How Obama Saved the Banks Without a Bank Plan

The country's largest banks appear stable even as Obama's largest bank plan is dead. Treasury Sec. Tim Geithner's Public-Private Investment Plan to price and buy toxic assets from the banks has withered on the vine, and it's enough to make some writers wonder whether the Obama bank plan has failed. But wait, how can you say the big bank plan failed if the biggest banks aren't failing?

Half a year ago, our financial system was in catastrophe, and the debate was over how much money it would take to bail them out, or even take them over. Today, the biggest banks are -- or at least appear to be -- on stable footing, and the debate is over how much TARP money they will be allowed to give back. To be clear, this is a statement of confidence from the banks, not evidence that they will be OK in four or six months. But it is still a remarkable turn of events, one we can credit to the Obama administration's overall strategy of ... what again?

Consider: Geithner's first plan was a flop. PPIP is dead, or hibernating. So what exactly saved the United States' financial system? Ezra Klein elegantly encapsulates the first rule of the bank bailout as: "heads the economy improves, tails the taxpayers bail them out." That is exactly right. But was it a bad rule? In the short term, maybe not. The Libor inter-bank lending rate is falling. Unemployment is slowing. The banks are finding it easier to raise capital. Green shoots galore. What exactly fertilized them?

Perhaps it was simply the guarantee that the United States would not let any bank fail. Not ever. Consider the incredible response to the stress tests, when the US told Bank of America it would need $34 billion to last a deeper downturn. Rather than scare investors away, BofA's results allowed them to raise that capital in about month. The stress tests essentially said to investors: Raise this money and the United States will continue to be there, always. Too big to fail is an indictment of our banking system, but it was also used as the animating philosophy of US banking policy. Hasn't it kind of worked?

Of course the answer is yes and no. From the perspective of Tuesday, June 9, 2009, the federal government's strategy to hold the banks' hands and say everything will be all right seems to have stabilized Wall Street. The good news is that we're on our way back to square one. The bad news is that...wait, we're on our way back to square one! What happened to the much needed reforms that would be forged in the cauldron of the crisis? That will require something more than, as Yglesias puts it, ad hoc "strings attached." It will require real reform. It will, in other words, require a real plan.

Update: Just exchanged some thoughts with an Atlantic Business contributor Charles Davi where he brought up a point that I absolutely should have included: the Federal Reserve's involvement. I've written before about the overwhelming influence of the Fed's programs, including the trillions of dollars of proposed asset purchases which are itemized here. It would be naive to assume that the Obama administration had nothing to do with the Fed's bailout strategy, so perhaps a more accurate statement would be this: It is remarkable, given the level of scrutiny directed toward the Geithner and Obama's public plans, that we find ourselves at a moment where those plans are fading while the banks appear to be stabilized. Certainly this is due partly to the TARP funds, but more broadly it is the result of investors' confidence that the United States would protect the lives of its biggest banks -- a confidence that was surely hardened by the Fed's unprecedented involvement in this crisis.