Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

Securitization has little to do with crisis

I have been arguing for sometime now that the global financial
crisis has little to do with securitization and CDOs and everything to
do with real estate lending. The data in the IMF Global
Financial Stability Review
released this week confirms this
view. Of the estimated losses (Table 1.1) of $1.4 trillion, as much as
30% are in unsecuritized loans. The corresponding percentage was only
24% in March 2008 and as little as 17% in October 2007. During the
last year, the percentage of losses attributable to unsecuritized
loans has almost doubled.

What we see is that because of the mark to market approach,
securitized assets show losses earlier while the held to maturity
approach allows losses on loans to be concealed and deferred. In this
sense, the securitized paper was the canary in the mine that alerted
us to problems quite early. Policy makers are completely mistaken in
believing that absent securitization, we would not have had any
problem. All that would have happened is that banks would have been in
a state of denial longer.

Another interesting thing that we have seen in recent days is that
the global stock markets can take something like a trillion dollars of
losses in a single day without stock exchanges collapsing. When banks
take less than a trillion dollars of losses over more than a year, it
looks like the end of the world. This tells us something about the
inherent fragility of a bank dominated financial system and the need
to move towards a world dominated by liquid financial markets. We also
see that under conditions of extreme stress, liquidity collapses in
inter bank markets, but not in stock markets and other non bank
markets. Yet another reason to reduce the dependence on banks in the
long run.


One response to “Securitization has little to do with crisis

  1. nandisai October 15, 2008 at 8:41 pm

    Respected Sir,

    How would yo define “FAIR VALUE”concept then?

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