Bailout Bonanza?

It appears that the Paulson-Bernanke juggernaut has prevailed, and Congress will quickly approve the most radical federal market intervention in U.S. history with few or no concessions from the financial institutions that created the mess. Meanwhile, President Bush is playing the shill in this $700 billion con game, telling the public yesterday “I believe, when it’s all said and done…that the taxpayer is going to get a lot of that money back.” Fat chance.

Lurking behind the Big Bailout are two other issues that now deserve close attention: how the plan going to be implemented and who stands to make a killing. The draft legislation floated yesterday by Paulson is remarkably simple: a two-and-a-half page document that authorizes Treasury to buy the securities while raising the federal debt limit. There is no provision for creating a new agency to handle the transactions. In fact, the proposal would allow Treasury to outsource the process.

This seems to create the possibility that the same Wall Street investment banks being bailed out could receive contracts from the federal government to handle the transactions through which toxic mortgage-backed securities are removed from their balance sheets. Presumably, the investment banks would expect to be paid for this brokerage service by receiving a percentage fee on each deal. The cost to the federal government would be in the billions, providing a bonanza for Wall Street on top on the enormous benefits from the bailout itself.

Apart from the matter of brokerage fees, there is the question of the terms of the transactions. The draft legislation is silent on what price the federal government should pay for the tainted securities: the price at which the institution purchased them, the value after the write-downs many institutions have implemented, or the current market value. Treasury has floated the idea of using reverse auctions to get the best price, but it is unclear why institutions would bid the price down if the feds are buying everything in sight. Besides, if investment banks are put in charge of purchasing securities from one another, they will have little incentive to get the best deal for Uncle Sam, thus escalating the cost of the bailout.

It would be nice to think that Paulson & Company will take steps to bar this sort of gross conflict of interest as well as a fee windfall, but don’t count on it. If there are any members of Congress still willing to stand on principle, they should insist that no financial institution getting bailed out be eligible to receive a contract to help implement the plan. If the bailout can’t be stopped, let’s at least prevent an additional bonanza for Wall Street.

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