Banking Crisis: Bob Brinker was insightful today re: the "Bad Bank" concept.

[Mike 03]

Brinker has been worthless throughout this entire crisis in terms of insightful comments, but today he actually made an important point about why the notion of resurrecting the Resolution Trust Corporation (i.e, "Bad Bank") might be an exercise in futility.

The primary point of contention all along has been over the mark-to-market issue and exactly how much these toxic assets are worth. Naturally, the U.S. government wants to pay what an institution like Merrill Lynch sold them for--about thirty-three cents on the dollar. These are exotic, poorly understood, incomprehensible, unsecuritized (or poorly securitized) and most likely essentially worthless financial instruments.

However, the banks that own them, quite understandably, will try to convince the New R.T.C. that these financial instruments are valuable and, if held to maturity, will yield great rewards.

So the issue is, will either side budge? I have a feeling that the banks will eventually see the light and that it will become possible for the "Bad Bank" to begin to absorb these assets at a reasonable cost. But I'm not sure what the eventual consequences of these transactions will be. That is a serious unknown at this point.

Anyway, I thought this was an interesting topic that Brinker raised today.

EDIT: Typo

[DJ13]

1. Thats why the RTC idea this time is a bad idea

The only real solution is to fully nationalize our banking system, then the government cant write off those assets without restraint.

[whistle]

2. $1.450 quadrillion in toxic derivatives pretty much places all banks

...in the "Bad Bank" column. Freeze derivatives, sort out the good from the bad and you begin the process of reestablishing credit flow once again. Paulson and Bush riped off the country and the world. Read how below.


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IT’S ABOUT PAPER NOT BUBBLES: Stopping the Meltdown

By Hernando de Soto©

The meltdown of the global economy is due not to failing markets but to a violation of the rule of law. In recent years aggressive financiers have gutted the rule of law by taking out several essential inner mechanisms replacing them with an immense financial shadow economy, manufacturing hundreds of trillions of dollars of derivative paper so unruly, poorly recorded and untethered to real value that it has become increasingly worthless and difficult to trace. No one knows precisely how much there is or who holds it. Fear that potential borrowers could be burdened with so much of this toxic paper that they will be unable to repay their loans has initiated an inevitable chain reaction to a meltdown: as trust in legal paper breaks down, it paralyzes credit, which shrinks transactions, leading to a catastrophic drop in employment and in the value of everyone’s property.

When U.S. Treasury Secretary Henry Paulson initiated his Troubled Assets Recovery Program (TARP) last October with the widely reported objective of identifying and weeding out the toxic paper, I figured Western leaders understood that in their all-out efforts to avert meltdown the main challenge was to restore trust in the market: once TARP informed us of the amount, the location, and the nature of the bad paper, we would be in a position to know whom to help – and how to do it. Equally important, we could target the causes of this pandemonium and find ways to reform the law so that this never happens again. Once you are aware that in modern markets value travels on paper, you don’t have to be a genius to know that by restoring credibility to paper credit will resume.

Two months have passed, however, and TARP’S solution of isolating the toxic paper appears to have faded into the background. I now fear that Western authorities don’t really comprehend why mere paper is so important. In the non-Western world, where I come from, this is pretty obvious: the prosperous sector of our economy sit in their modern high rise buildings with all their assets well paperized (sending out clear signals regarding who is who, who owns what, what is where, and what is risky). But most people live in the anarchy of the shadow economy with their assets and contracts covered by paper that is endemically toxic: not recorded, not standardized, difficult to identify, hard to locate, their real value so opaque that ordinary people cannot build trust in each other or be trusted in global markets; they thus operate in a constant credit crunch and are stuck in poverty. In short, for shadow economies outside the U.S. and Europe, “meltdown” is a chronic condition.

That is why property paper is so important: it embodies in precise written form the rule of law in the market and thereby destroys its main enemies – ambiguity and opaqueness. Ever since we humans started cooperating beyond the scope of the family, the tribe, or the fiefdom, and found it profitable to transact with people and assets beyond the confines of the neighborhood, we have depended on legally authenticated written statements to get the facts about things of value. That legal authority matured over the past 200 years, until developed economies finally reached a global consensus on the procedures, standards and principles required to document facts that everyone can easily understand and trust. Today, under the rule of law, we have a formidable legal system that we call “property,” which specializes in providing all the rules and recording mechanisms needed to securely fix on paper the knowledge required to legitimately hold, transfer, transform and use the things we own, from houses to airplanes, from mortgages to stocks, and from patents to screenplays.

How Derivatives Violate the Rule of Law

Guess what are the only assets not governed by the rules of law that fix property to paper. You guessed it: derivatives, the very toxic paper currently melting down the global economy. That toxicity is the direct result of legal tinkering that substituted the authoritative and tested global consensus, which underpins the rule of law, with mathematical models and ratings for hire. During the past decade, in an effort to raise capital, some financiers have taken value from where the rule of law has positioned it – the property system – and repackaged it into paper synthetically created in the shadowy area of the law that governs derivatives. Once paper crossed that line, it left behind the six automatic regulators that keep the written law in sync with economic reality:

Automatic Regulator 1: Only what is real may be recorded on paper. Derivatives law is so untethered to real value and the rules of proper record-keeping that financiers have created bonds to represent homes, borrowers, and mortgages that literally do not exist. More astonishing still, these derivatives have strayed so far from the original assets that they were derived from, that a rating agency can decide to change the initial risk classification of a given set of mortgages just to make them more marketable. In contrast, property law accepts only real assets and interests (e.g. houses, owners, equity and mortgages), and demands that all the information about them be recorded carefully in centralized registries where anyone interested can access it, relatively easily.

Automatic Regulator 2: All inter-party interests must be in sync with external interests. The financial law governing derivatives has increasingly been re-engineered to suit the narrow needs of parties in a financial contract, disregarding how derivatives affect other interests. It foments niches and clandestine passages.

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http://wbpllc.wordpress.com/2009/01/10/hernando-de-soto-it%E2%80%99s-about-paper-not-bubbles-stopping-the-meltdown/