Global stock markets continue their upward march with strong gains overseas and follow-through buying expected in New York this morning. The trigger for the buying is said to be optimism over Tim Geithner’s plan to support the market for mortgage-backed securities (MBS).

This is the “toxic paper” that is clogging bank balance sheets. Banks can’t sell their MBS portfolios because current market prices are far below what they paid for them, and they can’t mark them to market for the same reason. This means there’s no room left on their balance sheets for creating any new credit. Ergo, credit crunch.

While the Fed is firing its own cannons at the problem [link to feature piece], the Treasury is trying to provide a secondary bid for MBS at something at or near the prices they were issued at. In theory, this would allow banks to sell off their MBS portfolios to other investors and get busy writing new loans.

There’s a big leap of faith there. How do we know that banks aren’t perfectly content to hold on to their MBS assets until maturity? After all, Congress and the FDIC have already let it be known that it’s the policy of the US not to allow anyone to default on her mortgage.

And second, how are you going to induce a private investor to buy a security for (let’s say) 85 cents on the dollar, whereas the current market price is more like 15 or 20 cents? Simple. You have to lend him the money to buy the paper in the first place, and then you have to guarantee that he won’t lose any money.

This is precisely the low-risk proposition that caused investors to buy huge MBS portfolios with leverage in the first place. If it works at all, it will amount to a massive transfer of taxpayer money into the hands of a few well-connected and already-wealthy investors. And it can’t actually make more capital available for new investments because of all the public money that will be tied up guaranteeing the MBS that will be purchased by private investors.

Geithner is being a fool. His plan won’t stabilize the banking system if it fails. But we should hope for it to fail, because if it succeeds it’ll just re-inflate the original housing bubble.