Wednesday, October 1, 2008

Raison garder

From Michael Mussa, senior economist, Peterson Institute (Global Economic Prospects: Surviving a Mild Case of Stagflation, September 26, 2008):

« The likely economic significance of recent developments in global financial markets should, however, not be overstated. Despite the wailing from Wall Street that the Federal Reserve and the Treasury must act ever more aggressively to save financial firms and hence the US economy from disaster, the fact is that an actual recession has not started through the first half of 2008. And the possibility that the US economy may record modestly negative growth during the second half of this year arguably owes something to the upward spike in oil and gasoline prices as well as to the economic consequences of the continuing turbulence in US financial markets.

Provided that the extreme disruptions of short-term credit markets in recent days are substantially resolved with the aid of the new financial support package, severe economic consequences from financial-market turbulence are likely to continue to be avoided.

The losses reported by financial enterprises are impressive both in absolute size and relative to the losses reported in the initial stages of past recessions, including the deep recessions of the mid-1970s and early 1980s. The primary reason why these losses reported by financial firms have been so large in the present episode, however, is that the “mark-to-market” accounting now generally applied to these firms requires much more timely reporting of changes in values of assets and liabilities on their balance sheets. In earlier episodes, generally accepted accounting principles (GAAP) usually allowed financial institutions to value assets at their historical costs, at least until the assets had been nonperforming for a significant period.

… Thus by 1981, the US savings and loan (S&L) industry was already deeply insolvent on a mark-to-market basis but still had significantly positive capital on a GAAP basis. It took seven years, until 1988, before economic reality finally caught up with misguided accounting principles and financial shenanigans and forced the government to admit to taxpayers that they would be stuck with a huge bill for cleaning up the S&L mess.”

As we say in France, « plus ça change et plus c’est la même chose…. ».

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