Custom Search

Wednesday, April 01, 2009

Friction at G20

The group of 20 world leaders is having a rough start according to news reports.

Linkage here to the relevant stories for your reading.

Times Online: Brown and Obama deny G20 splits as protesters scuffle with police

The Star: New financial 'morality' urged

I would offer commentary, but nothing I could say would hit the perfect note as Reason has:

Obama and Brown are reporting that the developed world is not split over what to do next vis a vis world economic panic; Sarko and Merkel are threatening various forms of walkout if the "light-touch Anglo-Saxon" method of financial regulation isn't replaced with an apparently Gallo-Teutonic stranglehold.

At a joint press conference with Mr Brown, Mr Obama denied that there was any real disagreement on the need for governments to boost their economies, just normal discussions as to how best to do it.

"The truth is that that's just arguing at the margins," he said. "The core notion that government has to take some steps to deal with a contracting market place and to restore growth is not in dispute."...

Sure, Barack, sure. Maybe it's that consensus about lard-ass-sized government that's one of the problems in the first place. And couldn't they have done using a free web-conferencing service and save taxpayers the world over some precious coin?

Last but not least, a NYT op-ed describes the problem perfectly in pointing out the suggested "fix" is nothing more than a grander scheme involving the exact same things that got us into this mess to begin with!

Treasury hopes to get us out of the mess by replicating the flawed system that the private sector used to bring the world crashing down, with a proposal marked by overleveraging in the public sector, excessive complexity, poor incentives and a lack of transparency.

Let’s take a moment to remember what caused this mess in the first place. Banks got themselves, and our economy, into trouble by overleveraging — that is, using relatively little capital of their own, they borrowed heavily to buy extremely risky real estate assets. In the process, they used overly complex instruments like collateralized debt obligations.

The prospect of high compensation gave managers incentives to be shortsighted and undertake excessive risk, rather than lend money prudently. Banks made all these mistakes without anyone knowing, partly because so much of what they were doing was “off balance sheet” financing.

In theory, the administration’s plan is based on letting the market determine the prices of the banks’ “toxic assets” — including outstanding house loans and securities based on those loans. The reality, though, is that the market will not be pricing the toxic assets themselves, but options on those assets.

The two have little to do with each other. The government plan in effect involves insuring almost all losses. Since the private investors are spared most losses, then they primarily “value” their potential gains. This is exactly the same as being given an option.

Consider an asset that has a 50-50 chance of being worth either zero or $200 in a year’s time. The average “value” of the asset is $100. Ignoring interest, this is what the asset would sell for in a competitive market. It is what the asset is “worth.” Under the plan by Treasury Secretary Timothy Geithner, the government would provide about 92 percent of the money to buy the asset but would stand to receive only 50 percent of any gains, and would absorb almost all of the losses. Some partnership!

Linkage for the day folks.