Thursday, September 25, 2008


Seven hundred billion is a lot of money but it is also a highly leveraged pile of money. The per person outlay is about $2,333, but the people do get "full value" in exchange for the outlay. Giving each person $2,333 to spend would not solve the insolvency of banks. The banking system would still be frozen up.

Like it or not, our world runs on a fractional banking system, in other words, the world runs off leverage. The assets controlled by the $700 Billion we are talking about is an enormous amount. Banks normally lever at about 12 to 1. Thus, we are really talking about "protecting" in the neighborhood of 8.4 Trillion Dollars worth of assets or $28,000 for each US citizen. Do we "invest" $2,333 per person to save $28,000 per person?

Again, using an example that is dear to my heart, if the government were to decide that Myrtle Beach is near collapse and it is in the public interest to "save Myrtle Beach", it would be a complicated process to decide which deeply discounted oceanfront condos are to be purchased and at what price. Condos which sold for $800,000 in 2005 have recently sold for $275,000. Would it be a bailout for an owner, if the government bought his $800,000 condo for $275,000? If the government bought this condo for $275,000, would it have good prospects for reselling it latter for more than $275,000?

The answer to the last question is 99% YES. Lamar's statement that the population will continue to grow and that this growth will ultimately absorb the excess in housing was an accurate description of what is going to happen over time. The question for the congress today is how to mark time until the excess inventory can be absorbed? The argument to allow the market to sort this out would be totally valid if it were not for the excessive regulation imposed by the Sarbanes-Oxley act. These rules require banks to mark down the value of "their oceanfront condos" from $800,000 to $275,000. If the bank is willing to hold these "oceanfront condos" until the market for them rebounds, why should they be forced to immediately declare a $525,000 loss?

The suggestions to use a smoothing technique such as a moving average of value or by amortizing capital losses over 5 years would take away the cyclical component that is killing the market. Banks are being forced to turn away solid business because they already have too much business on their books as a result of the excessive write down of values. The bank that is forced to write down $525,000 on a mortgage backed security must reduce its lending by 12 times $525,000. The one loss of $525,000 means $6,300,000 worth of car loans cannot be made.

The bottom line is that this problem must be fixed or we will have another great depression. Our economy is no where near the level of great depression, but it is being pushed hard in that direction by the bank freeze. Again, the problem must be fixed, but it needs to be fixed in the least destructive way. There will be costs involved. Prices will be paid. It is my contention that the least expensive way would be to allow the assets to be marked to a moving target, such as a 5 year amortization schedule. Before most of these assets reached the full discount, the real estate behind them would have been sold, refinanced or caught-up.

On Thu, Sep 25, 2008 at 10:57 AM, Mike wrote:


think what would happen to the economy if congress divided the $700,000,000,000 equally between every adult in the country, and then took out ordinary income tax.

I don't think anyone would care about these banks after that!!