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谢国忠

谢国忠博客:只说出心中真相

 
 
 

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麻省理工学院经济学博士

个性介绍: 1960年出生于上海,1983年毕业于上海同济大学路桥系,1987年获麻省理工学院土木工程学硕士,1990年获麻省理工学院经济学博士。同年加入世界银行,担任经济分析员。在世行的五年时间,谢国忠所参与的项目涉及拉美、南亚及东亚地区,并负责处理该银行于印尼的工商业发展项目,以及其他亚太地区国家的电讯及电力发展项目。1995年,加入新加坡的Macquarie Bank,担任企业财务部的联席董事。1997年加入摩根士丹利,任亚太区经济学家,2006年9月辞去该职务。

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beyond bear stearns  

2008-03-31 22:49:15|  分类: 默认分类 |  标签: |举报 |字号 订阅

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Beyond Bear Stearns(译文在这里)

谢国忠博客 http://xieguozhongblog.blog.163.com/


The Fed has effectively removed liquidity problem for investmentbanks by making its discount window available to them. The flash pointin the unfolding crisis has moved elsewhere. Local banks are probablynext on the line. The following is in the current Caijing Magazine.

Beyond Bear Stearns

BeforeI departed for Fiji, my colleagues at the World Bank regaled me withcannibalism stories about the place. Fiji was historically known as'Cannibal Isles'. One colleague gave me a book that a missionary's wifewrote one century ago. The book portrayed in vivid language the gorydetails of multiple ways to practice cannibalism. I don't know why amissionary's wife had such an intense interest in this subject. 'It'snot for the food', one senior colleague drove the message home, 'theyenjoy it'. The education had quite an effect on me. After eating steaksfor years, one develops a special fear for becoming the steak. After myarrival, I was relieved to learn that Fijians had become devoutChristians a long time ago. Further, they never liked thin men anyway,the locals told me. That was quite a relief.

Inthe book by the missionary's wife, it described in gruesome details acannibalism ritual. A giant stone oven that fits a human inside standsin the middle of an open ground. Inside, burning woods heat up a layerof rocks. All sorts of spices and sauces are neatly lined up on a tablenext to the oven. A throng of tribesman in straw skirts dance around.Two large tribesmen drag an unlucky man towards the oven. The dancingheats up. Everyone's eyes light up, expecting a sumptuous stone grill.

Thedeath of Bear Stearns reminds me of the scene. The hapless Bear Stearnswas dragged by the Fed and the Treasury to the oven with JP MorganChase standing next, smacking its lips. The 87-year old investment bankmust have had the same sensation on the way to the oven as countlesscannibalism victims felt in Fiji a long time ago. If I were BearStearns, I would swallow plenty of poison on the way; it would feelbetter knowing JP Morgan Chase would get indigestion or worse. Thisstory has sequels.

Bear Stearns wasbankrupt. After going through its books, JP Morgan Chase declared thatits capital was negative. Of course, JP Morgan Chase had the incentiveto understate Bear's value. But, with the Fed and the Treasury on theside, it wouldn't have the guts to declare Bear bankrupt if it weresolvent. Only days ago, the senior executives at Bear were confident ofits $17 billion capital. The Fed had to assume risk on $30 billion ofmost illiquid assets (euphemism for very bad assets) on the Bear's bookto convince JP Morgan Chase to take it over. JP Morgan Chase paid anotional value of $2 per share or $279 million in total. Bear's shareprice traded as high as $170 only one year ago. JP Morgan Chase appearsto be raising the offer to palliate the infuriated shareholders of BearStearns. The Fed is hesitant to approve a higher offer, as it is afraidof the impression that it is using taxpayers' money to bail out theshareholders of a failed financial institution. The legal wangle overthe deal could drag on for a long time. But, under the watchful eyes ofthe government, Bear Stearns is folding into JP Morgan Chase regardlessof the development.

Many argue that Bearfailed due to a bank run, i.e., its customers wanted their money backat the same time. They said the same about Enron's collapse. Theargument seems to suggest that the bank run is at fault. It confusespeople with a false causality. The bank run began as Bear's customerssuspected it was bankrupt. The due diligence by JP Morgan Chase provedthat the market was correct. When a killer is sentenced to death, don'tblame the executioner for his death; blame the killer.

Amore relevant implication is how many financial institutions arebankrupt like Bear. The Bear's case reveals that the capital accountingat financial institutions is not reliable at all. Banks can have assetstwelve times their capital, according to the BIS rule. Investment bankshave 25-30 times, as they are not regulated by the BIS. As most globalbanks have investment banking arms, their assets are much more than 12times their capital. Further, with the liberal use of off-balance sheetvehicles like S.I.V., their effective asset base is harder to measure.The high leverage makes financial institutions vulnerable tobankruptcy. If an investment bank has assets 30 times its capital, ifasset price drops 3%, its capital is gone. Markets can move this muchin a day. Of course, most banks claim they have sophisticated riskmanagement tools. The most common is value at risk or VAR. It claims tolimit the loss within a day. Most big investment banks have VAR around$100 million. This technique has lost its credibility completely. Justlook at billions of dollars that the banks have so quickly lost.

Ifother banks price their assets like JP Morgan Chase did to Bear's, morebanks are probably bankrupt. That raises the question why Bear Stearnswas singled out while others are still standing. Not every bank withoutcapital should die. The franchise value-the ability to earn returnabove the cost of capital is significant for some. Financialinstitutions average price-book ratio of 2. Even if the physicalcapital is zero, the franchise value is still significant. The marketis trying to decrease industry capacity by pushing weak institutionsout of business to boost the franchise values of the remaining ones.Even if the remaining ones are technically bankrupt, their operatingincome could pay off their liability.

Whilefolding Bear into JP Morgan Chase, the Fed made an important change tosupport the securities industry; it would open discount window tonon-banks like investment banks and would accept mortgage securities ascollaterals. This development would stabilize the securities firms. TheFed would effectively accept mortgage papers as collaterals in exchangefor cash. The Fed says it would apply a haircut to the collateralvalue. In future, the Fed, not the market, would determine theviability of an investment bank. It could decide what haircut to applyto collateral value. This is a judgment call and could be influenced bythe Fed's desire for outcome. While the Fed now has the tool to stopanother collapse like Bear Stearns's, it could end up owning hugeamount of bad assets. The Fed could be exchanging nationalization ofbad debts for the stability of the securities industry.

Thecollapse of Bear Stearns marks a milestone in the unfolding creditburst. If the Fed could have allowed Bear Stearns to be liquidated, itwould have marked the bottom of the current bear market; investorswould know the true prices for the vast amount of illiquid papers. Itmay have meant the collapse of several more investment banks. But, thecatharsis would have brought transparency and re-established trust inthe financial system. Instead, the Fed has made it possible for theremaining investment banks to avoid a liquidity squeeze. The investmentbanks would write down their bad debts gradually with their income,just like Japanese banks did. Every quarterly earnings report wouldcome with a write-off. The crisis is temporarily eased by stretchingthe adjustment period.

The storm may shiftfrom the liquidity problem at investment banks to other areas. The Fedmay be able to stop the liquidity problem at financial institutions. Itcouldn't stop property price declining and mortgage and constructionloan bankruptcies. No matter how hard the Fed pumps liquidity; massivecapital losses in the financial system mean credit contraction, whichmeans a big recession. Twenty million households in the US may seetheir home value dropping below their mortgage debts. They are likelyto default and return their properties to their funding banks. $300 bnconstruction loans could default en masse as the construction marketcollapses. The defaults would force financial institutions to write offtheir capital and to stop the game of writing off losses gradually. Theeye of the storm is shifting to small local banks that are heavilyexposed to construction lending. The failures of such banks will startanother wave of panic. We may have to wait one to two months for thisdrama.

The Fed seems determined to bail outeveryone. It prevents market from clearing. Hence, financialinstitutions can use 'judgment calls' to value their assets. When localbanks begin to fail, even though these banks may go out of businesslike Bear Stearns, the Fed could prevent the liquidation of theirassets from taking down the financial system. Japan's adjustment lastedfor a decade because Japanese government didn't force banks toliquidate their bad assets; the banks wrote off their bad assetsgradually with their operating income. The US is doing somethingsimilar. This gradualist approach kept credit and economy fromexpanding for a long time.

Even though theFed commented on inflation again at its latest rate cut, I am convincedthat the Fed wants to inflate debts to lessen the adjustment pain.Foreigners hold $16 trillion of the US's financial assets. Inflationand dollar devaluation are good for Americans. In particular, middleand low-income Americans are in net debt position. Inflation is goodfor their balance sheet. The only way to stop the Fed is for foreignersto sell the US treasuries now, which would push up bond yield andcreate pain for Americans to find long-term financing. So far,foreigners, mostly central banks, are watching their assetsdepreciating and not taking actions. Hence, the Fed has no incentive tochange its policy. Gradualist approach in unwinding the credit bubblegives inflation time to decrease the real debt burden, which gives theFed powerful incentives to bail out everyone and stop the market fromclearing. Further, the resulting weak dollar boosts the US's exports,i.e., exporting the US recession around the world.

Towhat extent Ben Bernanke's belief rather than national interest isguiding how the Fed is handling the crisis? Most of the elite in the USsupport the Fed's approach to stretching the adjustment out andinflating away debts, because they believe that American people are nottough enough to pay back what they owe. Some attributes the Fed'sapproach to Ben Bernanke's fear of 1930-style debt deflation. Mosteconomists blame the Fed's tight monetary policy for the depression inthe 1930s. The mass bankruptcies of banks then triggered a viciousspiral of asset deflation and bankruptcy-induced liquidation. Mr.Bernanke concluded a long time ago that the Fed should flood thefinancial system with money after a financial crisis. The Fed'sapproach partly reflects Mr. Bernanke's belief.

Thebelief of the previous Fed Chairman, Alan Greenspan, has broughttoday's calamity. He is probably the most overrated man in the world.So many people believed his magic in boosting confidence by justalking. He was just a bubble blower! Since the Asian Financial Crisisin 1998, globalization and IT revolution increased productivity andkept down wage in high income economies. Hence, the sensitivity ofinflation to money growth declined. Central bank should have allowedprice to fall to reflect the rising productivity. For example, theprices of electronics products always decline due to risingproductivity. The world was like the electronics industry. Instead, Mr.Greenspan inflated the prices of services like haircuts or restaurantmeals to offset the declining prices of shoes and electronics. He didit all in the name of price stability. To offset the natural tendencyof price declining due to high productivity, he pumped a lot of moneythat led to the NASDAQ bubble in 1999-2000 and the property bubbleafterwards. Greenspan's magic came from printing money with abandon ina low inflation environment, which caused the bubbles. History willjudge him harshly.

Mr. Bernanke's belief inan inflationary solution to a property burst may generate severe costsin the future. There is no free lunch. Inflation seems like a freelunch to the US now as it lessens its debt burden at the expense offoreigners. However, the loss of the US's credibility and the risk tothe US dollar's status in the global economy could outweigh theshort-term benefits. The US lost its edge in manufacturing in the1980s. Its competitiveness has depended on R&D intensive industrieslike defense and medicine and service industries like finance andentertainment. Finance is probably the most important sector to the USeconomy. It keeps the dollar the currency for global trade and finance.The benefit of the dollar's status seems to sustain 3% of GDP incurrent account deficit for the US economy. The dollar's status maycarry $10 trillion of value to the US economy. The Fed's policy coulddestroy the dollar's status. The loss of long-term benefit to the USmay exceed the short-term benefit from inflating away some debts.

Asthe Fed makes unlimited amount of liquidity to investment banks (mostbig commercial banks have investment banks), the battleground in thecredit crisis shifts to small local banks. They are heavily exposed tothe declining property sector. The construction lending alone exceeds$300 billion. The defaults from this sector could become a tidal wavesoon. In the next three months, the Fed may have to decide if to bailout these banks. If these banks liquidate their assets, the decliningprices would feed back to investment banks that carry similar assets ontheir balance sheets. Of course, the Fed could allow to use the badassets as collaterals to borrow from it, another step down the slipperypath of nationalizing bad debts.

Inaddition to capital losses, the financial sector faces shrinkingbusiness prospect. The financial industry accounted for 40% of earningsamong all listed companies at the peak from 5% twenty years ago. UnderMr. Greenspan's loose monetary policy, the financial sector earnedmoney from riding the asset bubbles. As the world returns to aninflationary environment, bubbles are hard to sustain. Hence, thefinancial sector may need to downside by half or more to fit the newbusiness environment.

Overcapacity becamea serious problem for the financial sector after the NASDAQ burst in2000-01. The credit bubble happened afterwards as excess workforcecreated businesses for themselves. The delay in downsizing was a bigfactor in causing the bubble. The day of reckoning is finally here. JPMorgan Chase will only pick up a small part of Bear Stearns and shutsthe rest down. Big commercial banks may have to exit the investmentbanking business that they went into ten years ago. Investment banksmay have to merge. In short, the pain on Wall Street is just beginning.

TheFed's inflationary policy makes life difficult for rest of the world.Japan is already in recession. Europe may follow in the second half of2008. The OECD economies may grow at 1-1.5% from 2.5% last year.Emerging economies are doing better. Thanks to the large foreignexchange reserves, they can continue to invest despite weakeningexports to the OECD block. High commodity prices, thanks to the Fed'sloose monetary policy, are a big help. They may be able to grow at6.5-7% in 2008 from 7.9% in 2007.

As theFed stabilizes the investment banks, financial markets may improve inApril or even May. I suspect that the next storm will hit soon when theUS's local banks begin to fail around the mid of the year. Theattractiveness of gold is inversely correlated with stock market. Whencalm returns like now, gold price declines. It resumes climbing whenthe turmoil returns.

谢国忠博客 http://xieguozhongblog.blog.163.com/

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