"Certainly a government guarantee of principal--with no guarantee fees, insurance premiums, or interest income to the guarantor, like those mean GSE and FHA alternatives require--would take care of the capital problem."
But at what cost? Transferring the losses to the government doesn't solve anything. The government will have to print money, which will lead to inflation, which will lead to higher dollar-denominated interest rates, which will stifle growth.
I don't think this is the solution the author purports it to be.
Statement of The Honorable James B. Lockhart III, Director Office of Federal Housing Enterprise Oversight On Reforming the Regulation of the Government Sponsored Enterprises
The same costs that unfettered moral hazard always imposes. What else?
I simply brought up that horrible op-ed because this is starting to look like a classic rope-a-dope: mortgage losses are getting to the point where FASB really has to come to grips with off-balance sheet financing rules. So use those same losses to gin up support for a full-bore government bailout of bank balance sheets. Then all the "GAAP is unfair to investors!" crowd's gripes about SPE accounting can be turned into an excuse to get the government to subsidize those very balance sheets this stuff is returning to.
How does the US government come up with the additional 5 trillion it would need? Also do the banks still get to make the profit while the taxpayers take the risk. Sounds like we are taking money from our left pocket and putting it in our right pocket. Best answer is let the chips fall where they may. Let the banks remain walking dead and let new banks come in and replace them. We need some frog marches here so the taxpayers get something out of the deal.
If the government would 'repair' my capital, it would be a great benefit to me, too. They could do that by putting large amounts of it in a paper bag and leaving it on my doorstep. I see no problems whatsoever with this plan.
Howard P. Milstein is the chairman and chief executive of New York Private Bank and Trust, which owns a significant share of stock in The New York Times Company.
So I guess any questions about the editorial integrity of the Gray Lady of Times Square have now been answered. And yes, I was fortunate enough to miss this piece yesterday -- I suppose my vision was blurred by the report on Wachovia's complicity in telemarketing fraud: Papers Show Wachovia Knew of Thefts - NY Times
Until the banks rebuild their capital, they will not have the wherewithal to lend money and support economic growth. If banks of all sizes could regain their capital immediately and easily, it would be a tremendous benefit to the American economy.
Smart...
The government would guarantee the principal of the mortgages for 15 years. And in exchange the banks would agree to leave their teaser interest rates on those loans in effect for the entire 15 years.
Ooohhh, stupid, you loose...
How 'bout the Federal Government get some of that sweet preferred action that the sovereign wealth funds are getting? Instead of free money the taxpayers would be getting 11% for their risk.
If banks were happy with money at that rate from the UAE and China they should be happy with it at the same rate from the US taxpayer.
And this way, the banks that didn't do any stupid stuff and don't need additional capital aren't penalized.
Otherwise we're creating an environment where there is no advantage to being conservative a conservative bank.
Thanks for putting that NYT Op-Ed piece up, Tanta. I also liked the part where he says effectively, "I'm a banker, but I'm not making this proposal in self-interest. No, unless the government buys my bad loans, I won't be able to lend anything to companies and keep the economy going."
Maybe instead of the government buying out his bad loans, so he can lend, it should just start making the loans directly? It can't do a worse job than the banks have done...
They finally found a way to make sure none of the guilty players lose any money? And they get to put the taxpayer on the hook?
It's about time, I was worried the government was really serious about moral hazard and was going to let the markets punish the greedy, corrupt and ignorant in the monied class. This seems right, harsh consequences are usually be reserved for those with no poltical clout.
This makes no sense - it's not as though FASB makes the rules on what a corporation can do - it only makes the rules on how what a corporation does is reported (granted, there are regulations that depend on how things are reported). Do they have reason to believe that QSPEs as structured are not bankruptcy-remote? The stated reasons make no sense since they don't have the authority to allow or disallow those structures.
So,Howard P. Milstein is the chairman and chief executive of New York Private Bank and Trust says: This would instantly give the lending banks new capital. As these mortgages would be guaranteed by the Treasury, they would suddenly be assessed, on bank balance sheets, at their original value and a significant amount of the banks lost capital would be restored.
and no doubt, subprime mortgages would instantly stop defaulting!
I read "Empire of Debt" recently. This sort of insanity fits in well with Bill Bonner's description of this Empire pathology. People part of the Empire( of which debt is but a symptom) HAVE to talk like this during the decline phase. One should pity them really; or laugh at them like BB does.
Unfortunately it only pushes my systolic pressure up ! I need to take lessons from that TM guru but he's dead now.
"Certainly a government guarantee of principal--with no guarantee fees, insurance premiums, or interest income to the guarantor, like those mean GSE and FHA alternatives require--would take care of the capital problem."
It would be one of the most economically unjust events in American history.
Everyone that responsibly continued to rent in 2006-2007 because they understood they could not afford the house prices would then be net-payers thru taxes to those individuals that were speculating or irresponsible. That's more than only a moral hazard. It's profoundly unjust.
How does the US government come up with the additional 5 trillion it would need?
The banks would only need about 400B in capital to offset losses and compensate for the QSPEs they have to roll onto the books.
Without that 400B you'll see about 2T reduction in total bank credit (money). There is some fudge because banks were over-capitalized to begin with and Basel II will allow banks to operate with less capital.
Even without the 400B there will still be plenty of available credit for the real economy. Banks will need to manage their balance sheet more closely and clamp down on credit cards and helocs where the banks capital may be committed but it generates no profit while it isn't.
M-F, we should dwell less on who deserves punishment and more on determining what works.
Howard Milstein's proposal wouldn't work. That's a better argument than trying to identify who deserves punishment.
If we're going to set out to punish people, mobs will end up carrying torches to the doorsteps of people who sold their houses at the top of the market to people who financed their purchases with exploding ARMs. Didn't those sellers benefit more than anyone? Why not go after them?
Milstein says the federal government should subsidize the lenders. Why not cut out the middleman and have the government send checks to these troubled borrowers? Let's say Milstein's proposal would amount to a $50,000 subsidy for each borrower who gets a 15-year freeze on the teaser rate. Wouldn't it be better to simply mail $50,000 checks to those qualifying borrowers?
I've long been of the opinion that the off-balance sheet financing arrangements are bad policy; FASB is way behind the curve in reining in what I view to be chicanery.
On the NYT bit: Can we sic Conjure Bag on the tiny, shriveled balls of Howard Milstein? I'm glad I cancelled my subscription (Bill Kristol was the final straw).
Underwater homeowners will continue to walk away and at an increasing rate. Who wants a teaser freezer rate when you have the ability to absolve yourself of six figure losses and then lock in a low fixed rate on a nicer and less expensive home? Or even rent at a much cheaper monthly cost.
As for Fico worries, the laws of supply and demand will bury that myth too. At the right interest rate and house prices, new hard money lenders will enter the market and co-sign loans with all manner of collateral considered. FASB, the fed, Bush, Clinton - none of them can repeal the laws of economic gravity.
Housing prices will fall until they are in line with incomes. NO IFS ANDS OR BUTS.
Come on all. You know this to be true. The slow nature of the process is not a reason for on and off again doubt about the eventual outcome.
Queequeg -- It's interesting to imagine somehow accelerating the price-reset of housing, as that would at least cause new building to increase. It would be quite a dislocation for many parties I imagine.
At least I'd strongly advocate against trying to prop up house prices, as many politicians consciously or uncounsciously would like to do, since we'd be like Japan then.
Back in the good old days, once all the stockholders' equity has been lost, the banks' losses came out of the depositors' accounts. But when you let that happen, you end up in a deflationary spiral -- economic gridlock -- and it will be years before the wreckage is sufficiently cleared away for growth to resume.
I would hope that the American voters would literally march on DC before this happens. Who is this joker anyway?
Tanta has accumulated a lot of awful mortgage ideas lately, but this is clearly the winner.
Of course, the clear logical corollary is that we should never allow any bank to take a principal loss on a loan, because it costs us too much. I'm sure this axiom will usher in a new era of widespread prosperity that will last six or even seven months.
Queequeg - I reluctantly will support a bailout that works. But any bailout which returns 90 or 100 cents on the dollar to the investors is a bailout of investors. Like the HOLC in the 1930s, if the government is going to bailout the industry, it needs some major cram down action which pays the investors more like 50 cents on the dollar.
If Banks don't have capital reserves to support new lending, perhaps the government can give them capital for bank stock, or make a big deposit. But lets not just bailout all bad decisions made so far, and hope things go more smoothly in the future with no punishment and no regulatory reform... that will just lead to a bigger mess down the road.
Wow, just wow. I seriously can't believe that people think the government is here to bail them out every time they have a loss. This is getting ridiculous. The government is not here to subsidize your losses while you reap the sole gain. How the hell could this even be considered? We take ALL the risk while they get all the interest?! WTF.
First, I do understand credit contraction and deflationary spiral (Great Depression, Japan, etc).
At present, what is happening is Banks are simply becoming partly owned by new owners often overseas -- using petro-dollars for example.
This is just free market action, and far less scary than some alternatives.
But looking further along that line -- do we really need to be afraid of deep house price re-sets and then having foriegn banks here in the US for instance?
Why should we worry much about that?
What's wrong with a median price of $150K and new Banks or new Bank owners?
The bank capital no lending mumbo jumbo is a farce. At a market based, risk adjusted rate, plenty of capital is available. Japan and China alone have over 2 TRILLION in foreign reserves.
Just yesterday, Warren Buffet commented that money is still available and is still cheap.
This entire argument over bank capital is intellectually dishonest. Nothing but a smokescreen for a bailout.
"The banks would only need about 400B in capital to offset losses and compensate for the QSPEs they have to roll onto the books.
Without that 400B you'll see about 2T reduction in total bank credit (money)."
Interesting comment, Kicker...so if 400 billion is worth 2T to banks, they ought to be willing to pay, maybe, 600B for the 400B and leave a nice profit for the Federal government, right?
That proposal is absolutely outrageous. It's like having Citibank, BoA, and CFC betting it all on a G-dd-mn racing form, and US taxpayers backing any and all losses. There is absolutely no justification to nationalize the banks' losses without nationalizing the banks themselves. Talk about class warfare and redistributing wealth! You can bet the banks will try to drag this out until after the elections so they can get the Democrats to pull off this chicanery and take the political heat that would naturally arise from it. What a crock our national institutions have become.
No bailout is acceptable. If these companies need money, then they should sell stock and dilute their existing shareholders. If they can't sell stock, then let the US government buy huge stakes at deeply discounted prices. Also, any bailout at this point would also involve bailing out the foreign governments that bought stakes in these companies.
Tanta,
Does that 15 year span let us know how long the depression will last unless the losses are socialized? Is this what the smart people are thinking?
Myr - what about if the government somehow bailed out this mess, made sure bond holders and banks suffered financially and also jailed the top 1000 to 5000 people involved in the mess. And stripped them of all their wealth too. I could live with that outcome...it would take care of the moral hazard problem.
Once again, please tell those who keep going on about the welfare problem in this country to shut up. Welfare to the poor is dwarfed by welfare to the corporations.
To me the simple economics are more important than the moral hazard issue.
The U.S. is already $10,000,000,000,000 in debt that it will never repay and could have as much as $45,000,000,000,000 in unfunded liabilities that can only be addressed by massive inflation.
There is no scenario that makes adoption of additional trillions in losses acceptable.
Tanta has accumulated a lot of awful mortgage ideas lately, but this is clearly the winner.
So far anyway.
In a race without a finish line you'll never see me declare a 'winner', only a 'current leader'... If this situation continues I fully expect somebody else's proposal to pass it, sprinting into the lead in arm pumping stupidious glory. It could happen again and again.
Therefore both the assets and the corresponding liabilities would be reflected on the issuer's balance sheet, with the (presumed) effect of increasing the issuer's capital requirements as well as the cost of financing (investors would have to be compensated for the loss of the "bankruptcy remote" vehicle structure).
Despite the obvious differences, this road always leads me back to 1990s Japan as the operative model for what happens.
zackattack | 02.07.08 - 12:15 pm | #
Except we aren't Japan. They saved, they made stuff, they exported all through the worst of their malaise. We don't do much of any of that now - how can we expect as 'good' of an outcome as Japan?
The Japan analogy drives me crazy - its a terrible comparison. We should be so lucky to be 'Japan'.
Except we aren't Japan. They saved, they made stuff, they exported all through the worst of their malaise. We don't do much of any of that now - how can we expect as 'good' of an outcome as Japan?
Your right, the Japanese had savings to cushion the blow to consumption. The US does not, the deflation will be much worse.
Huge equity bubble (check), huge real estate bubble (check), lots of dodgy loans on banks balance sheets (check), demographic challenges to consumption (check).
All the other cards have been played and the only one still with cards face down is the Federal Reserve and Congress. Depending what cards they turn over, we either get a long period of deflation (bottom in 2015) or stagflation.
If the govt guarantees the principal, that will only encourage more people to default. Why keep paying any rate - teaser or not - on a principal that represents a ridiculous overvaluation of the property? It will encourage banks to let people default by assuring that they will receive the entire principal, rather than some fraction, which is what usually happens with foreclosure. It will encourage future risky behavior.
But most of all, and this is what really irks me, it will transfer massive losses from the idiots who should be suffering them to the government - and therefore ultimately to the taxpaying public, meaning that people who acted responsibly (e.g. me) will end up paying for other people's recklessness.
Whoever is providing the debt financing to these on-balance-sheet securitizations.
Okay, but I can't see how "depositors" would have believed that these off-balance-sheet vehicles were less risky then depositing funds directly in the banks themselves. I'd have a hard time believing that it's still be the case.
Unless we are talking about corporate off-balance-sheet vehicles. Then in that case I could understand that an investor may be less likely to lend to somebody like AHM directly. But, in that case there isn't any capital requirements.
....The U.S. is already $10,000,000,000,000 in debt that it will never repay and could have as much as $45,000,000,000,000 in unfunded liabilities that can only be addressed by massive inflation.
There is no scenario that makes adoption of additional trillions in losses acceptable.
Unfortunately, that gigantic debt makes proposals like this MORE likely, IMO - what's another trillion here or there?
The US does not, the deflation will be much worse.
[...]
All the other cards have been played and the only one still with cards face down is the Federal Reserve and Congress. Depending what cards they turn over, we either get a long period of deflation (bottom in 2015) or stagflation.
I'd be happy to just have stagflation about now - its the best we can hope for IMHO.. and I lived through the last one and know it is no picnic.
The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned. And because 'stimulus' isn't a clearly understood and transparent process we could see a couple years of apparent 'deflation' before the inflationary efforts & fiat creation overwhelm the system - just about the time all those social security checks start going out in earnest (for example).
I've said all along - the biggest mistake is to confuse immediate inflationary & deflationary pressures with eventual inflation & deflation. That is what makes the damned thing so unstable... you can have one (say a lot of visible deflationary pressure) yet end up with the other (inflation) depending on the scale & scope of the 'response'. It is classic 'signal theory' put into economic terms.
Unfortunately, that gigantic debt makes proposals like this MORE likely, IMO - what's another trillion here or there?
blueridge | 02.07.08 - 1:03 pm | #
Exactly - what's a little more piss in a great big ocean?
I believe when the SPEs maintain/extend teaser rates for the life of the mortgage there is a "Permanent Impairment of Value" according to GAAP. These loans/securities will then have to be written down to market (reducing the rate from say 7% to 5% will be a 30% writedown). The beat goes on.
dryfly - "The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned. And because 'stimulus' isn't a clearly understood and transparent process we could see a couple years of apparent 'deflation' before the inflationary efforts & fiat creation overwhelm the system ..."
Perhaps we should be grateful then for all the partisan gridlock going on in the Senate over said stimulus. Longer the better IMHO. If it only ends up being simply delayed and not DOA, it could end up being too much too late and end up causing the overshoot you're talking about dryfly.
The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned.
The inflation/deflation debate seems to have a generational divide. The boomers came of age in a deflationary environment and can't imagine a world without it. Most of the boomers seem heavily invested to counter inflation (leveraged up, high growth, metals).
GenX came of age in a deflationary environment. Most of my tech peers seem invested for deflation (low leverage, high savings).
Same bias flip between the boomers and their parents (who grew up in the depression and were mostly long bonds in the 70's).
Personally, I've got a deflation bias (GenX) but I keep a sharp eye on the Fed. If I see base money increasing sharply I'll move into cyclicals (oil, metals, commodities). Increase it higher and I'll move overseas. Increase it higher still and I'll borrow money and dump it into gold.
But, even with the Fed's rate cuts the increase in base money is slowing. Look at the YOY change in the base since 1918:
I didn't hear anything that said "sour-grapes" to me. Spin, I guess.
Seems to me that the voters are looking for somebody who can lay out a "vision" for America and is willing to stay on message. That didn't bode well for Romney and doesn't bode well for Clinton.
I'm guessing we're going to see a Mcain/Obama race next year.
The original intent of SPE/VIE/QVIE was to isolate either a risky or short-term venture that might not be aligned with the parent company's business. Since it wouldn't be long-lived, it might muck up the income statement for a year or two and leave everyone guessing why those years were so different.
I think they should have just had added some columns to the Income Statements and separated out the temporary activities there. Then, you could look at one column for the main business, and others for various entities. The total of everything would be on the left, closest to the descriptions.
I'd bet the ink wasn't dry on whatever pronouncement permitted SPE's before someone figured out how to use them to obfuscate reality.
BTW, if anyone would like some insight into how confounded (as opposed to truly complex) accounting regs are in the US, click on Tanta's link for QSPE's at the top of the article and look at the bottom of the page at all the various levels of FASB rulings that apply to the same topic.
Some of the regs contradict one another and accountants are left to debate which one applies in a particular case.
Perhaps we should be grateful then for all the partisan gridlock going on in the Senate over said stimulus. Longer the better IMHO. - Andrew
Amen.
Sorry, should have said:
The boomers came of age in an inflationary environment...
Kicker | 02.07.08 - 1:35 pm | # - Kicker
Again - you make the erroneous conclusion a 'deflationary environment' will ultimately result in deflation... like there was no result from 'policy response'.
And the view is NOT generational - my father was a depression kid - saw a temporary period of deflation completely wiped out by stimulus yet he still cautioned over and over about the risks of inflation in a fiat system. Deflation doesn't stand a chance against fiat.
If anything the the argument breaks down into camps talking their book - a handful of savers all want deflation & see it as 'inevitable'. Spend thrifts don't want deflation & want their debts inflated away.
I am NOT talking my book - I am a net saver but see inflation as so easy to pull off and considering the net savings rate (not) it is inevitable in a democratic system to see inflationary policy overwhelm deflationary policy. The majority of folks are hurt by deflation and will elect people to make sure inflation occurs. The minority of savers will be powerless against them.
BTW age cohorts YOUNGER than boomers are even worse savers than their parents. Hard to believe but I've seen numerous reports on this - starts in college with student loans and gets worse from there. The pressures to inflate are going to get more intense, not lessen.
We will not get anything close to deflation until we demand deflationary policy from politicians. That won't happen until a majority of citizens are disciplined savers & benefit from deflation. Maybe the Xers kids will see that day. None of us will.
Per most, if not all:
what a crap idea. federalizing simply terrible financial decisions is not exactly cost-free.
I share the short-term outlook of some here--that a recession is inevitable, if not occurring, and may well have some salutary benefits. I digress, however, on long term prospects. A certain madness of crowds bearishness permeates the room.
The U.S. is a formidable economic engine. Current policy prescriptions that prevent us from taking the necessary correctives serve no one.
also, Kristol is the ONLY reason I'd look at that socialist Op-Ed page.
"I believe when the SPEs maintain/extend teaser rates for the life of the mortgage there is a "Permanent Impairment of Value" according to GAAP. These loans/securities will then have to be written down to market (reducing the rate from say 7% to 5% will be a 30% writedown). The beat goes on."
Good post. I agree that it makes no sense to book the newly modified mortgages at par, but that exactly what Milstein is advocating.
Nice trick, buying a dollar of reported capital for 50 cents but this is one thing that led to the S&L meltdown.
If the goal is to juice up lending using pretend capital, then why bother with the mortgages. Just directly reduce capital ratios and increase the speed of the race to the bottom.
I'm not clear on exactly what the proposed change means. There is at least one good argument in favor of off balance sheet securitization in general. It goes something like "The reason it's not on my balance sheet is because, well, I sold it. It's not my asset."
At any given point, somebody is holding the asset, and somebody is responsible for the liability. If that's you, you should reflect it on your financial statements. And if it's not, you shouldn't.
JBL, I think the difficulty is that sponsors underestimated a number of risks associated with these off-balance-sheet vehicles, i.e. liquidity risk and reputational risk.
The first is associated with backup lines of credit that sponsors (often banks) granted to "their" SPEs. They thought these would never be called upon, but then they were.
The second is due to the fact that, even if they had no contractual obligation to fund the SPEs, many sponsors realised that they couldn't just let them fail without a huge hit to their reputation.
So it turned out that while SPEs were in theory off-balance-sheet, when the crisis hit in practice they weren't.
Unfortunately I was at another panel at the time, so I can't comment in detail on the FASB plan. It sounds, however, like they're going to move closer to the situation under International Financial Reporting Standards. Basically, when (listed companies in) Europe moved to IFRS, a standard called IAS 39 meant that they could no longer count securitisations as fully off balance sheet, unless "substantially all" of the risks and rewards of the assets are transferred. Instead, to the extent that risks and rewards are retained, they have to be recognised on balance sheet. In effect, any securitisation where the originator retains the first loss now has to be consolidated. This initially caused quite a lot of concern in the banking and securitisation industries, but ultimately made very little difference. The regulatory capital benefits were still there (under Basel I) and it provided cheap funding for lower rated banks. Accounting treatment has become less and less important over the last decade. I imagine the same sort of thing will happen in the US, although it will probably have more of an impact on certain kinds of corporate securitisation.
It's worth noting that (last time I checked) most ABCP conduits and CDOs didn't qualify for QSPE status anyway, and were governed by the normal FIN 46 rules for consolidation of variable interest entities, which it seems FASB will be applying to former QSPEs. The standard under FIN 46 is slightly different from the IASB standards, in that control over the SPE is one test to determine who is the beneficiary who must consolidate. Control makes no difference under IAS 39.
Tanta said: "Therefore both the assets and the corresponding liabilities would be reflected on the issuer's balance sheet, with the (presumed) effect of increasing the issuer's capital requirements as well as the cost of financing (investors would have to be compensated for the loss of the "bankruptcy remote" vehicle structure). "
Do you have evidence for this? Again, I can only really speak from the European experience, but here a) regulatory capital requirements are largely divorced from accounting treatment, and b) whether or not securitised assets show up on the balance sheets of the originators has no real impact on their bankruptcy remoteness. What matters is their legal isolation from the bankruptcy estate in the event of insolvency. In most civil law jurisdictions this is achieved through specific legislation, but it hasn't been needed in the UK.
An addendum to my previous post: IAS 39 on the derecognition of financial assets doesn't have a control clause, but SIC 12, which governs consolidation, does. The effect is that most securitisations which could be fully derecognised under IAS 39 will be consolidated anyway under SIC 12.
Ginger, isn't treatment under SIC 12 quite variable (no pun intended)? There was an article in the FT recently according to which the Spanish banking regulator basically mandated consolidation of all SIVs "because that's what IFRS requires" (according to them). But AFAIK that's not a homogenous approach in the EU.
Supervisor (age 61) recently made the comment that he has noticed his children are extremely comfortable with large debt loads (e.g., took on mortages debt despite large outstanding loans fom law school, new cars, etc.)
"There was an article in the FT recently according to which the Spanish banking regulator basically mandated consolidation of all SIVs "because that's what IFRS requires" (according to them). But AFAIK that's not a homogenous approach in the EU."
Well there are no SIVs sponsored by Spanish banks anyway, so I'm not sure how significant such a ruling would be. Have you got a link? My thoughts in the absence of the detail:
1) Like I said, SIC 12 has a control clause, so in theory SIVs should be consolidated by the sponsor anyway. In practice, I suspect that they've been able to avoid this either by using another legal entity to manage the SIV, or by arguing that because the actions of the SIV manager are tightly constrained by the transaction documents the sponsor does not techincally control it. Again, I must stress that (in Europe at least) accounting treatment and regulatory capital treatment are different things, so in principle there's no good reason not to consolidate (under Basel II anyway). I should also add that at the ASF the head of SIVs at HSBC said that the future replacement for SIVs will be ordinary banks.
2) IASB is currently considering revisions to IAS 39, IAS 27 and SIC 12. The agenda papers for these revisions explicitly lay out the proposed treatement of SIVs:
"In answering the question when is consolidation appropriate?, our answer is when it results in an entity recognising assets that it controls and liabilities for which it is responsible...In some arrangements such as structured investment vehicles (SIVs), the arrangement operates more like an operating finance company with structured finance characteristics. It is similar to the treasury function of a bank, with assets, liabilities, liquidity and administration functions that must be managed. There is often continuous reinvestment of assets and management not only of credit risk but also of interest rate, foreign currency and liquidity risk. In this situation, it is very likely that the activities of the SIV cannot be substantially predetermined and that one party controls the entity as a whole and should consolidate it."
As to the question of variability, that's the nature of international principles based standards that must be interpreted and applied by national regulators. My point was that the US seems to be moving toward the European approach of form over substance, by removing the carve-out for QSPEs and looking mainly at who has risk/reward exposure to and/or controls the vehicles.
If you look at the [International Financial Reporting Standards] rules, it is very clear that they mandate the consolidation of these [structured investment] vehicles, José María Roldán, director of regulation at the Bank of Spain, told the FT.
I'd be happy to just have stagflation about now - its the best we can hope for IMHO.. and I lived through the last one and know it is no picnic. rc helicopter Tactical Flashlights video game
"Certainly a government guarantee of principal--with no guarantee fees, insurance premiums, or interest income to the guarantor, like those mean GSE and FHA alternatives require--would take care of the capital problem."
But at what cost? Transferring the losses to the government doesn't solve anything. The government will have to print money, which will lead to inflation, which will lead to higher dollar-denominated interest rates, which will stifle growth.
I don't think this is the solution the author purports it to be.
Well, the con worked for a while during the intellectual lapse years... can't wait for the next US administratio
Marketwatch: U.S. in mild recession now, Global Insight says
...
Marketwatch: U.S. in severe recession later, Global Insight says
But at what cost? Transferring the losses to the government doesn't solve anything.
Exactly. This is unbelievable.
Is this good or bad? It sounds bad because no one is cursing.
Heh. Welfare for me, not for thee! Sayeth finance industry, and republicans.
Statement of The Honorable James B. Lockhart III, Director Office of Federal Housing Enterprise Oversight On Reforming the Regulation of the Government Sponsored Enterprises
http://www.ofheo.gov/media/testimony/2708LockharttestimonyWeb.pdf
The Q-thingy sounds bad for i-banks, who have been busy offloading securities on unsuspecting municipalities, pension funds, and foreigners.
You mean we actually have to HOLD THEM?!
But at what cost?
The same costs that unfettered moral hazard always imposes. What else?
I simply brought up that horrible op-ed because this is starting to look like a classic rope-a-dope: mortgage losses are getting to the point where FASB really has to come to grips with off-balance sheet financing rules. So use those same losses to gin up support for a full-bore government bailout of bank balance sheets. Then all the "GAAP is unfair to investors!" crowd's gripes about SPE accounting can be turned into an excuse to get the government to subsidize those very balance sheets this stuff is returning to.
...unfettered moral hazard
amen!
OT: big upswing in the broad domestic indexes. Is there a rumor circulating about another emergency Fed rate cut?
How does the US government come up with the additional 5 trillion it would need? Also do the banks still get to make the profit while the taxpayers take the risk. Sounds like we are taking money from our left pocket and putting it in our right pocket. Best answer is let the chips fall where they may. Let the banks remain walking dead and let new banks come in and replace them. We need some frog marches here so the taxpayers get something out of the deal.
If the government would 'repair' my capital, it would be a great benefit to me, too. They could do that by putting large amounts of it in a paper bag and leaving it on my doorstep. I see no problems whatsoever with this plan.
Howard P. Milstein is the chairman and chief executive of New York Private Bank and Trust, which owns a significant share of stock in The New York Times Company.
So I guess any questions about the editorial integrity of the Gray Lady of Times Square have now been answered. And yes, I was fortunate enough to miss this piece yesterday -- I suppose my vision was blurred by the report on Wachovia's complicity in telemarketing fraud: Papers Show Wachovia Knew of Thefts - NY Times
Until the banks rebuild their capital, they will not have the wherewithal to lend money and support economic growth. If banks of all sizes could regain their capital immediately and easily, it would be a tremendous benefit to the American economy.
Smart...
The government would guarantee the principal of the mortgages for 15 years. And in exchange the banks would agree to leave their teaser interest rates on those loans in effect for the entire 15 years.
Ooohhh, stupid, you loose...
How 'bout the Federal Government get some of that sweet preferred action that the sovereign wealth funds are getting? Instead of free money the taxpayers would be getting 11% for their risk.
If banks were happy with money at that rate from the UAE and China they should be happy with it at the same rate from the US taxpayer.
And this way, the banks that didn't do any stupid stuff and don't need additional capital aren't penalized.
Otherwise we're creating an environment where there is no advantage to being conservative a conservative bank.
Thanks for putting that NYT Op-Ed piece up, Tanta. I also liked the part where he says effectively, "I'm a banker, but I'm not making this proposal in self-interest. No, unless the government buys my bad loans, I won't be able to lend anything to companies and keep the economy going."
Maybe instead of the government buying out his bad loans, so he can lend, it should just start making the loans directly? It can't do a worse job than the banks have done...
They finally found a way to make sure none of the guilty players lose any money? And they get to put the taxpayer on the hook?
It's about time, I was worried the government was really serious about moral hazard and was going to let the markets punish the greedy, corrupt and ignorant in the monied class. This seems right, harsh consequences are usually be reserved for those with no poltical clout.
This makes no sense - it's not as though FASB makes the rules on what a corporation can do - it only makes the rules on how what a corporation does is reported (granted, there are regulations that depend on how things are reported). Do they have reason to believe that QSPEs as structured are not bankruptcy-remote? The stated reasons make no sense since they don't have the authority to allow or disallow those structures.
Stocks. Irons. Free tomatoes. Tar. Feathers.
Where can I get long on these?
So,Howard P. Milstein is the chairman and chief executive of New York Private Bank and Trust says:
This would instantly give the lending banks new capital. As these mortgages would be guaranteed by the Treasury, they would suddenly be assessed, on bank balance sheets, at their original value and a significant amount of the banks lost capital would be restored.
and no doubt, subprime mortgages would instantly stop defaulting!
I read "Empire of Debt" recently. This sort of insanity fits in well with Bill Bonner's description of this Empire pathology. People part of the Empire( of which debt is but a symptom) HAVE to talk like this during the decline phase. One should pity them really; or laugh at them like BB does.
Unfortunately it only pushes my systolic pressure up ! I need to take lessons from that TM guru but he's dead now.
-K
"Certainly a government guarantee of principal--with no guarantee fees, insurance premiums, or interest income to the guarantor, like those mean GSE and FHA alternatives require--would take care of the capital problem."
It would be one of the most economically unjust events in American history.
Everyone that responsibly continued to rent in 2006-2007 because they understood they could not afford the house prices would then be net-payers thru taxes to those individuals that were speculating or irresponsible. That's more than only a moral hazard. It's profoundly unjust.
How does the US government come up with the additional 5 trillion it would need?
The banks would only need about 400B in capital to offset losses and compensate for the QSPEs they have to roll onto the books.
Without that 400B you'll see about 2T reduction in total bank credit (money). There is some fudge because banks were over-capitalized to begin with and Basel II will allow banks to operate with less capital.
Even without the 400B there will still be plenty of available credit for the real economy. Banks will need to manage their balance sheet more closely and clamp down on credit cards and helocs where the banks capital may be committed but it generates no profit while it isn't.
Re my comment just above:
And for good measure, the responsible renters would also face higher house prices when they do want to buy.
M-F, we should dwell less on who deserves punishment and more on determining what works.
Howard Milstein's proposal wouldn't work. That's a better argument than trying to identify who deserves punishment.
If we're going to set out to punish people, mobs will end up carrying torches to the doorsteps of people who sold their houses at the top of the market to people who financed their purchases with exploding ARMs. Didn't those sellers benefit more than anyone? Why not go after them?
Milstein says the federal government should subsidize the lenders. Why not cut out the middleman and have the government send checks to these troubled borrowers? Let's say Milstein's proposal would amount to a $50,000 subsidy for each borrower who gets a 15-year freeze on the teaser rate. Wouldn't it be better to simply mail $50,000 checks to those qualifying borrowers?
I've long been of the opinion that the off-balance sheet financing arrangements are bad policy; FASB is way behind the curve in reining in what I view to be chicanery.
On the NYT bit: Can we sic Conjure Bag on the tiny, shriveled balls of Howard Milstein? I'm glad I cancelled my subscription (Bill Kristol was the final straw).
Tanta, not sure if you saw this at housing wire- but its truly idiotic. Guess Schumer was upset that Bair stole some spotlight.
Unfortunately. Schumer believes the GSE's have a government guarantee- they don't. He seems hellbent on nationalizing FN/FR.
Schumer: GSEs Need to Embrace ‘Partial Chargeoffs’ : HousingWire || financial news for the mortgage market
Queequeq
You can't get something for nothing.
When you pay money to some individuals, it comes from other individuals.
halbhh, that's the biggest problem with Milstein's proposal. We should try to accelerate the decline in house prices, not retard it.
Oh, I agree with you, halbhh. I'm merely saying that if Milstein wants to float a dumb idea, why not make his dumb idea more efficient?
Underwater homeowners will continue to walk away and at an increasing rate. Who wants a teaser freezer rate when you have the ability to absolve yourself of six figure losses and then lock in a low fixed rate on a nicer and less expensive home? Or even rent at a much cheaper monthly cost.
As for Fico worries, the laws of supply and demand will bury that myth too. At the right interest rate and house prices, new hard money lenders will enter the market and co-sign loans with all manner of collateral considered. FASB, the fed, Bush, Clinton - none of them can repeal the laws of economic gravity.
Housing prices will fall until they are in line with incomes. NO IFS ANDS OR BUTS.
Come on all. You know this to be true. The slow nature of the process is not a reason for on and off again doubt about the eventual outcome.
As for bank bail-outs, sadly these may happen.
Queequeg -- It's interesting to imagine somehow accelerating the price-reset of housing, as that would at least cause new building to increase. It would be quite a dislocation for many parties I imagine.
At least I'd strongly advocate against trying to prop up house prices, as many politicians consciously or uncounsciously would like to do, since we'd be like Japan then.
Back in the good old days, once all the stockholders' equity has been lost, the banks' losses came out of the depositors' accounts. But when you let that happen, you end up in a deflationary spiral -- economic gridlock -- and it will be years before the wreckage is sufficiently cleared away for growth to resume.
For HW readers looking to read an in-depth analysis of the issue, Tanta at the Calculated Risk blog has already written a novel on the matter.
I don't think Tanta's missive was fiction, but I'll grant that it was at least novella length.
Nice compliment. Why go into great detail when you can just cite Tanta.
otice another elephant in the room.
The newly minted bonds would be OID bonds. Instead of booking them at their economic value, they would be booked at par.
I don't know the details regarding bank asset valuation, but exactly how is booking assets at prices higher then their economic value going to work.
Why don't we just call loan loss reserves capital. This was actually done in the 1980's for Citibank after they wrote down their 3rd world loans.
I would hope that the American voters would literally march on DC before this happens. Who is this joker anyway?
Tanta has accumulated a lot of awful mortgage ideas lately, but this is clearly the winner.
Of course, the clear logical corollary is that we should never allow any bank to take a principal loss on a loan, because it costs us too much. I'm sure this axiom will usher in a new era of widespread prosperity that will last six or even seven months.
I suppose my vision was blurred by the report on Wachovia's complicity in telemarketing fraud:
Is "Yikes" a common banking term or dis Tanta's cousin work as an exec there?
Queequeg - I reluctantly will support a bailout that works. But any bailout which returns 90 or 100 cents on the dollar to the investors is a bailout of investors. Like the HOLC in the 1930s, if the government is going to bailout the industry, it needs some major cram down action which pays the investors more like 50 cents on the dollar.
If Banks don't have capital reserves to support new lending, perhaps the government can give them capital for bank stock, or make a big deposit. But lets not just bailout all bad decisions made so far, and hope things go more smoothly in the future with no punishment and no regulatory reform... that will just lead to a bigger mess down the road.
Wow, just wow. I seriously can't believe that people think the government is here to bail them out every time they have a loss. This is getting ridiculous. The government is not here to subsidize your losses while you reap the sole gain. How the hell could this even be considered? We take ALL the risk while they get all the interest?! WTF.
What if we did not bail out lenders?
First, I do understand credit contraction and deflationary spiral (Great Depression, Japan, etc).
At present, what is happening is Banks are simply becoming partly owned by new owners often overseas -- using petro-dollars for example.
This is just free market action, and far less scary than some alternatives.
But looking further along that line -- do we really need to be afraid of deep house price re-sets and then having foriegn banks here in the US for instance?
Why should we worry much about that?
What's wrong with a median price of $150K and new Banks or new Bank owners?
The bank capital no lending mumbo jumbo is a farce. At a market based, risk adjusted rate, plenty of capital is available. Japan and China alone have over 2 TRILLION in foreign reserves.
Just yesterday, Warren Buffet commented that money is still available and is still cheap.
This entire argument over bank capital is intellectually dishonest. Nothing but a smokescreen for a bailout.
I guess that's an explosive question in a way. It would mean a radical re-set in the American lifestyle of course.
Bank of America sold $12 billion in preferred shares a couple of weeks ago. It was over subscribed.
Aren't we going to wait for at least one significant bank to fail?
Ziggurat,
Excellent point regarding BAC! Capital is available.
There is NO need for the Government to use taxpayer's money to bail out foolish banks and borrowers.
Risk is under going a long over due repricing.
"The banks would only need about 400B in capital to offset losses and compensate for the QSPEs they have to roll onto the books.
Without that 400B you'll see about 2T reduction in total bank credit (money)."
Interesting comment, Kicker...so if 400 billion is worth 2T to banks, they ought to be willing to pay, maybe, 600B for the 400B and leave a nice profit for the Federal government, right?
That proposal is absolutely outrageous. It's like having Citibank, BoA, and CFC betting it all on a G-dd-mn racing form, and US taxpayers backing any and all losses. There is absolutely no justification to nationalize the banks' losses without nationalizing the banks themselves. Talk about class warfare and redistributing wealth! You can bet the banks will try to drag this out until after the elections so they can get the Democrats to pull off this chicanery and take the political heat that would naturally arise from it. What a crock our national institutions have become.
No bailout is acceptable. If these companies need money, then they should sell stock and dilute their existing shareholders. If they can't sell stock, then let the US government buy huge stakes at deeply discounted prices. Also, any bailout at this point would also involve bailing out the foreign governments that bought stakes in these companies.
The death of securitization.
Long live securitization.
Tanta,
Does that 15 year span let us know how long the depression will last unless the losses are socialized? Is this what the smart people are thinking?
Myr - what about if the government somehow bailed out this mess, made sure bond holders and banks suffered financially and also jailed the top 1000 to 5000 people involved in the mess. And stripped them of all their wealth too. I could live with that outcome...it would take care of the moral hazard problem.
Once again, please tell those who keep going on about the welfare problem in this country to shut up. Welfare to the poor is dwarfed by welfare to the corporations.
1990 - 91, we lost 400 banks.
The situation now is far more grave, in many ways. Yet, we have so far lost, I believe 3 (plus 2 credit unions).
I don't believe a major money center will be allowed to fail.
Despite the obvious differences, this road always leads me back to 1990s Japan as the operative model for what happens.
Tanta, just one quick administrative question.
I see this article labeled: REGULATORY, SECURITIZATION... Given that last NYT reference how come it isn't also labeled BONG WATER?
To me the simple economics are more important than the moral hazard issue.
The U.S. is already $10,000,000,000,000 in debt that it will never repay and could have as much as $45,000,000,000,000 in unfunded liabilities that can only be addressed by massive inflation.
There is no scenario that makes adoption of additional trillions in losses acceptable.
Tanta has accumulated a lot of awful mortgage ideas lately, but this is clearly the winner.
So far anyway.
In a race without a finish line you'll never see me declare a 'winner', only a 'current leader'... If this situation continues I fully expect somebody else's proposal to pass it, sprinting into the lead in arm pumping stupidious glory. It could happen again and again.
There is no scenario that makes adoption of additional trillions in losses acceptable.
sportsfan | 02.07.08 - 12:18 pm | #
Sure there is - when trillions mean nothing. Imagine a million dollar value meal.
Tanta,
Could you explain your reasoning here...
Therefore both the assets and the corresponding liabilities would be reflected on the issuer's balance sheet, with the (presumed) effect of increasing the issuer's capital requirements as well as the cost of financing (investors would have to be compensated for the loss of the "bankruptcy remote" vehicle structure).
Which investors are you talking about?
Despite the obvious differences, this road always leads me back to 1990s Japan as the operative model for what happens.
zackattack | 02.07.08 - 12:15 pm | #
Except we aren't Japan. They saved, they made stuff, they exported all through the worst of their malaise. We don't do much of any of that now - how can we expect as 'good' of an outcome as Japan?
The Japan analogy drives me crazy - its a terrible comparison. We should be so lucky to be 'Japan'.
Except we aren't Japan. They saved, they made stuff, they exported all through the worst of their malaise. We don't do much of any of that now - how can we expect as 'good' of an outcome as Japan?
Your right, the Japanese had savings to cushion the blow to consumption. The US does not, the deflation will be much worse.
Huge equity bubble (check), huge real estate bubble (check), lots of dodgy loans on banks balance sheets (check), demographic challenges to consumption (check).
All the other cards have been played and the only one still with cards face down is the Federal Reserve and Congress. Depending what cards they turn over, we either get a long period of deflation (bottom in 2015) or stagflation.
Which investors are you talking about?
Whoever is providing the debt financing to these on-balance-sheet securitizations.
If the govt guarantees the principal, that will only encourage more people to default. Why keep paying any rate - teaser or not - on a principal that represents a ridiculous overvaluation of the property? It will encourage banks to let people default by assuring that they will receive the entire principal, rather than some fraction, which is what usually happens with foreclosure. It will encourage future risky behavior.
But most of all, and this is what really irks me, it will transfer massive losses from the idiots who should be suffering them to the government - and therefore ultimately to the taxpaying public, meaning that people who acted responsibly (e.g. me) will end up paying for other people's recklessness.
Whoever is providing the debt financing to these on-balance-sheet securitizations.
Okay, but I can't see how "depositors" would have believed that these off-balance-sheet vehicles were less risky then depositing funds directly in the banks themselves. I'd have a hard time believing that it's still be the case.
Unless we are talking about corporate off-balance-sheet vehicles. Then in that case I could understand that an investor may be less likely to lend to somebody like AHM directly. But, in that case there isn't any capital requirements.
Sorry, I still don't get it.
sportsfan writes:
....The U.S. is already $10,000,000,000,000 in debt that it will never repay and could have as much as $45,000,000,000,000 in unfunded liabilities that can only be addressed by massive inflation.
There is no scenario that makes adoption of additional trillions in losses acceptable.
Unfortunately, that gigantic debt makes proposals like this MORE likely, IMO - what's another trillion here or there?
The US does not, the deflation will be much worse.
[...]
All the other cards have been played and the only one still with cards face down is the Federal Reserve and Congress. Depending what cards they turn over, we either get a long period of deflation (bottom in 2015) or stagflation.
I'd be happy to just have stagflation about now - its the best we can hope for IMHO.. and I lived through the last one and know it is no picnic.
The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned. And because 'stimulus' isn't a clearly understood and transparent process we could see a couple years of apparent 'deflation' before the inflationary efforts & fiat creation overwhelm the system - just about the time all those social security checks start going out in earnest (for example).
I've said all along - the biggest mistake is to confuse immediate inflationary & deflationary pressures with eventual inflation & deflation. That is what makes the damned thing so unstable... you can have one (say a lot of visible deflationary pressure) yet end up with the other (inflation) depending on the scale & scope of the 'response'. It is classic 'signal theory' put into economic terms.
Unfortunately, that gigantic debt makes proposals like this MORE likely, IMO - what's another trillion here or there?
blueridge | 02.07.08 - 1:03 pm | #
Exactly - what's a little more piss in a great big ocean?
What a bloody awful mess.
Ziggurat,
I believe when the SPEs maintain/extend teaser rates for the life of the mortgage there is a "Permanent Impairment of Value" according to GAAP. These loans/securities will then have to be written down to market (reducing the rate from say 7% to 5% will be a 30% writedown). The beat goes on.
dryfly - "The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned. And because 'stimulus' isn't a clearly understood and transparent process we could see a couple years of apparent 'deflation' before the inflationary efforts & fiat creation overwhelm the system ..."
Perhaps we should be grateful then for all the partisan gridlock going on in the Senate over said stimulus. Longer the better IMHO. If it only ends up being simply delayed and not DOA, it could end up being too much too late and end up causing the overshoot you're talking about dryfly.
The proposals coming out of DC regarding various 'temporary' bail outs tell me we'll see a mighty effort to re-inflate the deflationary pressures you mentioned.
The inflation/deflation debate seems to have a generational divide. The boomers came of age in a deflationary environment and can't imagine a world without it. Most of the boomers seem heavily invested to counter inflation (leveraged up, high growth, metals).
GenX came of age in a deflationary environment. Most of my tech peers seem invested for deflation (low leverage, high savings).
Same bias flip between the boomers and their parents (who grew up in the depression and were mostly long bonds in the 70's).
Personally, I've got a deflation bias (GenX) but I keep a sharp eye on the Fed. If I see base money increasing sharply I'll move into cyclicals (oil, metals, commodities). Increase it higher and I'll move overseas. Increase it higher still and I'll borrow money and dump it into gold.
But, even with the Fed's rate cuts the increase in base money is slowing. Look at the YOY change in the base since 1918:
Tiny URL - create a shorter link
I can't spin a hyper-inflation scenario where base money doesn't go along.
Sorry, should have said:
The boomers came of age in an inflationary environment...
FYI: Romney quit with "ungracious" speech. Bad blood there!
"ungracious" speech
How do you figure?
Kicker: Not my comment but on MSM. That's why I put it in quotes.
I didn't hear anything that said "sour-grapes" to me. Spin, I guess.
Seems to me that the voters are looking for somebody who can lay out a "vision" for America and is willing to stay on message. That didn't bode well for Romney and doesn't bode well for Clinton.
I'm guessing we're going to see a Mcain/Obama race next year.
The original intent of SPE/VIE/QVIE was to isolate either a risky or short-term venture that might not be aligned with the parent company's business. Since it wouldn't be long-lived, it might muck up the income statement for a year or two and leave everyone guessing why those years were so different.
I think they should have just had added some columns to the Income Statements and separated out the temporary activities there. Then, you could look at one column for the main business, and others for various entities. The total of everything would be on the left, closest to the descriptions.
I'd bet the ink wasn't dry on whatever pronouncement permitted SPE's before someone figured out how to use them to obfuscate reality.
BTW, if anyone would like some insight into how confounded (as opposed to truly complex) accounting regs are in the US, click on Tanta's link for QSPE's at the top of the article and look at the bottom of the page at all the various levels of FASB rulings that apply to the same topic.
Some of the regs contradict one another and accountants are left to debate which one applies in a particular case.
Kicker: Nattering nabobs of...well, you get the picture.
Perhaps we should be grateful then for all the partisan gridlock going on in the Senate over said stimulus. Longer the better IMHO. - Andrew
Amen.
Sorry, should have said:
The boomers came of age in an inflationary environment...
Kicker | 02.07.08 - 1:35 pm | # - Kicker
Again - you make the erroneous conclusion a 'deflationary environment' will ultimately result in deflation... like there was no result from 'policy response'.
And the view is NOT generational - my father was a depression kid - saw a temporary period of deflation completely wiped out by stimulus yet he still cautioned over and over about the risks of inflation in a fiat system. Deflation doesn't stand a chance against fiat.
If anything the the argument breaks down into camps talking their book - a handful of savers all want deflation & see it as 'inevitable'. Spend thrifts don't want deflation & want their debts inflated away.
I am NOT talking my book - I am a net saver but see inflation as so easy to pull off and considering the net savings rate (not) it is inevitable in a democratic system to see inflationary policy overwhelm deflationary policy. The majority of folks are hurt by deflation and will elect people to make sure inflation occurs. The minority of savers will be powerless against them.
BTW age cohorts YOUNGER than boomers are even worse savers than their parents. Hard to believe but I've seen numerous reports on this - starts in college with student loans and gets worse from there. The pressures to inflate are going to get more intense, not lessen.
We will not get anything close to deflation until we demand deflationary policy from politicians. That won't happen until a majority of citizens are disciplined savers & benefit from deflation. Maybe the Xers kids will see that day. None of us will.
Per most, if not all:
what a crap idea. federalizing simply terrible financial decisions is not exactly cost-free.
I share the short-term outlook of some here--that a recession is inevitable, if not occurring, and may well have some salutary benefits. I digress, however, on long term prospects. A certain madness of crowds bearishness permeates the room.
The U.S. is a formidable economic engine. Current policy prescriptions that prevent us from taking the necessary correctives serve no one.
also, Kristol is the ONLY reason I'd look at that socialist Op-Ed page.
I am in shock when I see proposals like this.
rthomas:
"I believe when the SPEs maintain/extend teaser rates for the life of the mortgage there is a "Permanent Impairment of Value" according to GAAP. These loans/securities will then have to be written down to market (reducing the rate from say 7% to 5% will be a 30% writedown). The beat goes on."
Good post. I agree that it makes no sense to book the newly modified mortgages at par, but that exactly what Milstein is advocating.
Nice trick, buying a dollar of reported capital for 50 cents but this is one thing that led to the S&L meltdown.
If the goal is to juice up lending using pretend capital, then why bother with the mortgages. Just directly reduce capital ratios and increase the speed of the race to the bottom.
I'm not clear on exactly what the proposed change means. There is at least one good argument in favor of off balance sheet securitization in general. It goes something like "The reason it's not on my balance sheet is because, well, I sold it. It's not my asset."
At any given point, somebody is holding the asset, and somebody is responsible for the liability. If that's you, you should reflect it on your financial statements. And if it's not, you shouldn't.
What am I missing?
JBL, I think the difficulty is that sponsors underestimated a number of risks associated with these off-balance-sheet vehicles, i.e. liquidity risk and reputational risk.
The first is associated with backup lines of credit that sponsors (often banks) granted to "their" SPEs. They thought these would never be called upon, but then they were.
The second is due to the fact that, even if they had no contractual obligation to fund the SPEs, many sponsors realised that they couldn't just let them fail without a huge hit to their reputation.
So it turned out that while SPEs were in theory off-balance-sheet, when the crisis hit in practice they weren't.
Ken Lay is turning over in his grave.
Unfortunately I was at another panel at the time, so I can't comment in detail on the FASB plan. It sounds, however, like they're going to move closer to the situation under International Financial Reporting Standards. Basically, when (listed companies in) Europe moved to IFRS, a standard called IAS 39 meant that they could no longer count securitisations as fully off balance sheet, unless "substantially all" of the risks and rewards of the assets are transferred. Instead, to the extent that risks and rewards are retained, they have to be recognised on balance sheet. In effect, any securitisation where the originator retains the first loss now has to be consolidated. This initially caused quite a lot of concern in the banking and securitisation industries, but ultimately made very little difference. The regulatory capital benefits were still there (under Basel I) and it provided cheap funding for lower rated banks. Accounting treatment has become less and less important over the last decade. I imagine the same sort of thing will happen in the US, although it will probably have more of an impact on certain kinds of corporate securitisation.
It's worth noting that (last time I checked) most ABCP conduits and CDOs didn't qualify for QSPE status anyway, and were governed by the normal FIN 46 rules for consolidation of variable interest entities, which it seems FASB will be applying to former QSPEs. The standard under FIN 46 is slightly different from the IASB standards, in that control over the SPE is one test to determine who is the beneficiary who must consolidate. Control makes no difference under IAS 39.
Tanta said: "Therefore both the assets and the corresponding liabilities would be reflected on the issuer's balance sheet, with the (presumed) effect of increasing the issuer's capital requirements as well as the cost of financing (investors would have to be compensated for the loss of the "bankruptcy remote" vehicle structure). "
Do you have evidence for this? Again, I can only really speak from the European experience, but here a) regulatory capital requirements are largely divorced from accounting treatment, and b) whether or not securitised assets show up on the balance sheets of the originators has no real impact on their bankruptcy remoteness. What matters is their legal isolation from the bankruptcy estate in the event of insolvency. In most civil law jurisdictions this is achieved through specific legislation, but it hasn't been needed in the UK.
An addendum to my previous post: IAS 39 on the derecognition of financial assets doesn't have a control clause, but SIC 12, which governs consolidation, does. The effect is that most securitisations which could be fully derecognised under IAS 39 will be consolidated anyway under SIC 12.
Ginger, isn't treatment under SIC 12 quite variable (no pun intended)? There was an article in the FT recently according to which the Spanish banking regulator basically mandated consolidation of all SIVs "because that's what IFRS requires" (according to them). But AFAIK that's not a homogenous approach in the EU.
Supervisor (age 61) recently made the comment that he has noticed his children are extremely comfortable with large debt loads (e.g., took on mortages debt despite large outstanding loans fom law school, new cars, etc.)
It isn't that they let sleeping dogs lie, it ix that they let financial ;anagers do so.
"There was an article in the FT recently according to which the Spanish banking regulator basically mandated consolidation of all SIVs "because that's what IFRS requires" (according to them). But AFAIK that's not a homogenous approach in the EU."
Well there are no SIVs sponsored by Spanish banks anyway, so I'm not sure how significant such a ruling would be. Have you got a link? My thoughts in the absence of the detail:
1) Like I said, SIC 12 has a control clause, so in theory SIVs should be consolidated by the sponsor anyway. In practice, I suspect that they've been able to avoid this either by using another legal entity to manage the SIV, or by arguing that because the actions of the SIV manager are tightly constrained by the transaction documents the sponsor does not techincally control it. Again, I must stress that (in Europe at least) accounting treatment and regulatory capital treatment are different things, so in principle there's no good reason not to consolidate (under Basel II anyway). I should also add that at the ASF the head of SIVs at HSBC said that the future replacement for SIVs will be ordinary banks.
2) IASB is currently considering revisions to IAS 39, IAS 27 and SIC 12. The agenda papers for these revisions explicitly lay out the proposed treatement of SIVs:
"In answering the question when is consolidation appropriate?, our answer is when it results in an entity recognising assets that it controls and liabilities for which it is responsible...In some arrangements such as structured investment vehicles (SIVs), the arrangement operates more like an operating finance company with structured finance characteristics. It is similar to the treasury function of a bank, with assets, liabilities, liquidity and administration functions that must be managed. There is often continuous reinvestment of assets and management not only of credit risk but also of interest rate, foreign currency and liquidity risk. In this situation, it is very likely that the activities of the SIV cannot be substantially predetermined and that one party controls the entity as a whole and should consolidate it."
As to the question of variability, that's the nature of international principles based standards that must be interpreted and applied by national regulators. My point was that the US seems to be moving toward the European approach of form over substance, by removing the carve-out for QSPEs and looking mainly at who has risk/reward exposure to and/or controls the vehicles.
Ginger:
FT.com / Capital Markets - Spanish banks spared huge writedowns
If you look at the [International Financial Reporting Standards] rules, it is very clear that they mandate the consolidation of these [structured investment] vehicles, José María Roldán, director of regulation at the Bank of Spain, told the FT.
"My point was that the US seems to be moving toward the European approach of form over substance"
Ginger, NO! We have enough form and not enough substance in the US. I know, it was a typo.
I think we should be migrating completely over to IFRS in the next 7 years or so.
Whoops, my bad. I actually meant substance over form. I had been at work for 20 hours, in my defence.
I'd be happy to just have stagflation about now - its the best we can hope for IMHO.. and I lived through the last one and know it is no picnic.
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