Arnold Kling  


Today's Theme: Regime Uncerta... Bruer Update...

The Washington Post has one of its better stories on the rise and fall of mortgage securitization. My favorite anecdote in the story is on the last page, concerning the head of a firm that evidently sold a credit default swap to Wachovia, which made increasing demands for collateral to back the bet.

Uderitz has a less legalistic view. "They were obviously having some major, major problems," he said. "I think there had to be a conscious shift in their thinking: Go get collateral from whomever we can. We have to save our *%&."

In my view, his last two sentences describe institutional deleveraging in a nutshell. As I point out in my written testimony, a stern sheriff is needed to stop companies from reaching into each others' pockets to grab short-term Treasuries.

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rpl writes:

Here's my favorite part:

The company fired the executive who had authorized the CDO purchases, and his replacement told O'Connor he wanted to get them off the company's books by year's end. He was willing to take just about any price.

O'Connor canvassed possible buyers and came back with a bid of 2 to 3 cents on the dollar. "Not that low," the executive said. A second bid of 8 cents was also rejected.

O'Connor found a new buying group willing to up the ante: 10 to 15 cents on the dollar. O'Connor thought he had a winner.

"I told the company that we had what I considered a very realistic buyer for the entire $40 million of assets," he said. "But after a couple of days, the corporation still rejected it.

Apropos of this week's Econ Talk, this positively reeks of regime uncertainty. They know they should dump the CDOs for whatever they can get for them so they can get on with their lives (and since CDOs are being valued basically at zero, it would actually improve their balance sheet, right?) The problem is, if the government comes along in three or four months with a big wad of bailout cash, the executive who dumped them for fifteen cents on the dollar will be the one losing his job. No, better just to sit tight and see what happens.

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