Jeffrey Sachs Misses the Boat

Writing in the Huffington Post, Jeffrey Sachs says he has a new criticism of the Geithner bank plan:

Insiders can easily game the system. [...] Consider a toxic asset held by Citibank with a face value of $1 million, but with zero probability of any payout and therefore with a zero market value. An outside bidder would not pay anything for such an asset. All of the previous articles consider the case of true outside bidders.

Suppose, however, that Citibank itself sets up a Citibank Public-Private Investment Fund (CPPIF) under the Geithner-Summers plan. The CPPIF will bid the full face value of $1 million for the worthless asset, because it can borrow $850K from the FDIC, and get $75K from the Treasury, to make the purchase! Citibank will only have to put in $75K of the total.

But as far as I can tell, there's nothing new about this argument at all. (Here's Karl Denninger making the same argument way back in the stone age of March 23.) And, more importantly, the situation Sachs describes can't take place under the Treasury rules.


That's because an institution can't set it up its own public-private investment fund to bid on its own assets. An institution can't part of any fund that bids on assets in which the institution has more than a 10% stake. (That might present some risk, but it forestalls the out-and-out fraud that Sachs fears.) The rule is confusing, but it's there in the original white paper on the plan (pdf):

Private Investors may not participate in any [public private investment fund (PPIF)]  that purchases assets from sellers that are affiliates of such investors or that represent 10% or more of the aggregate private capital in the PPIF.