Slamming Barn Doors

A real quick one this evening.

Arnold Kling posits some interesting ideas on what happened during the crisis, what went wrong and what, if anything, helped stem the plunge.

Relative to what I expected in 2008, more large banks survived and more small banks failed. That could very well reflect that my impressions were wrong. Alternatively, it could be that TARP raised the franchise value of large banks relative to that of small banks, shifting the government’s losses from TARP to the FDIC.

Relative to what I would have liked to see, the process of getting people out of homes they cannot afford and allowing home prices to reach their natural level has been dragged out. This may have redistributed losses across institutions and over time. Perhaps FHA, Freddie Mac, and Fannie Mae are taking losses that otherwise would have been incurred by private banks.

We do not know what is going on with the Fed’s portfolio of mortgage securities. Have they appreciated in value, or has the Fed absorbed losses that otherwise would have been taken by the banks?

If AIG survives as a going concern, is that because (a) the losses on its credit default swaps were much lower than people feared two years ago or (b) the value of the lines of business that it sold off since then was high enough to cover large losses?

The insider narrative has always emphasized panic and illiquidity. The outsider narrative has always emphasized bad investments and insolvency. In the insider narrative, the TARP halted the panic and restored confidence. The apparently large declines in bank asset values were due to temporary market malfunction, Now that the market is functioning again, the assets are being restored to reasonable values. In the outsider narrative, the losses were genuine. The dodgy assets did not recover their values. They just got shifted around.

The outsiders ask, if TARP worked, why did the real economy take such a huge hit? The insiders insist that without TARP, the hit would have been even worse.

There are some facts out there that make it difficult to argue for the outsider narrative. There are facts out there that make it difficult to argue for the insider narrative. I recommend trying to keep an open mind.

The emphasis is mine. We are woefully short of information that would help to determine what went wrong and thus assist in stemming off the next crisis. Politics has stemmed our access to much of what we should or would like/need to know. Things like Dodd-Frank, Basel lll and the new consumer protection agency are knee jerk reactions based on nothing more than biases and advancement of ideological agendas.

Kling’s advice to keep an open mind is well taken. Unfortunately, technocrats have not adopted that approach, choosing instead to slam shut barn doors though they know not which ones the horses escaped from.

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