A Conversation with Robert Pozen, author of TOO BIG TO SAVE?

 1.         How would you evaluate the US government’s efforts to rescue the financial system?

The US government has bailed out too many financial institutions without a clear rationale.  The Treasury has actually recapitalized 600 financial institutions, but there can’t be so many institutions that are too big to fail.  For example, the Treasury injected several billions of dollars into American Express, a credit card company.  Although it would be unfortunate if American Express failed, its failure would not wreak havoc throughout the global financial system.  Another credit card company would take over its customers and cards. 

2.         When the US government injected capital into truly troubled banks, did taxpayers obtain majority control of these banks? 

No.  The Treasury bought preferred stock in these banks, with limited voting rights and warrants to buy a small amount of common shares if the banks were rehabilitated.  In effect, taxpayers took most of the downside risk, but stood to gain little of the potential upside.  This is what I call one-way capitalism.  For example, the Treasury bought $45 billion in preferred stock from Bank of America when its total market capitalization was less than $30 billion.  Yet the Treasury received warrants to buy only 6% of the common shares of the Bank if it started to do well. 

3.         What is your view of the government’s efforts to buy toxic assets from banks? 

This is another instance of one-way capitalism.  The Fed is offering non-recourse loans to hedge funds and other private investors to buy toxic assets from banks.  With non-recourse loans, the investors have no obligation to repay if the loans default.  In other words, if the investors use these loans to buy toxic assets that turn out to be worthless, the investors will default on the loans and incur almost no losses.  On the other hand, if these toxic assets turn out to be valuable, the investors will reap large profits after repaying these loans.

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  A Conversation with Robert Pozen