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 Nouriel Roubini is a Professor of Economics at New York University and chairman of Roubini Global Economics, a highly popular economics web site. He is known for his often-prescient economic forecasts, most notably in 2006 of the current credit crisis and housing market collapse. Roubini, whose alarming forecasts have earned him the nickname “Dr. Doom,” has been called on to testify before the US Congress and the Council on Foreign Relations and worked in the Treasury Department under President Clinton. He was recently profiled in Barron’s and the New York Times Magazine.
We interviewed Professor Roubini on September 12, 2008.
In regard to the GSE bailout, you have written that “This bailout plan has mostly lousy features that exacerbate the moral hazard of this government intervention and the overall fiscal costs of such intervention.” Can you elaborate?
The GSE bailout should have wiped out the common and preferred shareholders, as well as the subordinated debt holders. It did not. The way it is structured, the common shareholders, for example, could see a massive gain down the road. A purpose of this bailout should have been to provide market discipline, and without wiping out these shareholders that is not accomplished.
This is going to be very expensive for the government. "This is going to be very expensive for the government." They have put in $300 billion of public money. Given this, the common shareholders should not have gotten a penny. Wiping out these shareholders would have triggered credit default swap (CDS) defaults, but these defaults have been triggered anyway. The government structured GSE bailout was considered a credit event. It doesn’t make a difference; the CDS payments still must be worked out.
The GSE bailout does not resolve the fundamental problem of the pending insolvency of hundreds of banks, which will be the byproduct of homeowners defaulting on their mortgages.
The GSE bailout was botched.
You estimate that the cost of the GSE bailout will be $250-300bn (roughly equal to the cost of the 1980s S&L bailout in current dollars). Can you explain your assumptions behind this calculation?
I have to make certain assumptions, because we don’t have 100% knowledge of the GSE’s assets and liabilities. We know the gap between these assets and liabilities is approximately $300 billion, and the government has committed $100 billion of capital to each institution.
To determine the ultimate cost of the bailout, we must make assumptions about the value of the assets and the ultimate amounts of any writedowns. We have estimated that the assets of the GSEs are worth about 5% less than their face value of $6 trillion, which is how I arrive at a cost of $300 billion.
In their portfolios, the GSEs have approximately $300 billion of subprime and Alt-A loans. A lot of these are going bad. On conforming mortgages, given the downturn in housing, we expect significant default rates. A 5% default rate on the overall portfolio is not unlikely.
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