Authored by William Robert Barber
As a sequel to my previous article, ”The Crisis That Wasn’t…”, I challenged myself with what might be a reader’s question on the original article, “Oh yea, what would you have done if you were Bush/Paulson/Obama?”
A sizeable part of what I would have done has as much to do with what I would not have done. I would not have leaped to a conclusion before the gamut was exhausted by the utility of prudent discovery and cogent due diligence. I certainly would not have declared the problem nor submitted a solution without substantial-tangible-empirical verification that the declaration was accurate.
The next question by the skeptical reader might be: “Well, how long will that take? Rome is burning!” The answer to ‘how long’ is as obvious as it is straightforward when discovery evidences tangible proof. That proof of the problem will be apparent when the administration/treasury possesses the ability to present an articulate, verifiable, clearly defined presentation of the problem/solution to the people; as of this date no such clearly defined presentation has been made much less established by this administration or the former for that matter.
Explaining to congress, Bush/Paulson suggested that the problem was with the banks; they would not lend due to a self-imposed credit freeze. The administration explained that the reason for the banks’ credit freeze was the apprehension of undercapitalization caused by a number of current and pending unknowns. One of the great unknowns was the complicated disposition of mortgage assets packaged for securitization. Wherein, inherent within the bundling for securitization, good assets were commingled with ‘toxic’. Inclusive to the banks’ reasoning, broker-dealers had successfully purchased and sold billions of dollars worth of these securitized mortgage units to institutional as well as accredited investors. Some of the unknowns entailed that no one knew the amount of units/dollars sold, to which specific entity it was sold, or, more importantly, no one knew with any degree of certainty the present market value of these mortgaged back securities. This is the reason for the banks’ credit freeze, which supposedly created the financial crisis.
What the average Joe citizen is not aware of is two Financial Accounting Standards Board regulations. These measures were initiated by congress at the same time Sarbanes-Oxley came into being. Another example of the unsuspecting negative consequences of congressional actions is, as recently witnessed, that congress more often than not acts before it thinks. The first is mark to market valuation of assets; the second is FAS 157. Both of these rules have to do with evaluating the market value of assets. Now here is the hard part: under FAS 157, value can be outsourced (such as Chatham Financial) or management if no accredited third party is available. Because of the fear of litigation, pressure from oversight, and the mood of congress, the tendency is to undervalue versus trying to establish real world market value. It is my belief that both of these FASB rulings subjected banks and broker-dealers to an undervalued assessment of assets. It is this particular accounting requirement, the drop in real estate value, and the run to cash in derivatives that prompted the financial crisis in the first cause.
Here is what happened: The real estate sector – instead of its continuance of upward momentum, the sector’s value dropped by a fifth. In a matter of weeks the drop accelerated; the sub-prime mortgage borrows began, in droves, to default, the holders of these securitized mortgage units rushed to cash in their derivatives, the run to cash exceeded AIG’s ability to liquidate, demand exceeded available cash, as a defensive measure banks froze all new lending. The participating broker-dealers’ subordinate debt went negative – they could not comply with existing regulatory compliance; the effect was operational impairment.
The Bush administration’s response to all of this was to prod congress by the thrust and slash of harshly designed innuendos full of negative consequences; the persistence of Paulson prompted fearful confusion and congress submitted. Democrats and republicans came together in a bi-partisan manner to institute TARP as the solution to an ill-defined problem. They appropriated billions of taxpayer dollars on the hope that someone knew what the hell they were doing.
The exactness of what I would have done in the next article.