollars that would benefit mostly Goldman and Morgan Stanley. He does this just as Congress is wrapping up its session and is ready to go home, and urges that it be passed quickly with no amendments or extended debate, or else the world's financial system will unravel. Media shills report that the system was "a few trades away from complete collapse" until word of the Paulson plan began to spread.
Unlike all of the previous managed collapses and bailouts, this one would remove the distressed assets from Goldman's balance sheet, which would immediately make it much more profitable and cause its stock price to rocket upwards.
Paulson's proposal provided that only he gets to decide who gets the free money and under what conditions, and that no court could review his decisions. He alone would decide which firms would survive and which would not, and under what terms. He adamantly states that "protecting the taxpayer" is his paramount concern. However, at today's Senate hearing he and Ben Bernanke blanched at the thought of requiring Paulson's ex-partners at Goldman to give up any equity to the taxpayer in exchange for this free money.
Paulson's plan drew a few mild objections at the Senate Banking Committee hearing today, but it was pretty clear that most of the Senators were unwilling to risk affronting the money masters. Every time the subject of giving the taxpayers equity came up, the topic was diverted to the more loosely defined "limiting executive compensation," which is something that could comfortably be worked around with a wink and a nod both in terms of substance and timing. Here are a few questions that I wished were asked but were not:
1. Mr. Paulson, if this is such a great investment for the taxpayer, why hasn't Wall Street been able to find private capital to make the investment?
2. If the government is the lender of last resort, doesn't that mean that it should demand more stringent terms than a private investor would?
3. Would an arms-length investor like Warren Buffett or any of the sovereign wealth funds buy distressed securities for more than their market value without getting equity in return? Can you point to a single instance of this ever happening?
4. If the purpose of the bailout is just to protect the system without the moral hazard of protecting those who made bad investments, why should people like the Goldman Sachs partners retain any ownership at all? Why should they come out of this better than the Bear Stearns partners did? Wht not just nationalize Goldman Sachs if it is both insolvent and a systemic risk, stabilize it and eventually sell it back to the public in an IPO for a profit?
5. How will it improve the bank's capitalization if you don't pay more than market value for these assets? Isn't the only way this plan is going to help the credit crisis if the government overpays for the distressed assets?
6. Wall Street paid record bonuses last December when it was well aware of the looming crisis. What can be done to recover these funds for the taxpayer?
The Paulson plan is shameless cronyism at its worst. It would give tens of millions of dollars in increased profitability and share appreciation to the same people who are at the root of this mess- the partners of Goldman Sachs. It would be the mother of all moral hazards. It would be an unambiguous demonstration of the new reality in American finance that being politically connected out-trumps prudent financial stewardship.