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Saturday, September 20, 2008

The Bailout: Paulson's Next Acquisition

Before becoming Treasury Secretary, Henry Paulson was head of the investment bank, Goldman Sachs. As such, he was involved in all sorts of mergers, acquisitions, and offers of capitalization of distressed companies. As I have analyze his Wall Street bailout, I can't help but think that he is attempting to maeuver yet another deal much like his days as head of the investment bank giant.

The legislation, a copy of which has been obtained by FOX News, grants Treasury Secretary Henry Paulson broad powers to fund or buy mortgage assets from any U.S.-based financial institution. The legislation limits the secretary's buying power to $700 billion, and states that the Treasury's temporary powers would be suspended within two years.

If the U.S. Treasury were an investment bank, this move would be a very bold attempt to take advantage of a distressed financial asset. In fact, in many ways, this would be exactly the sort of thing that an astute investment banker would be looking to accomplish.

Mortgage debt is depressed. The holders of mortgage debt are desperate to get rid of it as soon as possible. A few weeks ago Merrill Lynch ridded itself of some of these mortgages at 22 cents on the dollar. Unfortunately, this was the exception and most of the street is staying away from these mortgages no matter the price. If you were an investment bank with plenty of cash, you could afford to buy these depressed mortgages and hold onto them until the market turns around and you sell them for obscene profits. Of course, the U.S. Treasury has an unlimited amount of money. If an investor can hold this paper long enough, you can bet that in time it will turn around and make the investor plenty of money.

There's just one problem with all of this. The U.S. Treasury is NOT an investment bank, hedge fund, or any other investor in the business of buying distressed financial vehicles. When the U.S. Treasury acts as an investment bank, the term for that is Socialization. These bad debts have infected the system so badly that all financial institutions are totally paralyzed unable to do anything until it is removed from their books. That's a big problem, no doubt, but an even bigger problem is the federal government's insistence that anytime there is a crisis socialization is the answer. Fannie Mae/Freddie Mac were in trouble so the government nationalized them. AIG was in trouble so the Federal Reserve took over 80% of that company. Now, mortgage debt is in trouble so the Federal Government will buy that debt.

That doesn't work for me. Capitalism is not perfect. There will be times of slowdown and even times of financial upheavel. This won't be the last. If everytime there is financial upheavel, the Federal Government socializes well soon enough, socialism will be the financial system we have.

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