This morning we highlighted just the worst policy proposal liberals in Congress are trying to attach to the financial bailout plan. But Sen. Chris Dodd’s (D-CT) draft legislation has some other misguided provisions as well. Heritage’s David John flags those that must be avoided:
- Provide capital to financial institutions in return for equity: As proposed in the Senate draft, contingent shares of either debt or stock would be issued to Treasury at the time a financial institution sold bad assets to the new RTC. If the assets sold for less than what Treasury paid for them, then the shares or debt in the amount of 125 percent of the loss would become the property of the agency. Government ownership of financial institutions should be avoided, and bureaucrats should not have a say in the management of any firm.
- Allowing bankruptcy courts to revise mortgages: It would allow bankruptcy judges to arbitrarily reduce mortgage payments by either reducing the interest rate to the current market level or reducing the amount owed to the current value of the house. Since mortgages are secured by using the house as collateral that could be sold in the event of a default, bankruptcy courts until now have given borrowers the choice of either paying the mortgage contract as written or surrendering the home to the lender. Such a move builds in a greater chance that the mortgage contract will not be paid as agreed. In order to protect their shareholders, financial institutions must price that uncertainty and add it to the cost of a mortgage. As a result, it will be much harder for new or low-income homebuyers to find mortgages, and all homebuyers will find it more expensive to get a mortgage.
- Placing caps on executive compensation: While legislators and others are understandably angry at the financial executives who caused the problem, a pay cap will be counterproductive by driving the most talented executives to companies not affected by the proposed bailout. Placing weakened firms in the hands of lesser talent just increases the chance that the firms will be mismanaged. Pay should be decided by the company, its shareholders, and the executive, not managed by a congressman or a bureaucrat. In addition, every congressional attempt to impose pay caps on executives has failed because the market devised new ways to pay them.