Obama Jawboning Bankers: Lend!

O Horror! What's gonna happen if they actually start lending?

Obama implores top bankers to increase lending
(Tom Raum, 12/14/09 AP via Yahoo Finance)

"WASHINGTON (AP) -- President Barack Obama implored top bankers Monday to help keep the fragile recovery from faltering by boosting lending to small businesses and getting behind an overhaul of financial regulation. "We rise and fall together," Obama declared.

"In response to the president's burst of populist jawboning, some banks pledged to increase loans and exercise more self-control over outsized compensation. But the full impact of Obama's intervention was hard to gauge: The government is losing leverage as major banks repay bailout loans.

"Obama's lecture to the bankers was also part of a broader election-season Democratic effort to tie sluggish bank lending to continued high joblessness -- and to try to tie the banking industry to Republican efforts against Obama's financial overhaul legislation.

"It's a tough balancing act, given past contributions of big banks to Democratic as well as Republican candidates."

You're not kidding.

"We rise and fall together," Mr. President? Who are "we"? Wall Street and Main Street? Or Bankers and the president?

After having criticized the nation's large banks for causing the financial meltdown last year by years of risky lending and speculation, the president is demanding that the same banks to do the same, for the sake of the economy.

"The meeting came amid growing friction between the president and the banking industry, a day after Obama denounced "fat cat bankers on Wall Street" who enjoy big bonuses but "just don't get it.""

Get what? How can he denounce "fat cat bankers on Wall Street" who bankrolled his campaign? Easy. Because this is a political grand-standing to appeal to American voters who are increasingly disillusioned with his presidency. His own B+ assessment doesn't seem to agree with what Americans are thinking about his performance.

Obama shouldn't push too much on compensation for those "fat cats", when the average pay for federal workers are 76% higher than the average pay for private workers, i.e. Main Street. Scrawny cats on Main Street still can read the news. (See my post from yesterday, about the middle.)

I just wonder if Obama is aware of what will happen if banks take his words too seriously and start lending out of the excess reserves that they hold at the Federal Reserve. $1 trillion of them. The Federal Reserve, to compensate for the drain on the liability side of the balance sheet, would be forced to sell assets at a market price. The assets include agency bonds (current holding $156 billion) that no one else in the world buys but the Fed (and some risk-taking hedge funds, I suppose), and mortgage-backed securities ($854 billion) that no one wants at par. After that, they will have to sell some Treasuries ($777 billion), or do the fire sale of the holdings at Maiden Lane SIVs (65 billion). They could sell gold (the Fed owns 13 million troy ounce, mostly at NY Fed), which they account at $43 per troy ounce. (Treasury Department's gold holdings are separate from the Fed's, but they are combined and the combined amount shows up on the Fed's balance sheet.)

(The amounts of the Fed's holdings are taken from the latest Fed balance sheet, 12/10/09. The mount of gold held by the Fed is from Treasury Department data.)

In short, if the banks actually start lending out of the excess reserves, the Fed will be forced to dump the assets, thereby causing lower prices for those assets in the market. Treasury prices go down, the rates and yields will go up. Foreign creditors will be furious, and U.S. dollar will go down. There's your exit strategy, Chairman Bernanke. You will have no choice but exit, if the banks start draining the excess reserves. You'd better hope you have a very tight control over your member banks.

So my guess is what I already said above: this is just a grand-standing on Obama's part. He demands that the banks lend, and the banks say oh yes Mr. President. But the banks know, and Obama knows, they cannot lend, so they won't. Then Obama gets to blame banks even more loudly as the economy continues to stagnate or contract, appealing to the ignorant (or so he thinks) American voters. It's all those bad bankers' fault!

But where can the new money go in a stagnating economy with all the excesses that caused the bubble and the crash still there? More misallocation of resources won't solve any problem. About the only thing that has improved this year is the stock market.

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