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Thursday, February 26, 2009


on the ineffectiveness of TALF

the federal reserve bank's major foray into kickstarting the private credit securitization markets, known in the arcana as the term asset-backed securities loan facility, or TALF.

tim duy splashes some cold water on the higher hopes.

It has always seemed to me that TALF would fall short of the mark. The key constraint:

Eligible collateral includes U.S. dollar-denominated cash ABS that are backed by auto loans, credit card loans, student loans, or small business loans that are fully guaranteed by the SBA, and that have a credit rating in the highest investment-grade rating category from two or more nationally recognized statistical rating agencies and do not have a credit rating below the highest investment grade rating category from a major rating agency.

The expansion of TALF to CBMS also requires AAA-ratings. I suspected that limiting the program to investment grade securities would severely curtail the effectiveness of the program for one simple reason - that, relative to expectations of officials, investment grade borrowers are relatively few, and they have maintained that status by not accumulating excessive debt, so already they are not inclined to borrow. The spending bubble was not driven by high grade debt; it was driven by low grade debt disguised as high grade debt. Focusing on high grade debt as the solution will thus prove insufficient to give the economy much traction.

duy's concerns encompass both new and existing securitizations, many of which used to be triple-a but are now impaired. TALF is beginning in earnest now, the probability that it will do much to relieve the balance sheet pressure on lenders seems minimal.

the harder truth -- which no one in the political sphere seems prepared to accept -- is that securitization is mortally wounded for the duration of the debt unwind. the process of securitizing credit will reemerge in time as the system regains balance sheet capacity by working out the bad debts that poison so many large entities, but from a level of indebtedness far below what we have now and with an intensity unlike anything seen in the boom. washington cannot countenance the notion because it means an ongoing credit collapse, with everything that implies, for the duration. but what they can handle does not delimit reality.

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It seems to me that the biggest problem in this whole banking mess is the share holder equity piece of the puzzle that everyone has missed.

Take these banks (no nationalization though) private and let them sink or swim on the business of banking, not insurance, nor other fancy financial products. If they fail, then so be it. Those that can adapt back to the business of loaning money and taking deposits will be stronger. I tend to think that if these weren't stock companies, then the constant fees charged would be minimized.

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