Arnold Kling  

The G 20 Speaks

Windbags and Modernity... The Recalculation Model, Simpl...

They say,

Consistent and coordinated implementation of international standards, including Basel II, to prevent the emergence of new risks and regulatory arbitrage, particularly with regard to Central Counterparties for credit derivatives, oversight of credit ratings agencies and hedge funds, and quantitative retention requirements for securitisations.

In other words, having utterly failed in their attempts to regulate their way to a sound financial system, they are going to try again. But they refuse to ask deep questions. Such as:

What is wrong with requiring mortgage borrowers to make a down payment of 10 percent or more? More generally, why continue to encourage Americans to have mortgage debt up to their eyeballs?

What is wrong with old-fashioned lending by banks, without securitization? Why do we want to go to all this trouble to put the Humpty-Dumpty of securitization back together again?

Why do we continue to think in terms of institutions that are too big to fail? Instead, why don't we think in terms of institutions whose only debt that has government backing is their insured deposits?

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COMMENTS (7 to date)
Don the libertarian Democrat writes:

I agree with you completely. However, it seems that such beliefs are considered unrealistic. There will be some decent changes enacted, but they don't come near the roots of the problems. But, from my point of view, this is what happened to the Chicago Plan. The miracle is that, at least in the thirties, many people were actually considering it.

Steve Sailer writes:

As long as securitization equals secritization, then securitization has fundamental problems.

Drewfus writes:

"What is wrong with requiring mortgage borrowers to make a down payment of 10 percent or more?"

Without artificially low interest rates creating a housing boom with the corresponding collapse of mortgage lending standards, why wouldn't market forces alone result in prudent lending behaviour? Are you suggesting market failure is a permanent feature of mortgage markets?

winterspeak writes:

ARNOLD: Banks should be in the business of assessing credit risk. The simplest way to create incentives for accurate credit risk analysis is to have banks keep the loans they make on their own books. Ban them from the secondary market.

Mortgage securitization, which is meant to be such a boom, didn't get started until the 70s. But there was not shortage of homes in the 50s and 60s? What public purpose did mortgage securitization, which is meant to be an example of good securitization, serve? The US had plenty of houses, at affordable prices, without it.

Matthew C. writes:

Arnold, I applaud you for suggesting 10% down. I'd go even further and suggest 20%.

Of course, requiring either 10 or 20% down would collapse existing home prices enormously, a good thing in my book, but anathema to our current asset-bubble economic system.

Imagine, people buying homes as a consumer good or rental income source instead of a ponzified financial asset. What a concept! Then we might invest in actual productive sectors of the economy instead of housing and finance. . .

Joe Cushing writes:

securitization is very efficient at moving money from geographic places that have it on deposit, to places where it is needed as loans. When banks could only loan based on their own portfolios, banks in one part of the country would have excess deposits while banks in another part would have excess demand for loans. This was no good for depositors who got low rates and it was no good for borrowers who got high rates.

With large banks, some of these constraints can be dealt with internally but for regional or local banks there has to be an efficient way to move funds around the world. There has to be a way to move money from those who have it to lend in say Florida to those who need to borrow it in say Chicago. There has to be a way for banks with more deposits than they can loan out locally to lend to people who need the money in other places.

L. Burke Files writes:

Excessive regulations create a more fragile economic system. Similar to genetic engineering does to a species. If you work all of your algorithms and developed an optimized creature, that creature is only optimized for that moment in time. All of your assumptions about what makes this creature optimal for its environment are for today and not tomorrow. While we can theorize about tomorrow it is only theory. Well the same is true for economic creatures. If an economic creature is created and optimized it is optimized for the moment. The problem we get into is that the optimization is only for the moment. We have no clear understanding of tomorrow. While many of the economic creature can evolve they are limited by the serious impediments we place in the way of the economic evolution of our optimized model / creatures. It has become static. The danger is that we have cloned this model all over the planet and it has become the dominant creature and there is only one single design of the creature. This creature is so perfect it has gown large and dominates the environment. The loss of this creature could severely effect the environment since so many other creatures have become interdependent on this creature. Lastly we have enshrined our vision and design of this creature into the law of the land. The creature cannot evolve, its design has become static by statute (moribund).

By doing all of these things we have created optimized moribund creatures bound to the rewards of the status quo.

These designs are terribly susceptible to disruptive innovation. And if any part of the creature is mal adapted to the future environment all of the creatures will fail in the exact same way. It does not matter how many creatures you have, all will fail. The argument of too big to fail misses – the flip side of all to similar to survive.

Lack of variation creates a fragile population – no matter the size of the population.

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