Tuesday, February 24, 2009

A Proposal on How to Clean Up the Banks

This is an interesting proposal to limit the downside for taxpayers and give bank shareholders some hope to keep their investments from going to zero.

I have two concerns about the plan:

1. It assumes that the government can sell these toxic assets for something like their hold to maturity value sometime within the next two years. I am not sure that this is a valid assumption given that most of the MBS's and CDO's were not really meant to trade in the aftermarket. They were meant to be sold once, at their par value, and then held to maturity. Now that we know that these assets are not worth their par value, any buyer would only pay a significant discount to their hold to maturity value, which I believe is non-zero. It is not clear to me that a realistic value can be put on these assets anytime in the next two years. More likely we would have to wait 10 years to see how the assets actually performed and then calculate their value from that.

2. A related point is that this plan also assumes that bank executives and shareholders would be willing to give the government control over their destinies. Granted, they may already be past the point of stopping bankruptcy or nationalization, but if they participate in this plan they are essentially betting their jobs and/or their money on how much their assets can fetch.
About Timothy Geithner
Read the Article at HuffingtonPost

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