Via Tyler Cowen, Garett Jones has some interesting thoughts about TARP. His interview deserves a more complete response. However, there is one point that you all know I couldn’t resist.

When the House rejected TARP, the stock market fell 7 percent. When Congress eventually passed TARP, the stock market fell 40 percent. I know which of those two numbers I prefer. I don’t claim that the 7 percent was totally caused by the rejection of TARP. I don’t claim that all of the 40 percent was caused by the passage of TARP. But you know, seven versus 40—I’ll pick the smaller number of the two.

So I’ll through up a basic chart which I think reflects what Garett is referring to


I remember these days especially well. Indeed, I can remember exactly where I was standing as I watched the House vote come in on TARP on September 29th, 2008.

In a deep existential sense you can never know exactly what caused what. However, it was pretty clear that the entire 7% drop was associated with the failure of TARP to pass and that indeed it was down limited by the fact that the failure happened late in the day, there was a lot of confusion, and at the end cooler heads realized that there would be a passage.

Here are some quotes from a message board I was on while I watched the vote. You can see that seconds were important. We were all, of course, glued to CSPAN.

First commenter. His original post is time stamped at 9/29/2008 1:38:34 PM

He made several edits as the news came in.

The vote is going to have like a 5 vote margin in the House.

[Edited on September 29, 2008 at 1:39 PM. Reason : 144 to 142 right now]

[Edited on September 29, 2008 at 1:40 PM. Reason : 162-166]

[Edited on September 29, 2008 at 1:44 PM. Reason : OMG, it’s not going to pass]

Next commenter, this was time stamped at 9/29/2008 1:45:35 PM

Didn’t pass. DOW down over 150 points immediately.

Note, this is roughly 90 seconds after we became aware that failure was imminent.

Next commenter time stamped at 9/29/2008 1:49:41 PM

Now it’s down about 700

This is roughly five minutes after we became aware that the original vote would fail.

This is me commenting  a few minutes later, while on the phone at the time. My time stamp is 9/29/2008 2:05:31 PM.

Word is that the bill is still alive . . . that there will be a revote. I think there is buying on this sentiment.

You have to be at least somewhere thankful that there is no short selling on financials today. There is no telling where we would be.

This is my next comment. Time stamped at 9/29/2008 2:08:04 PM

motion to reconisder retracted
Its gone . . . word is its gone

Note how in the space of minutes realizations come in, rumors are created, spread and destroyed. This all happens very, very fast. I think its hard for observers who are not really glued into the market to appreciate the speed or the importance of rumors.

On to the rest of that fateful day.

I am sure most watchers remember that they kept the books open an extra hour, so that a reasonable fraction of the sell orders could be processed. The market would have closed at 4pm, less than 2 hours after the nail was in the coffin on TARP. However, there was just no way to handle that volume of selling 2 hours.

Yet, by late that evening there was a growing sense that the bill would certainly pass. There would have to be a little more arm-twisting but emails were flying suggesting that Wall Street executives were already stepping in to make that happen. The next morning before the market opened I wrote this time stamped at 9/30/2008 9:03:33 AM

I think like all reaction the market moved on changing information and sentiment. When congress voted down the package it became clear that at a minimum congress did not internalize what was going on.

Now I think everyone believes that the package will go through. However, given that enough congressman and especially Republicans were willing to vote against it has to destroy confindence that congress will be able to move if things get worse. Not to mention there is still the slight possibility that something will happen and the bill will be significantly delayed.

Given this timeline I would suggest that ALL of the drop from on the 29th was caused by the failure of TARP and that indeed, as I thought at the time, it was more a shock affect. Even by the evening we were all convinced TARP would pass, but there was a lingering shock that Congress could possibly do something like this.

Lots of events happened after September 30th. The most obvious was the lift of the ban on short selling which was associated with a large drop. Other major events including the refusal of ICESAVE to honor deposits outside the country. If I have more time I can do a timeline on those events as well.

However, my key message is that the market internalizing things very quickly and it was clear from watching the stocks and CSPAN that these two things were happening together.

More importantly, Garett talks about government ownership of the banks. However, that was not how TARP was being sold. At the time the government had promised to buy “toxic” assets.

By the weekend of Oct 11th, there was widespread speculation that the government would indeed move to an equity position. The official announcement was on Oct 14th and that entire period was associated with a rebound from lows.

I don’t claim that this entire rebound was restructuring. But, I remember that there was an effect. Those days are not as burned into my memory as the actual moment TARP went down.

This post is already to long but I want to comment on this point by Garett

The big message of the financial crisis is that you want to become too big to fail. That’s a clear message of the financial crisis. To be a successful bank in America, you want to become too big to fail.

Economists as well as everyone else really misunderstands this point. I remember Greg Mankiw saying a while back, before the crisis happened, that investors think Fannie and Freddie are backed by the government but they are not.

I replied that no, it was Greg who was mistaken. Fannie and Freddie debt was guaranteed by the government because the government was in no position to let Agency debt fail.

The same thing is true in all of finance. Too Big to Fail is not a way of thinking or a policy. Too Big to Fail is a fundamental reality, and people in finance were well aware of this before the 2007.

Again if you don’t get that Too Big to Fail is a fundamental reality then you are missing the finer points of Other People’s Money. One of the things I think I am coming to realize is how deeply folks don’t internalize how Other People’s Money works, what the rules are and what constitutes a credible threat.

When someone has your money the only quasi-serious threat you have is the threat to kill them and even that is not a serious threat if they have enough of your money and you cant recover it without their help.

You are simply fundamentally powerless against debtors. Your only hope is that the situation does not come to a head, because if it does you will lose. If they owe you enough money you have absolutely no chance whatsoever of winning. I can’t say this enough, there is simply no strategy open to you to win against a large enough debtor. You will lose with probability one.

Your only hope is to prevent the situation from coming to a head.