You probably forgot all about the PPIP, Treasury Secretary Tim Geithnerâ€™s Public-Private Investment Plan, which entails getting toxic assets (residential mortgage-backed securities, RMBS) off of the bankâ€™s books and into the hands of private investors. The thing is though, one of the big players in this market is none other than the China Investment Corporation (CIC), a sovereign wealth fund responsible for managing part of China’s foreign exchange reserves. What does that mean for you? Well, it could mean that China now owns your mortgage but what it also implies is that you basically lent them the money to purchase it. It also probably means they bought it on the cheap and definitely at little risk.
Hereâ€™s how the program is designed to work. Letâ€™s say the price for a RMBS security with a $100 par value is bid $50 (50 cents on the dollar). In this case, the private investor puts up $4 and the government supplies the rest; $4 in matching â€œequityâ€ plus $42 in the form of a very low interest, non-recourse loan it makes to the private investor via the F.D.I.C., which has issued government (taxpayer) guaranteed bonds to pay for the loans (a neat little trick Mr. Geithner used in order to get around the sticky problem of raising the money from an angry Congress).
In other words, not only has the private investor has just taken over your mortgage for 4 cents on the dollar, youâ€™ve actually lent him the money to do so!
If after a year it turns out that the true value of the asset is zero, the private investor loses only the original $4 investment (because the loan made to fund the majority of the purchase was non-recourse) while the government loses $46 (the $4 investment plus the $42 loan).
Should the true value of the asset turn out to be $100, the government and the private partner split the $58 thatâ€™s left over after paying back the $42 loan. But what’s really happened is that the private partner has leveraged his $4 investment into $29 while the taxpayer, having risked $46, realizes the same amount.
Whatâ€™s also important is that the CIC, or any private investor, will be responsible for managing the pool of mortgage loans acquired which may entail modifying interest rates and/or reducing loan principals (restructuring), which means that outfits like the CIC will now be the sole arbiters regarding whether someoneâ€™s mortgage will be modified or restructured (i.e. saved).
Now, hereâ€™s why thatâ€™s so dangerous: private investors will likely have little incentive to modify and/or restructure anyoneâ€™s mortgage because those investors will only have to pay 8% of the cost to buy an already deeply- discounted asset, which means it probably will be more profitable to foreclose on a property rather than to modify it and certainly more profitable than restructuring the loan!
Warren Buffett: Slow Growth and the Greenback Effect
In case you missed it, billionare investor Wrren Buffett wrote an opinion piece for the New York Times on Wednesday in which he warned that much like a polluter emiting greenhouse gases, the United States is â€œspewing a potentially damaging substance into our economy â€” greenback emissions.â€
The Oracle of Omaha warned that the Treasury was likely to find it difficult to fund aÂ â€œnet debtâ€ which will rise to about to about 56% of GDP in fiscal 2009, necessitating the need for the governmentâ€™s printing presses to work overtime and eventually causing â€œthe purchasing power of currency to meltâ€ unless Congress checks â€œthe rise in the debt-to-GDP ratio and keeps our growth in obligations in line with our growth in resources.â€
With government expenditures now running 185% of receipts, lowering that ratio â€œwill require extraordinary political will,â€ something which is usually lacking in politicians looking to keep their jobs.
Buffett, widely acknowlegded as one of the worldâ€™s great traders, had this to say back in October:
“People who hold cash equivalents feel comfortable. They shouldnâ€™t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.”