Tuesday, September 30, 2008

If The Government Is Against The Very Idea Of Anyone Taking A Loss, Anywhere, At Any Time, Then We're In Serious Trouble

Charles Hugh Smith:

Here is how frequent contributor Harun I. put it this past weekend:

In his speech the other night, POTUS (President of the U.S.) warned that stocks might fall in value affecting retirement savings, house values may decline and jobs would be lost and banks would fail en masse. What he implied is that stocks can never go down again by more than a certain amount, and ditto for home values. Banks that make poor lending decisions must not be allowed to fail. In other words there can be no major downside to anything ever again without the taxpayer intervention. I would like to denounce this in some highbrow way but it needs to be called what it simply is: nuts.

As I write this I hear one of CNN's talking heads say that individuals and businesses won't be able to get loans unless we pass the bailout. No, they will be able to get loans but at much higher interest rates and for businesses that will degrade profits. For homeowners and sellers that means lower prices. (Emphasis added: CHS) Considering the distortion in prices, much lower. But the prudent will be rewarded with affordable prices and come back into the market.

Reframe the question.

What is really happening in the credit markets? The word is that there is no market for MBS. At the current prices that is true. If the entities holding these assets were to sell these assets at market prices and accept the inevitable consequences the credit markets would begin to function again. Instead they are trying to hold the economy hostage in hopes of a ransom (bailout) will be delivered that maintains as close to status quo as possible.

To be sure, the pain from all this will be severe but to think that there is an easy solution to skirt the effects of such a tremendous degree of greed and avarice is simply childish.

On a similar note, Frequent contributor U. Doran recommended this piece by Bill Fleckenstein: What's next, a ban on stock sales? Prices aren't to the government's liking, so it's changing the rules on the fly, and no one knows where or when new lines eventually will be drawn.

I spent an extraordinary amount of time last week discussing the human responses to betrayal and loss of trust. The reason is simple: these are the bedrock of human interactions and transactions which, once destroyed, cannot be rebuilt except via a painstaking, arduous, patient process of trust incrementally being earned, not bestowed.

The SEC's embrace of a ban on mark-to-market is based on an enormous fallacy: That letting banks keep fictitiously valued "assets" on their books for few years will magically enable them to make huge profits and re-capitalize via profits.

As correspondent J.F.B. has often asked: how are banks going to make money as lending and credit tighten and a recession removes the need, desire and ability to borrow? It seems all too clear: they can't make money with distressed assets which are doomed to depreciate far further, and in a recessionary era of over-extended credit and consumers.

The answer is not to enable fantasy-based accounting and then hope that worthless assets magically gain value: the answer is mark to market, and let buyers price the distressed assets. Every firm which is insolvent should be allowed to go under; buyers will appear at bankruptcy court auctions, and trust can be rebuilt, slowly and in baby-steps, with new regulators, new enterprises and new players.

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