Will the Geithner Plan Work - Let's Hope Not!!

I noticed several weeks ago an analyst report noting that banks were bad investments, which I noted here. The author concluded that some would not last and there would need to be a lot of consolidation. Hardly novel observations except for the fact that it came from Richard Bernstein, chief investment strategist at Bank of America. Now at the time I naturally assumed he was not talking about his own bank but rather was looking to create support for his own institution to make further stupid moves buying up competitors, further adding to BofA's not insignificant problems. Nonetheless, I suggested he had a short career at his company.

Well yesterday Richard was back at it. He recommended selling bank shares and noted that the new Geithner plan would only provide short term relief to the banks and make things worse in the long run, as in delaying the solution. Again, I was thinking, not likely to be pleasing his employer.

Well, he is "moving on" as they say - undoubtedly to greener pastures. I love the PR statements from the folks at BofA. “The wisdom and counsel that David and Rich provided clients, analysts and our businesses have enriched our franchise.” Bernstein’s next job may include “potential opportunities on the buy-side, teaching and perhaps authoring another book." Well this guy who gave good counsel is counseling against buying BofA stock and against the Geithner plan. Finally, someone on the inside looking out and saying this is a bunch of BS. Then, of course, he promptly ends up on the outside looking in.

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a_ujysijdX.E

http://www.ritholtz.com/blog/2009/03/merrillbank-america-departures/

And here is a really bad thought for you to chew on - what if the Geithner plan works? I know the plan working sounds like a good thing, but let's think this through just a tad bit more. I think it is a given that debt levels, especially on the consumer side, in the U.S. are already too high in relation to GDP. Basically still near record levels. Levels that make the last major spike, before the Great Depression, look small in comparison. So what do we do in response to having too much debt - we spend a trillion dollars letting banks clean off their debt loads so they can . . . you got it, lend more and create more toxic debt. Now I for one do not think the banks will be foolish enough to do this, i.e. create more toxic debt. Credit standards are tightening not because of a lack of liquidity but because the borrowers cannot afford to repay. Nonetheless, let's play out the plan and assume it works.

So we have a society already heavily overburdened with debt that the government is trying to get banks to lend to more. If they do and if consumers are foolish enough to borrow more, then the debt load increases, we buy more and we form what? Think about it a minute. Take your time. Bingo . . . a new unsupportable bubble. We support more spending, build more debt and then we only get into a situation that is worse, much worse. In large part most agree we are in the present mess due to an overreaction to the bursting of the tech bubble.

Now maybe the additional lending is just for good corporations that need it, which I admit is needed (our economy is lubricated by credit and I will not pretend we do not need a certain level of credit for normal operation). Even with bad debt off the books the banks will only lend to corporate borrowers who are worthy. Alternatively, they might lend to the not so worthy at extremely high rates (something most are still already doing), so what do we achieve. Some good perhaps, but I think the government would be better off directly lending to those good corporations that need it and let the financial institutions that largely got us into this go under (in an orderly wind down fashion).

As for consumer lending. Consumer spending is two thirds of our economy. It needs to come down as a percentage but it is what it is. If we do not support consumers with more debt, our economy is not going to rebound quickly. If we do, we simply build a new bubble. Boy, this really sucks. And this gets me back to the Geithner plan, which also sucks.

So why do I not like the Geithner plan?

1. We are using massive taxpayer dollars to support/insure private investors (with little of their skin in the game) to remove toxic assets from the jerks that brought us here. Taxpayers socialize the loss and get little of the gain (if there ever is one). And given the diversity in the "assets" being sold, I see little price discovery in the mark-to-market values (especially with the major rating agencies weekly downgrading hundreds of billions of these assets.)
2. We are creating massive moral hazard. The banks we are supporting will take foolish bets to return to their profiting ways now knowing that the government will repeatedly bail them out.
3. There are in fact some good banks out there. Those that did not do all these securitizations, bad lending and the like. We are supporting insolvent zombie banks that are now competing (with massive taxpayer support) against the good banks that did not dive into toxic debt. We are supporting the jerks and punishing those that did what they should have done.
4. The problem is not a liquidity problem but a solvency problem. The banks will not lend to those on the edge.
5. U.S. consumers and many corporations are in a position where they need drastic further deleveraging - especially after trillions in net worth was wiped out over the past year. We do not need the government artificially supporting more lending.
6. This "plan," even if it works, at best delays the pain. It takes us into the Japan lost decade and more (which we already in if you look at the markets).
7. I don't think the Geithner plan will work and then we will be tempted to spend much more to make it work. We cannot afford to flush these dollars, these taxpayer dollars.
8. We need a better way, a structured way, to recoup the taxpayer dollars if these misfits recover. It will likely take decades but to avoid moral hazard we need to recover every last dime.
9. I don't like the way Geithner looks.

I am eagerly looking forward to the responses on my nine points above and why they are wrong, especially number nine. The better question to me is what happens next after the Geithner plan fails. We will see.

Disclosures: I still have the put options I noted yesterday (GE,AA and AMX) but otherwise None.