Just Do It? The Soros Plan To Save the World

It has become apparent over the past few weeks why Hank Paulson acquired the nickname "the Hammer". Unfortunately for us his nickname was the not "the Listerner". Paulson might be tone deaf at times, but I also have to question his acumen as a banker. Perhaps, as some have suggested, he has an aversion to directing capital into banks. And he might have been able to avoid just such a thing if he would have moved faster to quell the crisis.

But regulators have been sending mixed and confusing signals to the marketplace for months now. Perhaps they should have listened to Mohamed El-Erian, who recognized that previous crises did not end until recapitalization efforts were completed...

The equity holder wanted to buy emerging markets after they recapitalized in the late 1990’s, U.S. corporates after after they recapitalized in 2002 and 2003 on the back of Enron, Worldcom, etc.

The missteps of regulators have been well chronicled elsewhere; the TARP being the latest debacle. But Warren Buffett's investment into Goldman Sachs has finally given them a blueprint that Paulson appears to be copying, although I am mystified why it has taken this long. Forget about buying lousy assets, that is the GSE's fate now, and banks should get injections of preferred that will allow them to shore up their balance sheets, and perhaps a little relief on reserve requirements (multiplier effect) and perhaps one day even begin lending again and doing the thing banks do.

George Soros has a plan, and at this point I am on board. Will Hank listen to people who are not quite so sleep deprived as him?

This is how Tarp ought to work. The Treasury secretary should begin by asking the banking supervisors to produce an estimate for each bank, how much additional capital they would need to meet the statutory requirement of 8 per cent. The supervisors are familiar with the banks and are aggressively examining and gathering information. They would be able to come up with an estimate in short order provided they are given clear instructions on what assumptions to use. The estimates would be reasonably reliable for the smaller, simpler institutions, but the likes of Citibank and Goldman Sachs would require some guesswork.

Managements of solvent banks would then have the option of raising additional capital themselves or turning to Tarp, which would state the terms on which it is willing to underwrite a new issue of convertible preferred shares. (Convertibles are better than warrants because the banks should not need additional capital infusions later.) The preferred shares would carry a low coupon, say 5 per cent, so as not to impair banks’ profitability. The new issues would dilute existing shareholders but they would be given preferential rights to subscribe on the same terms as Tarp and if they were willing and able to put up additional capital they would not be diluted. The rights would be transferable and if the terms were set right, other investors would take them up.

Using this approach, $700bn should be more than sufficient to recapitalise the entire banking system and funds would be available to buy and hold to maturity mortgage related securities. FT

You might not agree with the theory of reflexivity, or George’s politics, but you might want to go the to FT and read about his proposal, assuming you are one of the last people still standing. Soros was on Fareed Zakaria’s GPS today on CNN as well, I will put up the video when it becomes available, but you can read the full transcript here.

I would assume these “government injections” could largely be paid off in the future, taking the government out of the bank’s capital structure. A silent partner, so to speak, collecting 5% or so, until we get the blood flowing.

The events have overtaken my ability to synthesize them, but for now this seems as good as any plan I have heard. Soros tackles most, if not all, of the pressing issues. Investors should respond positively once they realize the government won’t confiscate their capital if they pony up the dough.

ZAKARIA: Do you think not bailing out Lehman was a mistake?

SOROS: Yes. That’s what actually kind of unleashed the current phase of meltdown.

And unfortunately, the authorities have lost control of the situation. And that’s why the markets are behaving this way.

ZAKARIA: But now, aren’t they - Paulson has announced that they’ll recapitalize the banks and ...

SOROS: No, they haven’t. He has not announced. And it’s very important how it’s done. I think it could be done, this $700 billion could work. Although you also have to do something to stabilize the housing market.

ZAKARIA: Right. But first let’s talk about the recapitalization.

What do you want that’s different from what he said this week?

SOROS: It needs to be done properly. And in this way, I think he could certainly - I would be, for one, would be very interested in buying into some banks at distress price, and others would, too. So actually, you could mobilize private capital. You would then replenish the banks.

Then you would say, for the time being, we lift the minimum reserve requirements. You don’t need to have eight percent; you only need to have six percent. So you can increase your balance sheet, then the banks would start competing for loans. It would turn everything around.

Partial Clip from Soros today..

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What will the plan look like? Paulson ain’t saying, maybe he will copy the European plan. Upstaged by a Brit...its very unGoldman like.

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How to capitalise the banks and save finance
Financial Times

Soros Transcript
Fareed Zacharia GPS
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