Let’s build our own stimulus package – day 2

So far no word on the Senate’s decision, so we might as well trudge on. Let’s start with a story.*

My neighbor Albert decided a couple of years ago to add on to their home. They live in a stable Brookfield neighborhood and have some decent equity. They also have some savings, primarily for their children as they head to college.

Finding the money was easy. They went to the bank, showed their financial statements and their first mortgage, had an appraisal done on the house, and shazaaam! there was money in the bank for their project in the form of a line of credit. They could write checks anytime they needed. The rate was tied to the market. There was the standard clause to call the loan if assets fell below the bank’s comfort zone.

Their other neighbor Betty was going through a messy divorce. He picked up and moved out, she hadn’t had a job in years while raising the family and couldn’t find one now, the house went into foreclosure. When it sold, the price was about 60% of the most recent equalized assessed value. The rest of the neighborhood wasn’t worried, though, because no one else planned to sell for a while. No one thought the foreclosure would really affect the long-term values of their properties.

Albert got a letter from the bank. His house, because of the neighbor’s foreclosure, was deemed to be worth 40% less on paper. His assets no longer met the requirement for lending. He had to pay back his loan within 30 days.

Even the kid’s college money wouldn’t cover the debt. The was no other savings, everything else was tied up in real estate. Really, all Albert could do was sell to make the payment. And he’d be forced to sell at reduced value because of the trouble Betty had. He was having to liquidate assets that would be worth more if he could just ride out the storm.

*(By now you have surely determined I’m making this up as an example.)

Welcome to mark to market accounting. Usually this FASB rule helps investors determine the properly estimated values of assets within a balance sheet. Right now the rule creates unbearable pressure on otherwise stable companies.

At the end of the Great Depression, FDR finally heeded a committee’s finding and temporarily removed mark to market accounting demands. Things loosened. Unfortunately, a World War broke out, so it’s a little hard to know how much the decision contributed to recovery, but there’s talk it did.

Here are three stories, one from Mark Sunshine and one, two from Forbes on the subject. If you are interested, they’re pretty easy reading.

The suspension need only last until the housing market stabilizes. It’s that market collapse that created so much write down on financial balance sheets. It’s that write down that caused the crisis in confidence that caused people to be lined up outside banks and the stock market to tumble.

And, there’s a really good chance that the write downs severely undervalue the assets held. In other words, the market may well be marking up in a few years about the time these are to be sold.

There’s been banter for months about pulling back on the current mark to market rule, but there’s been no action. Do it now, and there’s a good chance in a couple of months taxpayers won’t need to spend so much.

Today’s rumor of such a suspension has the DOW up nearly 3% at this writing. Oh, sure, Harry Reid wants you to think it’s because he’s so close to passing that stimulus package, but when you look at the advancing sectors, I’d think otherwise. Of course, it is just a rumor.

For those of you that want to throw money at this thing, I’ll work on a third idea over the weekend. It’s unlikely you’ll recognize some of it coming from a fairly conservative suburban housewife.

Comments

  1. Randy in Richmond says:

    A few weeks ago I spent a fun Saturday selling some attic and garage items at a local flea market. My pricing plan was that if I wanted to get $2.00 for something I put a $3.oo price-tag on it and let the negotiating begin.
    I realized this morning the Democrats in the Senate just used the same method on the Republicans as they debated the Stimulus. Remember the dollar amout of the bill from the House–it was 825 billion dollars. And this morning we are all being told of the ‘compromise’ bill in the Senate with all that fat being removed and the total amount of cost being reduced. The Senate Bill as proposed is approx. 827 billion dollars. You gotta give those Dems credit for jacking up the ante and then folding to give the impression they were giving up something.
    I would suggest the Dems flea-marketed the Repubs on this one and the American people are the losers because we will pay for it all–for a long time to come.

  2. J. Strupp says:

    I disagree. If they were smart, they would have started with a $2.5 trillion price tag so when Congress began trimming, say, $500 bilion off the package, they could still get it passed around what is necessary for real GDP recovery (maybe about $2 trillion is my guess).

    They low balled and we’ll most likely have to be back doing this again if things maintain there current course.

    My worry is that $800 billion doesn’t even get the pump primed. Hopefully stimulus packages in southeast Asia will help narrow this spending gap globally.

  3. Cindy:

    Suspending MTM acounting is the new craze these last few months I know. While I’m sure it will cause the market to jump for joy (temporarily) it’s doesn’t change the fact that the pieces of garbage on the balance sheets of big banks are still, well, pieces of garbage, no matter how the accountants want to value it. Secondly, be aware that banks are allowed to use the decrease in the value of their bonds (obviously this is happening big time these days) as PROFIT since it increases the bank’s equity position. Yes, they are allowed to use there increases in risk premium (and decrease in bond value) as profit. Who said imploding stock prices were a bad thing, hey?

    Take this, along with the article I posted yesterday regarding the huge pile of tax deferred assets the banking sytem is carrying, and I think it’s safe to assume that the big guys have more than there fair share of accounting loopholes to offset MTM valuations.

    MTM may, indeed, be a hinderance to the banking system’s ability to lend, but suspending MTM accounting won’t change the broader problem, which is the lack of economic viability of the banking system in my opinion.

    Blaming the accountant doesn’t change the fact that these guys leveraged their banks 30-40 time over and have no way of raising enough capital to support their balance sheets…….that is….besides leaning on Uncle Sam to string them along.

  4. It’s not a fad, it’s a tool. It’s been used before.

    J. – you’re going in kind of deep here. To be very candid, I have a hard time giving any of your arguments credibility when I also consider your views to nationalize banks and spend over double where we’re heading on a porkulus package.

  5. J. Strupp says:

    It has been used before. My point is that changing accounting standards ignore the problem at hand.

    Again Cindy, you are going to have a real problem with my opinions on this subject. They go against every principle that a good fiscal conservative like yourself believes in. I’m not trying shock you or anyone else with off the wall accusations.

    My assertion is that deflation is beginning to rear it’s ugly head in the global economy. Once it takes hold, it can amplify the crisis we see today to a point where it could take years to pull ourselves together again (think Japan 1990 but global). Consumer spending will not return to the pre-2008 levels in our lifetimes. Business investment incentives, although useful, will not be fully utilized when future profit potential is in question. Devaluing our currency faster than the rest of the world to boost exports is reckless, irresponsible and causes retaliation from other nations. In general, I is down, C is down and net exports will not bring us out of this mess.

    That leaves G to keep us out of the deflationary environment we are on the cusp of experiencing.

    Now I don’t advocate many of the specifics of the stimulus package. Actually, I find it irresponsible that the Democrats are using the package to ramrod through social programs they have always dreamed of passing. However, I do support a massive stimulus bill, focusing on direct investment into the economy. As Volcker proved 25 years ago, inflation can be painful but can be dealt with accordingly. Deflation is a MUCH different animal.

    Of course, we’ll have to eventually deal with the massive debt burden placed upon our children and fiscal responsiblity must actually be practiced this time around. But now is not the time to finally realize that deficit spending is devastating to the economy and suddenly change course. They’ll be plenty of time for Congress to focus on what led us to this point once we right the ship. But let’s right the ship shall we?

  6. Wow, just found your site! Love it!!!

  7. good grief, can’t even spell my own name!

  8. Angela – your site is spectacular. Thanks for stopping by.

    (Folks, click on her name above and prepare to be wowed.)

  9. Randy in Richmond says:

    I was wowed.

  10. Randy in Richmond says:

    January 6th, 2009

    “We are going to ban all earmarks — the process by which individual members insert pet projects without review,”
    President Obama

    http://firstread.msnbc.msn.com/archive/2009/01/06/1735189.aspx

    February 5th, 2009

    In defense of the Stimulus Bill:
    When was the last time that we saw a bill of this magnitude move out with no earmarks in it? Not one.”
    President Obama

    http://finance.yahoo.com/news/Obama-ratchets-up-the-apf-14284923.html

  11. J. Strupp says:

    Morning Cindy:

    I think you may find this op-ed by Goldman Sach’s CEO Blankfein interesting. I want to point out his view regarding MTM accounting, which is located in the latter half of the piece. It appears he has a different opinion on MTM accounting and, considering his company’s financial position relative to the rest of his competitors, Blankfein has a bit of credibility on the subject in my opninion:

    http://www.ft.com/cms/s/0/0a0f1132-f600-11dd-a9ed-0000779fd2ac.html

  12. J., I haven’t even read it yet, but don’t you think it matters that he has his hand in the cookie jar right now? Methinks that might influence one’s opinion.

  13. Yes absolutely. But remember that his company is also one of the only investment banks that adjusted to the pending MBS crisis before it happened by realizing MTM accounting is simply a shell game to make your balance sheet more attractive. Over leverage was the problem. He also is the only bank, to my knowledge, that recently refused further government capital injections. Maybe Sachs was simply lucky to see the pending implosion of the financial sector. Fine. But the fact is that his investment bank will be able to ride out the storm (most likely) while the others face insolvency.

  14. So if MTM is a shell game when prices are high, why not do away with it?

  15. Randy in Richmond says:

    Word is that Chief Tax Cheat, Tim Geithner, has delayed for one day announcing his plan to bail out the banking system. If he were to apply his personal money management skills to those of the banking industry, he could save them billions of tax dollars.

  16. The point is that suspending MTM is not going to be the savior of the banking system in our current situation. The problem runs much deeper.

  17. Yes, it does. But until housing stabilizes, it would be a good tool to use to prevent a second slide of confidence.

  18. Randy in Richmond says:

    Contrary to a phrase that I find many younger people today loath to say, I say it often–I have no clue what Cindy and Strupp have been discussing but I know it’s important. I do know that today my President told me to keep a lookout in my city to assure that the Government is spending the Stimulus money appropriately. I translate this to mean he doesn’t have a clue either.

  19. J. Strupp says:

    …I think anything that provides a boost to confidence has to be seriously looked into. I would be the first to say the suspension of MTM is not the worst thing in the world even though I consider it not to be the root of the problem.

    As for housing, we can only stabilize prices when we somewhat stabilize the sudden mass of unemployment . Until we do, the vicious cycle of unemployment leading to loss of consumer confidence, leading to more unemployment, leading falling house prices, leading to collapsing bank asset prices leading to tighter credit markets, leading to more unemployment will continue, unabated.

    ….this is where G comes in. To “prime the pump” you could say.

    …..and the conversation is right back where we started.

  20. Recessions are a necessary part of the economy. They heal on their own. G needs to put their head back in the sand.

  21. “Recessions are a necessary part of the economy”

    I think that in the long run that letting the recession run it course, not rewarding failure, along with some common sense measures like insuring that bank depositors get their money in case of a bank failure will be seen as the course of action that would have resulted in both in a shorter recession and a savings of zillions of dollars.

    Instead we will be in a deep inflationary pit with no end in sight. Through it all Obama will be hailed in much the same manner as the revisionist historians and media hail FDR, as some sort of savior.

    Of course a recession would cause some pain, some great pain, but it is a liberal tenet to have no pain in life and no resultant learning experience, whether it be keeping score and losing a soccer game, or something much more serious.