Eryan Cobham

Thinker-tinker. Web Developer.

The Crisis at Hand

Ok, so I don’t know all that much about everything going on in the financial sector, the root cause of the problem, or how to solve it, but there are a few things about what’s been going on the past few weeks that kind of bother me.

First, I don’t trust this plan by Sec Treasury Paulson. It just doesn’t smell right to me. He’s claiming that the reason why Merrill, Lehman, AIG and all these banks failed is because they have all this worthless derivatives paper that is based on mortgages that people have stopped paying. So the solution he proposes is for the taxpayers to buy up this “worthless” paper at a price that is supposedly fair to both parties so that the companies can have enough capital to lend out and go about conducting business as usual. Now like I said, I’m no expert, but if all these smart financial people can’t put a good price on it to enable the companies to work the situation out themselves, then why should the government be doing it? As I see it, they’ll either end up overpaying or underpaying.

Now if they overpay, that means the U.S. government (the taxpayers) end up losing money on this deal, and I’m not a fan of that, obviously. But if they underpay, then the companies won’t have enough capital to sustain themselves anyway and they’ll still fail. If by some chance the government is able to set a price that everybody thinks is fair, then why should the government have to commit any money at all? If people know what a fair price is, then they’ll be able to make their own deals without our involvement. So why do they need $700 billion again?

Second, as I understand it, all this paper that these companies are holding and can’t get rid of is essentially the right to receive money from payments that people make on their mortgages. The problems started because people got mortgages that they couldn’t really afford, so now they can’t make the payments and the banks end up foreclosing on houses that nobody wants to buy (I’m going to put aside whether the blame for these mortgages lies on the people that agreed to them or the people that were pushing the mortgages, both sides should share plenty of blame).

So if the paper is worthless because people can’t/aren’t paying their mortgages, wouldn’t helping people restructure their mortgages in a way that is bearable for them solve all the problems? Less people losing their houses, more mortgages being paid on time, and so then shouldn’t the value of the derivatives rise as well? I understand some money would eventually be lost, since the home prices would fall, but I see no reason why people that bought the houses (and end up getting their mortgages restructured) shouldn’t take a little bit of a loss because they can’t sell them for a profit, and the companies that sold these mortgages shouldn’t take a loss by having the value of the instruments drop and be worth less in the long run. Unless that kind of adjustment happens things will just remain artificially high and invite another crisis somewhere down the line.

I don’t know if this analysis is overly simplistic, but it makes some sense to me. I don’t see why such a big deal should be made about saving these specific companies. Let them declare bankruptcy and let other companies pick over their carcasses. I mean, this country is supposed to be about capitalism and creative destruction right? So let it happen. I’m just getting flashbacks of the Patriot Act when somebody from this administration comes in front of Congress and says the proposed bill must be passed immediately otherwise there will be dire consequences. I think things will be fine until January 21. I just don’t trust Democrats to have the backbone to stand up to be steamrolled, especially during election season.