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Thursday, July 7, 2011

Are bank accounting rules prolonging the agony?

It seems to me that the long, drawn-out agony of the current recession is being exacerbated by the accounting rules that let the banks off the hook for the loss of value in the housing market, so long as they can stretch things out and don’t have to recognize the losses that have occurred. The silly thing is that everyone knows that the value is gone.

The homeowner certainly knows that the value of his home is about 60-70% of what it was a few years ago. The assessor knows that the value is gone; that’s why the assessment and taxes are down. Even the bank knows that the “assets” that they have on their books are no longer worth what they are on the books for; however, they don’t have to admit that until such time as the homeowner defaults and they have to foreclose or the homeowner forces the issue with a short sale. Certainly the government knows that up to 30-50% (depending upon what area the home is in) of the value of American Homes has vanished; yet program after program refuses to deal with that reality head-on.

The simple truth is that all of the holders of the mortgages on these assets need to be forced to adjust the value of those assets, take their losses and get on with life. Would that be painful – of course it would be. But is this “death of a thousand cuts” method of dealing with the situation any less painful – no, it’s just pain in slow motion. The government certainly has it in its power to help the lenders get through what might be called a reset of their books, but relaxing some of their capital requirements temporarily while they eat the big losses involved and reset or re-issue all of the mortgages involved at the new values and perhaps at today’s rates.

Would implementing this massive reset idea be a huge undertaking and costly for the lenders involved? Sure, but likely no more costly that the slow process of taking losses one foreclosure or short sale at a time. In fact an argument could be made that this method could be less costly than the cost of all of those foreclosures.

What about the stock holders in those institutions, you may ask? Well, it’s like they are standing proudly in front of a Hollywood set – you can see the front of an impressive looking building (the “assets” that are on the books at false values), but you can’t see that it is just a fa├žade with nothing behind it. Like on a Hollywood set. Are the stockholders really any better off holding stock in a company with assets that are at hugely overstated book value but of much less real value? I think not.

I’m sure that the lenders will say that this is impractical, that the losses would be too great. To them I would respond that the losses have already happened and that just covering your eyes and refusing to see them won’t make them go away. The hundreds of thousands of underwater loans are not going to magically regain all of that lost value if you just wait a few months or even a few years. It’s gone. You’re $400,000 ”asset” is now a $250,000 liability and you need to deal with that and not try to ignore it.

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