Wednesday, April 8, 2009

Ben Bernacke Has It All Wrong

An academic paper from economists at Harvard and Princeton concludes that Ben Bernacke has it all wrong. The paper is called The Pricing of Investment Grade Credit Risk During the Financial Crisis. The paper was written by Jakub W. Jurek, Joshua D. Coval and Erik Stafford.

The paper concludes that "recent credit market prices are highly consistent with fundamentals". The economists say "A structual framework confirms that bonds and credit derivatives should have experienced a significant repricing in 2008 as the economic outlook darkened and volatility increased. The analysis also confirms that severe mispricing existed in the structured credit tranches prior to the crisis and that a large part of the dramatic rise in spreads has been the elimination of this mispricing".

In plain English, this means that the entire effort by Ben Bernacke's Fed and Tim Geithner's plan to restore normal pricing to the credit markets is based on a false premise. That premise is that credit market pricing is "abnormal".

The assets are simply not worth what the bankers "wish" they were worth. That's why the bankers pushed so hard for the recent change to mark-to-whatwesayitsworth. The study concludes that the major banks in the US are insolvent.

The paper also concludes that following: The bailouts are just a big transfer of wealth; Efforts to bring buyers and sellers together in the credit markets don't work. The paper says that "any taxpayer dollars allocated to supporting these markets will simply transfer wealth to the current owners of these securities".

And finally the paper says "Policies that attempt to prevent a widespread mark-down in the value of credit-sensitive assets are likely to only delay - and perhaps even worsen - the day of reckoning".

The only questions that remain is how long can Bernacke/Geithner delay this day of reckoning and how much worse are they making the situation?

1 comment:

  1. Also see: Assessing Treasury’s Strategy: Six Months of TARP

    "On the other hand, it is possible that Treasury’s approach fails to acknowledge the depth of the current downturn and the degree to which the low valuation of troubled assets accurately reflects their worth."