Wednesday, August 12, 2009
Yesterday's report by the Congressional Oversight Panel on the bailouts concludes that banks remain threatened by billions of dollars of bad loans on their balance sheets, and more could fail if the economy worsens, and that - if unemployment rises sharply or the commercial real estate market collapses – the banking system could again crash:
The report will say: The financial system [still remains] vulnerable to the crisis conditions that [the bailout] was meant to fix...The head of the Oversight Panel, Elizabeth Warren, says:
Financial stability remains at risk if the underlying problem of toxic assets remains unresolved.
By and large, the toxic assets that brought us to this point are still on the books of the banks.As Nouriel Roubini writes:
Legacy loan program participation is voluntary and many banks refuse to sell their loans because doing so would crystallize book losses. Even though the government was prepared to prop up prices by offering cheap financing to loan investors with leverage up to 6 times, the prices that banks were demanding have remained far higher than the prices that investors were willing to pay...And as David Corn writes:
Recent FASB fair value accounting changes allow banks not to mark their assets held for sale to market but to use more lenient hold-to-maturity prices...
Moreover, "recent government policies have further reduced the pressure on banks to sell. The Federal Reserve’s stress tests on the 19 biggest bank holding companies concluded that only one — GMAC, the former financing arm of General Motors — needed so much additional capital that it would have to turn to the government for a new cash bailout...
The current rhetoric about the deleveraging process is based on fantasy rather than data. In reality, true deleveraging by households, corporate firms and financial institutions has not really even started as private losses and debts of households, financial institutions and even corporations are being socialized and put on the back of the balance sheet of governments. As a consequence, lending remains impaired while re-leveraging of the public sector leads to an even bigger solvency problem down the line for the sovereign...
This is all about those toxic assets--now euphemistically referred to by the US government as "legacy assets"--that were at the core of the economic meltdown. Though some economic news of late has been not so bad--economic contraction slowing, job losses leveling off, banks passing stress tests--these toxic assets still pollute the nation's financial system and endanger it.If the toxic assets are such a problem, why hasn't the government done anything about them?
On Tuesday, the Congressional Oversight Panel, which was set up to monitor the $700 billion Troubled Assets Relief Program (aka the Big Bank Bailout), put out another of its monthly reports, and this one notes that the Treasury Department has not used its TARP billions to purchase this junk--which includes both lousy commercial and residential mortgages and securities based on lousy mortgages--and that billions of dollars of toxic assets remain on the books, threatening the security of numerous financial institutions.
In other words, whoops.
What's happened is that accounting changes have made it easier for banks to contend with these assets. But this bad stuff hasn't gone anywhere. It's literally been papered over. And it still has the potential to wreak havoc...
In a conference call with a few reporters (myself included) . . . recalling that toxic assets were once the raison d'etre of TARP, [Elizabeth Warren, the Harvard professor heading the Congressional Oversight Panel] added, "Toxic assets posed a very real threat to our economy and have not yet been resolved."
Yes, you've heard about various government efforts to deal with this mess. With much hype, Secretary Timothy Geithner in March unveiled a private-public plan to buy up this financial waste. But the program has hardly taken off, and it has ignored a big chunk of the problem (those "whole loans")...
The Congressional Oversight Panel warned that "troubled assets remain a substantial danger" and that this junk--which cannot be adequately valued--"can again become the trigger for instability." Warren's panel does propose several steps the Treasury Department can take to reduce the risks. But it's frightening that Treasury needs to be prodded by Warren and her colleagues, who characterized troubled assets as "the most serious risk to the American financial system."
It's also frightening that this fundamental issue barely registers a blip on our collective Attention-O-Meter. The panel's report warranted merely a small article on the second page of The New York Times' business section. White House reporters didn't ask press secretary Robert Gibbs about it... But Treasury not taking all necessary steps to avert another financial collapse? That's a yawner. The Obama White House--and all of us--better hope that this panel is worrying needlessly.
Because, the government's entire strategy in dealing with the economic crisis has been to try to artificially prop up the prices of the toxic assets. Everything Summers, Geithner and Bernanke have done is to try to pretend that the toxic assets aren't really that toxic. See this.
The government has, in essence, changed the accounting rules to allow the giant banks to call toxic sludge "organic health food", has itself overpaid for a variety of toxic assets to try to artificially drive up the "demand" for them and to re-start the securitizated asset market, and has done everything else it can think of to put lipstick on the pig and call it a fashion model.
Unfortunately, none of that will restore trust in the financial system.
Because Summers, Geithner and Bernanke cannot force consumers to trust a corrupt system, and because of problems in the commercial real estate market and long-term changes in consumer spending habits, their efforts will ultimately fail.