The right way to use private money to supplement public money when buying toxic waste

So the other day I posted about Ausubel and Cramton's proposal for buying toxic waste, aka mortgage-backed securities and other assets explicitly or implicitly tied to subprime mortgage debt rapidly going bad.

Nathan Higgins, who is working with Ausubel and Crampton (and is working with me on an unrelated project), sent me an email to clarify how private money would enter the auction process and why my suggestion is a bad idea. He writes:
Private capital would enter the market before the dynamic auction began. Interested parties submit demand schedules to the government. The total demand ... equal to government demand + all private buyer demand..... The private buyers thus get the same deal the government gets; no buyer plays a strategic role during the auction.

The problem with holding a second auction (to follow the government purchases) is that the Treasury is not very good at auctioning heterogeneous assets. The thing they are very experienced with is selling homogeneous assets to a set group of qualified bidders. In that auction N is always equal to 16 (I'm pretty sure about the number; might be 17, but I'm darn close) and Treasury holds totally separate auctions for all maturities. So we shouldn't expect that the Treasury will do a good job of putting stuff up for sale and earning a premium for taxpayers. The best way to include private capital is probably to simply include them in the first auction, thereby promising private capital the exact same deal that the government is getting as a monopolist.
Thanks Nathan. I guess I was thinking they could sell MBS one issue at a time, so the good would be homogeneous.


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