My solution to the financial crisis

Okay, everyone is coming out with solutions, and I do not like most of them. Let me go over a simple solution. We have to fix two things: Freddie and Fannie, and the existing toxic debt. I have a simple solution to both things in one deal.

We create 10 regional banks that are 100% owned by every U.S. citizen. The banks issue 100% of the shares to the U.S. citizens, one per citizen. They do not trade publicly for five years, and when listed after five years, the banks can only do the listing to take out shareholders who want out, not to raise new capital.

We fund the banks by giving them each the ability to issue $200 billion of U.S.-backed debt that is issued at a term of 25 years at 2.5% interest.

The banks then have the limited mandate of buying only any mortgage-backed securities that they can trade at face value for the federally backed debt. If someone thinks their bonds are worth more than the 25 years at 2.5% in trade, then I would not define the debt as toxic, but I expect that lots of of the bad debt, if not all of it, will get traded.

The banks then rehire lots of the people who have been fired and create a clean regional system to deal with the mortgages. They work to refinance homeowners into 30-year fixed rate mortgages with 80/20 ratios, being willing to write off the equity part needed to get the loans to 80/20. If the homeowners in trouble cannot afford a 80% loan on current valuations at 5-6%, I am sorry to say they should not be in the houses, and the banks will work with them to put the houses up for sale in an orderly manner.

We can be fair and say that these banks can never pay senior management more than 50 times the lowest-paid full-time employee.

First problem is then solved, and what we have is 10 new banks that are regional and cannot operate outside of their region that have very nice balance sheets, $200 billion in assets that will yield 5-10%, and $200 billion in debt that will cost 2.5%. They should have $5 billion a year in earnings each, and they should quickly be able to build balance sheets so that they can compete with Freddie and Fannie on standard mortgage terms.

On any new loan, these banks should be federally limited to doing only 80% loan-to-value mortgages. Or for less than 5% of their business, they could provide low-income loans where they do 95% LTV mortgages for first-time home buyers with credit scores above 700. For new loans, they could issue market-rate debt, and it would be federally backed. They would be mandated to issue the mortgages at 1.5% higher than they borrow money at. They also would be limited to only issuing 15- or 30-year bonds that match the maturity of the underlying mortgages.

The U.S. citizens will become shareholders; the banks will not cost the federal government a nickel as they are buying toxic debt cheap with clean debt; and I can assure you that the default rate would have to hit a very high number not to make money on the interest rate swap. Within 10 years everything will be unwound, and frankly the shareholders will make some serious money at the expense of Wall Street.

We then leave Freddie and Fannie around to compete with these companies, but we make a them follow the same rules: 50 times compensation, 1.5% spread, 100% owned by U.S. citizens, only 80/20 mortages or a very limited number of 95% mortgages to first-time buyers with credit scores above 700, only fixed rate products, and only 15-, 20-, and 30-year term loans.

Problem solved.

Benjamin