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Wednesday, September 24, 2008


ely: bailout not necessary

through yves smith, the IRA interview of banking guru bert ely. this is an eye-opener.

A banking industry expert, Bert Ely, who has a stellar track record in predicting crises and calling false alarms says that the banking industry can handle this mess internally and does not need subsidies.

ely's cobbled quotes:

I have run the numbers looking at the capacity of the industry to pay the tab. Assuming that bank insolvency losses don't get way out of line, which I don't think they will, then the industry can handle it. It's not going to be cheap, but the banks can handle it and clean up their own mess. The losses will feed back through the industry to depositors and borrowers in the form of lower rates on deposits and higher cost of loans....

There is absolutely no need for the Treasury to have the authority, as you suggested, to "inject capital into solvent banks that are temporarily unable to raise new capital." If a bank truly is solvent, it can raise additional capital or sell itself, if its present owners are realistic about what their bank is worth. The reason solvent banks have a problem raising capital, or selling themselves to a stronger bank, is that they set their price too high, as did AIG. ... There is absolutely no need for the taxpayer to subsidize banks so they can stay independent, provided no barriers are erected to prevent new entrants into bank or specific banking markets.

... we need to get ruthless investors inside troubled banks to get these banks and their bad assets cleaned up and/or sold. That is what should have happened at AIG, but unfortunately did not.

... The housing bubble has to be allowed to collapse in order to clear the markets. We have a very necessary correction process underway. But this process creates a lot of pain and loss. I don't like that, but we have to clean up the mess and take the pain in order to get the economy back into balance. In collapsing bubbles you have collapsing companies. Japan tried to muddle through and they had a lost decade. I hope we are not going to do that...

i have read a lot of economist opinion over the last week (and further back), and most have called the bailout necessary, inevitable or both. certainly most systemic banking crises have resulted in government intervention and recapitalization. ely has a fine reputation, but he is also a decidedly libertarian figure -- it would be his natural inclination not to intervene as the market clears.

as i read it the essence of what ely is suggesting is that, while some market entities are insolvent, the system is not. the total losses ought not overwhelm total capital, and in individual institutions where that does occur and no willing buyer can be found there is the FDIC -- which is funded out of bank insurance premia, sure to rise in coming years.

to be sure, however, we are coming out of one of the greatest credit bubbles of all time. the adjustment envisioned by ely -- even if it came off in an orderly fashion, regardless of how workable from an operational standpoint -- would likely result in an economic depression as banks wrote off bad debts, destroyed capital, contracted lending and restored a more sustainable proportionality to the rest of the economy. it is this outcome that the government broadly aims to either slow or (delusionally) avoid entirely with the plans under discussion.

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