At the height of the housing bubble Mr. & Mrs. Smith bought that high-rise condo on Miami’s Beach. They paid $1 million and did not have to pay anything down as several aggressive mortgage companies were competing for their business. Three years later, Mr. Smith lost his job. Unfortunately, real estate prices were collapsing around them and they were unable to sell their condo. Like many others, they simply vacated the premises and walked away from their dream house. Bank ABC had bought the Smith’s mortgage and was carrying their property on their balance sheet as an asset valued at $1 million. Following the foreclosure, a local real estate appraiser valued the property at $250,000. After a year on the market, the Bank lowered their asking price to $200,000. Now, what is the true amount the Bank should carry this asset on their balance sheet – $1 million, $250,000 or $200,000? Current FASB accounting rules requires the Bank to write down their asset to its Fair Market Value, or $200,000 at this time. Now keep in mind that Bank ABC has capital requirements it must maintain to remain solvent. By writing the asset down from $1,000,000 to $200,000 it automatically raises their capital requirement.
Since Bank ABC has 350,000 mortgages similar to the Smith’s, suddenly the bank is insolvent and they place a hurried call to the FED over the weekend. Using taxpayer TARP funds, the FED agrees to “loan” Bank ABC billions of funds by purchasing the Smith’s mortgage from the Bank for $1,000,000. Congress tries to find out how much the FED paid for this asset but was told it’s impossible to distinguish. As a result, the public never does find out how much the FED is overpaying for these worthless assets. The FED tells the public this was a “good investment” because now the government owns the Smith’s property. Knowing that the property was “distressed”, a real estate opportunist offers and actually buys the condo for $100,000. Who absorbs the $900,000 loss? If your answer is the taxpayer you are correct. Bank ABC, who made a poor decision to buy this loan from the mortgage company in the first place is whole. Their capital structure is fine and they have now have TARP money to buy or make more loans. They’re free to make more bad investment decisions if they choose because now they know there is a government willing to bail them out when needed. The Smith’s mortgage company who made a loan with zero down from a client who did not have the financial wherewithal to take out the mortgage in the first place is whole. They already sold the Smith’s mortgage for the full amount to Bank ABC. They are ready to commit the same mistakes at the next boom cycle. So the only loser is, you guessed it, the taxpayer…and here’s the worst part – nothing has been fixed to eliminate all this from repeating itself again and again.
This story has repeated itself with thousands of banks around the country. The FED realizes now that the mortgage black whole is deeper than even they originally thought. So now they are putting a huge amount of pressure on FASB to change the accounting rule that will allow Bank ABC to continue to carry the Smith’s mortgage on their books at $1,000,000 even though true market value might really be only $100,000. They argue that this will allow the banks to inflate their assets by millions or billions and therefore forego having to raise additional capital. This would gravely misrepresent the financial picture of any bank. Investors would be blind to what was actually happening. The FED has then suggested keeping two sets of books. One that allows Bank ABC to carry the Smith asset at $1,000,000, and then a second set of books to show its true market value.
You simply can’t make this stuff up. There literally are no rules anymore except the rules that will allow the criminal politicians to accomplish their agenda. Since they are no longer held accountable themselves by a misinformed, disinterested populace – there are no consequences.
What is missing throughout this entire bailout/stimulus process is the trust that our capitalistic system needs to have failures flushed from our economy. Bad management and unwanted products need to be bankrupted to allow room for those who can do it better. If AIG or GM was allowed to fail tomorrow, there would be someone who step up, create a new company, selling better insurance and better cars. Employment eventually would go up not down. This bailout rewards failure. It rewards failure because those who failed are friends of the governing elite or who carried out the game plan of the governing elite. This perpetuates failure and can be seen throughout history, most recently in the Soviet Union.
The problem we face is that it won’t change until we change it. The task seems overwhelming. We have to look inward and start by each one of us doing the right thing and letting our voice be heard. We cannot be intimidated by a complicit media. It’s a daunting calling, but then again the stakes are terribly high.