Tomorrow, the subcommittee will release more than 500 documents on Washington Mutual, the $300 billion bank that helped fuel the subprime bubble and then collapsed in the biggest bank failure in U.S. history. It will also hold a hearing with WaMu executives, including Kerry Killinger, the former chairman and chief executive officer. Then, on Friday, the subcommittee — headed by Sen. Carl Levin (D-Mich.) — will release an investigative report, the fruit of 18 months of labor, into how the Main Street bank took on and eventually died due to Wall Street practices.

Details about the report started to emerge today. The company decided in 2003 to move aggressively into subprime lending to bolster earnings, ultimately producing $77 billion in mortgage-backed securities. The company changed pay practices to prize quantity over quality. And it “built a conveyor belt to dump toxic mortgage assets into the financial system like a polluter dumping toxic substances into the river,” Levin told reporters. Expect ugly revelations all week.

All that changed when the financial crisis hit, subprime mortgages tanked, and the government had to step in and bail out Fannie and Freddie last fall. Since then, the government’s efforts to prop up the two agencies has quietly become one of the biggest and most expensive bailouts, with the taxpayer tab expected to exceed $100 billion, CNN Money says.

And now comes the news the government wants to take another run at fixing Fannie and Freddie — by taking toxic mortgages off its books and placing them in a “bad bank” instead, The Washington Post reports.

The Obama administration is considering an overhaul of Fannie Mae and Freddie Mac that would strip the mortgage finance giants of hundreds of billions of dollars in troubled loans and create a new structure to support the home-loan market, government officials said.

The bad debts the firms own would be placed in new government-backed financial institutions — so-called bad banks — that would take responsibility for collecting as much of the outstanding balance as possible. What would be left would be two healthy financial companies with a clean slate.

All this is quite a big deal, The Post explains:

The moves would represent one of the most dramatic reorderings of the badly shattered housing finance system since District-based Fannie Mae was created by Congress to support mortgage lending during the Great Depression. Both Fannie Mae and Freddie Mac, based in McLean, have government charters to buy home loans from banks, which they then repackage and sell to investors. The banks can then use the proceeds to offer more loans to home buyers.

At Clusterstock, however, Joe Weisenthal isn’t impressed, saying this move will only leave Fannie and Freddie open to creating havoc in the housing market once again.

This is a terrible idea.

It’s not that it’s a bailout, as these schemes typically are. That ship is already sailed. We already know we’re going to guarantee every last dollar of their debt.

No, the problem is that we’ll be creating two new, reinvigorated GSE, with AAA balance sheets and government guarantees to match. This means they’ll be able to create havoc in the housing market all over again. Maybe they’ll start modestly, with strict guidelines or whatnot — but then, since so much of the turnaround plan revolves around bad lending practices (document-light lending, high LTV ratios, etc.) they very well may go straight back to their old ways. Certainly, the political pressure will be on them to prop up as much of the market as they can handle.

We’ve already bailed them out. Is it too much to ask that they slink quietly off into the night?

Treasury Department officials told The Post that any proposals are still in the early stages. The basic idea would be to use the “bad bank” for toxic assets, and then create new companies or agencies – the “good banks” – to attract private  investment to support mortgage lending.

Redoing Fannie and Freddie doesn’t seem to be in question; it’s the details that are under debate. Overhauling the two agencies will be huge, and one of the biggest challenges to come out of the housing crisis. So much for obscurity. A very public fight to remake the futures of Fannie and Freddie is on.

Of the opportunities for tomfoolery available, the one that generated the most hand-wringing was the prospect for self-dealing. It was felt that banks might submit a small portfolio of assets for auction, while also signing up to join a bidding partnership. A bank could then bid up the price of its own assets using the government subsidy as support. This would help the bank in two ways. The government subsidy would allow the bank to overpay for assets and still have the opportunity to enjoy a gain on the portfolio, and the high price established for the loans would extend to all similar assets on the bank’s balance sheet, making it look much stronger financially than it actually is.

Yesterday, The Wall Street Journal reported that banks were basically asking for the explicit ability to do this, as a condition for them to participate in the program at all. This led The New Republic’s Noam Scheiber to ask whether PPIP was actually necessary at all. According to a story in The Journal today, a growing number of people in Washington are concluding that no, it really isn’t.

I am very much inclined to agree. The world has changed quite a bit since the plan was introduced. Markets have risen, making it easier for banks to raise private capital, and the results of the stress test seem to have been broadly accepted. In this climate, many of the healthier banks seem to be able to recapitalize themselves privately. Devoting TARP resources to such banks would be a poor use of increasingly scarce funds — essentially, government handouts to firms that no longer need the help.

Instead, it seems like a better idea to hold those funds in reserve, to be used if the more troubled banks, like Bank of America or Citigroup, cannot find their way out of their messes without additional support. While $100 billion would not be sufficient to shore up the banking system as a whole without a lot of FDIC-facilitated leverage, $100 billion is enough to stabilize one or two large banks. Having come this far in improving faith in the banking system and bolstering confidence in the leadership at the Treasury department, it seems unnecessarily risky to try and move forward with the opaque and uncertain PPIP auctions. Time to consign that particular policy to the scrap heap.

Dean Baker, co-director of the Center for Economic and Policy Research, cautioned that we should “have no illusions,” that the Geithner plan is anything more than “a bailout for banks.” The simple answer to whether the plan will make life better at the bottom, he said, is no.

Baker’s comments are especially interesting in light of this development, via Naked Capitalism. It cites story from The New York Post reporting that Citigroup and Bank of America are using TARP money not to lend, but to buy up mortgage-backed assets in the secondary market, with the goal of gaming the new Geithner plan.

From Naked Capitalism:

The public has spent enough money on both banks so that in an economic sense, they ought to have been nationalized. Yet for reasons that are largely ideological and cosmetic (the banks’ debt would need to be consolidated were they owned 100% by Uncle Sam), they remain private. So not only are they seeking to extract far more than was intended even with the already generous subsidies embodied in this program, but this activity is also speculating with taxpayer money.

This sort of thing was predicted here and elsewhere. Welcome to yet more looting.

Here’s more, from The Post:

As Treasury Secretary Tim Geithner orchestrated a plan to help the nation’s largest banks purge themselves of toxic mortgage assets, Citigroup and Bank of America have been aggressively scooping up those same securities in the secondary market, sources told The Post…

But the banks’ purchase of so-called AAA-rated mortgage-backed securities, including some that use alt-A and option ARM as collateral, is raising eyebrows among even the most seasoned traders. Alt-A and option ARM loans have widely been seen as the next mortgage type to see increases in defaults.

One Wall Street trader told The Post that what’s been most puzzling about the purchases is how aggressive both banks have been in their buying, sometimes paying higher prices than competing bidders are willing to pay.

Well. So we all pay to help out banks, and this is the thanks we get. In the meantime, we pay no attention to the abandonment of some of America’s cities. I know the Obama administration doesn’t want to nationalize the banking system, but if this sort of thing keeps up, it may have no choice.

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However, missing from the larger debate is the reality that a toxic asset — essentially, a piece of paper — wasn’t created out of thin air. This crisis started because of housing, and while that toxic asset may have been sliced and diced and sold around the globe — somewhere there’s still a house, with a mortgage, and maybe a family in distress, at the root of it.

Those foreclosed houses are driving down property values, creating neighborhood blight, and are piling up around the country. If you’ve got to live in a distressed neighborhood, a tent city, or a shanty town, what does the Geithner plan mean to you? I don’t know that answer, so I checked around with some of the housing experts I regularly talk to. Many didn’t reply right away, as they digested the Geithner plan, and some are still thinking about it.

But here’s Alan Mallach, a senior fellow at the National Housing Institute and the Brookings Institution. Mallach is the one who pointed out to TWI that in the Treasury Department’s view, they are dealing with paper, not people’s lives or neighborhoods. That holds true for Geither’s plan as well, Mallach wrote in an email. I had asked him whether Geithner’s plan makes much difference to people at the bottom.

From Mallach:

As far as I can tell, unless I am missing something, the short answer is no, period. Some investors may be better than the banks, but some may be worse – also, if they are buying bank shares in mortgage-backed securities, rather than whole loans or 100% of the security, the investor will have no ability to modify the servicer contract already in place, or to influence the outcome – in the absence of a federal cudgel.

Don’t expect Geithner to take any questions about this today. When the stock market reacted well to the toxic asset idea, Geithner’s own stock rose. It’s also  true that the Treasury Department and the Obama administration also have unveiled a housing rescue plan – but it doesn’t directly address bank-owned REOs or tackle the problem of vacant properties piling up.

The fact that housing is at the root of this crisis seems to be getting lost in the headlines, in the politics, and in the details of Geithner’s latest moves.

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TWI is on Twitter. Follow us here.

But then you find out that even in a year when people saw their retirement and college savings accounts decimated, top hedge fund managers raked in the big bucks, according to The New York Times.

As major markets and economies careened downward last year, 25 top managers reaped a total of $11.6 billion in pay by trading above the pain in the markets, according to an annual ranking of top hedge fund earners by Institutional Investor’s Alpha magazine, which comes out Wednesday.

James H. Simons, a former math professor who has made billions year after year for the hedge fund Renaissance Technologies, earned $2.5 billion running computer-driven trading strategies. John A. Paulson, who rode to riches by betting against the housing market, came in second with reported gains of $2 billion. And George Soros, also a perennial name on the rich list of secretive moneymakers, pulled in $1.1 billion.

The thing is, we need these same hedge funds to buy up those toxic assets from banks. So it might not be a great idea to start picking on them, even though Treasury Secretary Timothy Geithner wants to regulate them and tax their profits. From The Times:

Even as the spotlight intensifies, these hedge fund managers and others who made it through last year with cash on hand are the sort of investors the federal government hopes will step in and buy troubled assets from banks. The richest managers are also in the best position to take advantage of the distressed environment to build their wealth.

“The guys who own the future are the guys like John Paulson and the others on the Alpha list,” said Keith R. McCullough, the chief executive of Research Edge, a firm in New Haven that provides trading analysis for hedge funds. “Ironically enough, we’re going to go beg for capital from the very people we’ve been trying to vilify.”

More evidence of why populist rage exists. And how, in this increasingly complicated crisis, it can be difficult to decide where to direct it.

When Geithner didn’t immediately jump on the idea, Sherman jumped on him.

“You won’t commit to telling the American people how many folks at Goldman, Sachs or AIG are going to make a million dollars this year?” Sherman asks Geithner.

Geithner, slightly rattled, responded that he’ll “think carefully” about the suggestion.

Watch:

Let me be as blunt as I’ve been in a awhile in this space: we need the RTC. We don’t need to clean up a few bad assets here; we need to clean up likely thousands of banks and financial institutions that made bets tied to mortgages that they never thought they’d lose on. We need to restore faith in our banking system, no different than we need to restore faith in our nation’s mortgage markets.

We have the model. The only question that remains is this: will we use it?

The RTC was created in the wake of the savings and loan scandal of the late 1980s. It sold off the assets it was stuck with from failed S&L’s, and was a success in doing so. Here’s the difference between the RTC and Geithner’s plan (details here), in which the government will subsidize to investors to buy up toxic assets from banks:

This plan… isn’t the RTC — it’s not even close. The RTC pioneered public-private equity partnerships in the liquidiation of real estate, yes. But don’t be fooled by the partnerships that appear likely to be unveiled here; the RTC existed to sell assets of already-siezed financial institutions that didn’t have enough assets to cover their debts — not to see investors put up 3 percent equity as part of a strategy that will see the government buy and hold “assets” to maturity.

I’ve never heard a coherent explanation from the administration on why no one is pushing to use an idea that has already been proven to work. We can probably expect the RTC idea to gain more traction, as criticism of the Geithner plan rolls in.

The champagne bottle corks were popping as Treasury Sec. Henry Paulson announced his trillion-dollar bailout for the banks, buying up their toxic mortgages. To a skeptic, Paulson’s proposal looks like another of those shell games that Wall Street has honed to a fine art. Wall Street has always made money by slicing, dicing and recombining risk. This “cure” is another one of these rearrangements: somehow, by stripping out the bad assets from the banks and paying fair market value for them, the value of the banks will soar.
There is, however, an alternative explanation for Wall Street’s celebration: the banks realized that they were about to get a free ride at taxpayers’ expense. No private firm was willing to buy these toxic mortgages at what the seller thought was a reasonable price; they finally had found a sucker who would take them off their hands–called the American taxpayer.

Just a reminder of how Wall Street views a proposed bailout that has left many Americans frustrated and angry.