Hank & George (Three Versions)
I didn't write these, they came off MarketWatch forum. People are having fun speculating on what the conversations between Hank Paulson and G.W.Bush must have been like. The first version is very long, the second is short, and the third is painfully short.
Here is a In a "FICTIONAL SCENARIO" about the not-too-distant future, many have warned what might happen if the U.S. Treasury tried to bail out the bonds of a giant corporation, just as it's doing for Freddie and Fannie right now.
In my scenario, a few days after the bailout is announced, the Treasury secretary calls the president of the United States on the phone to bring him up to date with the impact in the financial markets. Here's the dialog that follows:
"It's no good. The benefit of our plan to the stock market is a spit in the ocean. On the other hand, to the government bond market, it's a potential hydrogen bomb. The quality spreads are narrowing β and in the wrong direction."
The president didn't know much about quality spreads. "What are the causes and what are the consequences of changes in quality spreads?" he asked.
"I am referring to the difference in yield between a Treasury bond and a corporate bond. A big corporation [like Fannie or Freddie] always has to pay more than the U.S. Treasury to borrow money. Typically, the difference has been about one full percentage point.
"Then, several months ago, when the full threat of corporate bankruptcies was first apparent, the yield on medium-grade corporate bonds went up by 2 1/4 percent, but the yield on the governments went up only 1/4 percent. In other words, the spread increased by two full percentage points. It was a red-hot flashing signal of trouble. It revealed that confidence in all corporations β no matter how creditworthy β had collapsed. But that was before our rescue package was announced."
"Now the opposite is happening. Corporate bond yields [like Fannie's and Freddie's] are back down sharply, but government bond yields are actually up sharply. The spread between them has narrowed to practically nothing β a very bad sign." The Treasury secretary felt satisfied that he had put forth a very clear and straightforward explanation.
"Well, isn't that what we had said we wanted β to bring up the corporate bond market, to get it back up toward the level of government bonds?"
The secretary shook his head, trying to hold his voice steady so that his feelings of frustration with the president's lack of knowledge of bond markets would not be picked up over the phone. In the past, he tried several times to explain to the president how interest rates and prices moving in opposite directions always meant the same thing, but that spreads, although moving in the same direction, could mean a variety of different things.
How does one make such things simple for a president to understand without sounding condescending? The secretary certainly didn't know how. He spent the next half hour going over the events in the marketplace until finally, after considerable effort, the president developed an image of bond markets that looked similar to the chart below.
"Now I see," the president said finally. "We wanted to bring the corporate bonds up to the level of the government bonds. What's happening is precisely the opposite. The 'governments,' as you call them, are falling down to the level of the 'corporates.' In short, we are not lifting them up; they are dragging us down."
"Yes, Mr. President. We bent over, we bent all the way over, to pull them out of the quicksand. Instead, they pulled us down with them, and now we're sinking in the quicksand too."
The president thought for a moment before he spoke. "The question is, Why? Don't they believe we're serious? Why haven't we restored confidence? At the meeting, it was said that we can create cash, that the law gives us the authority to funnel this cash wherever we please."
"The answer is that we can create cash. But we cannot create credit."
"What's the difference?" the president queried.
"There's a very big difference. To create more cash, all we have to do is speed up the printing presses at the mint β or, actually, pump it in electronically. And when we dish it out, no one is going to turn us down. But to create credit, we have to convince investors and bankers to make loans β and in this environment of falling confidence, I can assure you that this isn't easy. If it were so easy, we could have saved Bethlehem Steel or Enron or Kmart or Global Crossing or WorldCom or any of the other giants that have failed. But we didn't, and for good reason."
The president was getting impatient. "So what's the point?"
"The point is that you can create cash; you can't create confidence."
"It would seem to me that the more money we give 'em, the more confidence they'd have."
"No, no! It's exactly the opposite. The more we spend the government's money recklessly, the less confidence they have and the more they fear our government bonds will go down in value."
"Oh? But why can't we just buy more corporate bonds? That should convince them we mean business!"
"No, it just convinces them we're throwing more good money after bad β their good money after bad."
"But what about the new law?"
"The law gives us the on-paper authority to buy private securities. It does not give us the actual power to create real economic wealth."
"Why didn't we recognize this when we discussed the rescue plan?"
"We did. But you overrode us, and we consented. We hoped that the marketplace might swallow it. We seriously underestimated the sophistication of U.S. and foreign investors β very seriously underestimated."
Still the president sounded perplexed. "You're saying the market is sensitive. You're saying the market is smart. I see that now. But ..."
The secretary's irritability was becoming more apparent. "Let's say I'm a foreign investor and I own U.S. Treasury bonds. This implies that I trust the U.S. government; that I loaned you my money for the purpose of running your government. Now you take my money and pass it on to a third party, a private company. So I say to you, 'What did you go and do that for? If I wanted to loan the money to that company, I would have done so myself β directly β in the first place. But I didn't. I didn't do it because I don't trust the company. I trusted you. But now I can't trust you anymore either. Now you're just one of them.' So the investor stops buying our bonds or, worse, dumps the government bonds he's holding, and then we are in trouble. Then we can't sell our government bonds anymore to pay off the old ones coming due. Then we, the United States government, default."
The president hesitated for a few seconds before responding, but it seemed like hours as the tension built.
The secretary could not believe his ears. The president of the United States had treated the government's default with levity, utter levity. He could no longer control his boiling frustration β and fear. "Do you want to allow the entire market for U.S. government securities to shut down? Do you want to be the one who has to lay off hundreds of thousands of government employees because you can't raise the money to meet the government payroll? Do you want to be the last president of the United States? Do you want to risk a new republic with a new constitution? Do you want to destroy, in one fell swoop ..."
The secretary's voice broke with emotion. Silence reigned.
"[Hank], I appreciate the sincerity of your emotions, but you misunderstood me. What I said, in fact, was 'then WHAT,' indicating to you my surprise and disbelief that our country could ever reach the point you've described so dramatically just now."
Paulson: Mr President, the country is going down the toilet.
Paulson: I said, Mr President, the country is going down the toilet.
Paulson: We have major economic problems.
Bush: Where am I?
Paulson: The White House sir. We have major economic problems to deal with.
Bush: Hank, do I have any pants on?
Paulson: Yes sir.
(Paulson takes out a small vial of crude oil and waves it back and forth under Bush's nose.)
Paulson: There sir. Feel better?
Bush: Yes. That cleared my head. Now, just make sure you take care of the big oil companies and leave me alone. I wanna watch SpongeBob Squarepants.
Paulson: Mr. President, our interventions aren't working, the stock market is still going down.
Bush: Huh? Look, Hank... were in a rough patch here 'cause we misunderestimated them there shorts...we gotta find these shorts an smoke 'em outta ther holes.
Git 'er done Hank!