At the heart of the mark to market crisis is a complaint that banks have to write down billions of dollars worth of assets to levels they regard as unrealistically low, which hurts banks’ ability to maintain regulatory capital requirements. To meet the requirements after the write-downs, banks then have to raise new capital. Knowing this, investors have been selling bank stocks to avoid dilution.
So far proposals to solve this problem have focused on either attempting to have the government inflate the market value of the assets, inject new capital into the banks or obscure the accounting rules so banks can go on pretending the asset values haven’t dropped. None of these will work. Buying the assets has proved impossible, the capital injections have their own problems and fiddling with the accounting rules risks making investors even more sceptical of bank balance sheets.
So what do we do? We should simply ease the capital requirements. This can be done by either actually lowering the capital requirements or allowing banks to “mark-up” certain types of assets for the purposes of meeting the regulatory requirements. Instead of indirectly getting at a problem caused by regulatory compliance, we should address it directly. This has a major advantage over all other plans: unlike market pricing or investor confidence, the regulatory requirements are something that are actually in our power to control.
It’s also the most honest and transparent reform we can make. It makes it perfectly clear to the market what the rules of the game are and doesn’t further confuse investors about asset values.
This was an idea we first heard from Jim Chanos, the famous short-seller. Yesterday Holman Jenkins pointed out that Warren Buffett supports it as well. Maybe if we start calling it the “Buffett Plan” rather than “regulatory forbearance” we can actually get some support for the idea.
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