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Wednesday, April 29, 2009

Alan Blinder on Bob Brinker's Moneytalk April 25, 2009

Bob Brinker's Alan Blinder interview summarized by David Korn. The following summary, commentary and editorial comments, excerpted from David Korn's April 25-26 newsletter, are posted with the author's permission. David Korn wrote:


Bob only had one guest this weekend, but he was a good one. It was Dr. Alan Blinder, former Vice Chairman of the Federal Reserve Board of Governors, and current Princeton University Professor of Economics.

Blinder/Brinker: Bob noted that Alan was a guest on Moneytalk back in September 2008 and asked him what kind of shape the financial sector is in now as opposed to back then. Alan said the financial system is not cured, but there is no question it is in better shape than it was last fall, but it is not great. Last fall we were in an abyss and the question was how deep it would go. The Federal Reserve has done a huge number of things and the Treasury has as well.

Blinder/Brinker: Bob said the credit markets have improved, particularly in the municipal bond market. Last fall, the municipal bond market was in total disarray but in recent offerings of state general obligations, the yields have come way down. Alan said they are probably not auction rate securities which is where the real problem came in the municipal bond arena. There were all sorts of auction rate securities that were allegedly just as safe as long-term debts for the municipality and just as safe for the buyer, neither was true. Alan said Bob was referring to the GO market which has been around for well over 100 years.

Blinder/Brinker: On May 4th, we are supposed to get some feedback on the stress test. Your thoughts? Alan said he thinks that everyone should realize these are not pass/fail tests. Nobody will probably "fail." Once it is figured out how much losses a bank has to absorb, the Fed/Treasury will make a judgment as to how much capital they will need. The big question is how much money each of the 19 banks will need to raise enough capital.

Blinder/Brinker: What are your thoughts on how the banks can raise capital? Alan said in some cases, the banks have non-core businesses that are thriving which could be sold to raise capital if they can't get new equity from the investors in the market. A last resort is to raise additional capital through government intervention which is the last resort. The government will tell the banks how much they need to raise and if they can't, they will get government capital which will come with strings attached. Right now, there is a scramble from the healthier banks who are trying to give the TARP money back, such as Goldman Sachs and JP Morgan. Alan said they should be allowed to give back the TARP money because as a long-term proposition, nobody wants the government to be involved in the banks. Moreover, the TARP restrictions are hurting the operations of the banks. Finally, the Treasury is short on money so if they can get $40-$100 billion in funds back that they previously gave back out through TARP, that is money they will have to recycle it to banks that need it more.

Caller: This caller is worried that the government isn't anxious to take back the TARP money because it creates a competitive advantage for the banks that pay it back. Alan said there was some hesitancy in Washington on taking the money back, but he thinks that is largely over. We will see it play out for certain after the stress test results are announced. Alan said if he were in charge and banks wanted to pay back TARP money, he would allow it but would make it conditional upon the banks not coming back to the government later for more money.

Why would any bank want to give back the TARP money if it meant they couldn't come back later to borrow funds? Alan said the banks don't like the restrictions that come with TARP which include limits on executive compensation, rules on dividends, etc.

Bob said there is lots of talk of government "nationalization" or socialization of banks. Bob said he doesn't see it that way. Alan said there will not be any long-term nationalization of financial institutions with the exception of Fannie Mae/Freddie Mac. The old system under which they operated is no longer viable. Whether they become a private entity, or a governmental agency is unknown. But beside those two entities, when you talk about JP Morgan, Bank of America, etc., they won't be nationalized. But when there is short-term nationalization here the government takes over a bank shortly and then turns it over to private investors that can take a 1-2 years.

What would nationalization of banks mean to us as individuals? Alan said if were done and worked well the result would probably not be noticed by the individual bank user. The problem is that generally speaking we don't think the government is very good at running businesses, especially customer service based businesses. If a bank were nationalized, the government would step in, eliminate the existing shareholders, fire the top management and take it over as a government run enterprise. Alan said the Tennessee Valley Authority is the most prominent example of this, but we really don't have too many nationalized industries

[Korn] EC:
The Tennessee Valley Authority (TVA) is a federally owned corporation in the United States created by congressional charter to provide navigation, flood control, electricity generation, fertilizer manufacturing and economic development in the Tennessee Valley which was a region particularly impacted by the Great Depression.

Bob asked Alan to talk about CDARS which is a service that can offer you up to $50 million in Federal Deposit insurance coverage at one financial institution. It allows you to get around the FDIC $250,000 limit. Alan said it is not just for individuals. There could be a person who is head of a municipality, a country club, whatever role where there is a fiduciary responsibility and CDARS might be a viable service. It enables the customer to come into one single bank, deposit a great deal of money. That money gets parceled out into packets below $250,000 to as many banks as necessary and so the customer ends up owning the entire portfolio but has accomplished this by one transaction. You get one statement, but listing all of the CDs. If it is a taxable entity, there will be one tax return. People could do this on their own in principle, but it would be very time consuming. Alan said there are over 2,900 institutions that offer this. Given the financial crises, more and more banks are signing up. Alan said there is a list on the CDARS web site listing all the banks that are involved.

[Korn] EC:
This link brings you to a the CDARS web site which has a list of all the financial institutions across the country that offer CDARS (which is an acronym for Certificate of Deposit Account Registry Service):

[Korn] EC#2: Alan is involved with CDARS, and so it not unusual for him to promote it.

Blinder/Brinker: What are your thoughts on the safety of the FDIC? Alan said there is no question that the government will and must back up the FDIC because of its importance to the financial system. Alan thinks the FDIC is safe and told a caller that a certificate of deposit that is FDIC insured within the protected limits is as safe as a U.S. Treasury.

What do you think of the proposal that the free markets could work this out? Alan said we tried leaving Lehman Brothers to the "free market" on September 15th and it was a catastrophic mistake. The problem is the banks are so interrelated with other institutions that they drag other institutions down with then. Ben Bernanke has used the analogy of your neighbor's house being on fire due to his own fault. Well, even if it is your neighbor's fault, that doesn't meant that your house is not at risk to catching on fire because of it. This is called counter-party risk.

What do you think of breaking up the big banks once things are stabilized? Alan said something has to be done about the "too big to fail option" with banks. If you break them up, that is one solution. Some of that will occur naturally as banks downsize, but there is also the public policy issue that will need to be addressed once this crises is over. You can't be a one dimensional thinker on this issue because when you have capitalism, successful companies will grow bigger again so we will never be 100% rid of the too big to fail problem.

Do you think we should eliminate variable rate mortgages? Alan said he wouldn't go as far as eliminating them. But what is needed is a suitability standard. They are suitable for some people who are financially sophisticated. There are valid instances where variable rate mortgages make a lot of senses. But a lot of people got hooked into them without realizing they weren't appropriate for them.

Alan commented on the money supply. Ben Bernanke has resolved to keep piling up bank reserves to keep the money supply from contracting. So far, the money supply has not contracted and has expanded. There has been some contraction of the credit markets but not the money supply. The reason it takes so much is the banks are hoarding their reserves which in normal times they don't do because they don't make money from that. The excess reserves in the United States banking system have gone from just a few billion to $750 billion. If the Fed did not provide that money, we would have seen a violent contraction of the money supply. We saw that happen in the Great Depression and we don't want that to happen again.

Bob said his own personal view of the economy was that we will see a recovery in 2010 and that 2009 will be a transition year. What are your thoughts? Alan said early 2009 was horrible and we are still living through the tail end of that catastrophic period. However, as Ben Bernanke has said we are starting to see green buds appear. There is some sense now that maybe housing and auto markets are hitting a bottom as well as the consumer. Alan said the worst may be over very soon. The second half of 2009 could show positive growth rather than decline. Alan said this is not set in stone, but if we don¹t have any bad luck than it could work out.

[Korn] EC:
Amen to that. Good interview don't you think?

Honeybee here: You can request a complimentary copy of David Korn's weekly newsletter. And also download a sample of The Retirement Advisor, which David and Kirk Lindstrom co-edit. [LINK]

[Alan Blinder's interview is now available for listening or downloading in the Saturday 3-4pm time slot.]
You have a full seven days after broadcast to download your own FREE copies of Bob Brinker's Moneytalk programs. The programs are archived for at KGO810 radio [LINK]. To download the program to your MP3 player or flash drive, just right click the day and hour that you want and use "Save Link as." KGO Moneytalk Archives [Link]

Dixiegeezer's Arlington picture prompted Bob R. to send these picture.

Bob wrote the following comments about the pictures:
"One, of the Smithsonian, I took from the mezzanine showing the mammoth and capturing the people scurrying around it. What makes it an interesting photo, I think, is the guy to the right of the mammoth, who is one of the only people standing still. He is regarding the mammoth, while others seem to be hurrying by. I did not set out to compose the picture this way......

The other photo is the Marine Memorial near Arlington Cemetery. The memorial and Arlington are very sobering places. More so to anyone with a grasp of the history of this country's overseas conflicts and the sacrifices that were made by men and women in the service."


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