Gillian Tett has an excellent column in today's FT on the implosion of the securitization markets:

What is imploding though is the securitisation world. If you exclude agency-backed bonds, in 2006 banks issued about $1,800bn of securities backed by mortgages, credit cards and other debts. Last year, though, a mere $200bn of bonds were sold in markets, and this year market issuance is minimal. ... But the longer that this drought continues, the bigger the policy issues become. After all, no politician wants to see the government buying mortgage-backed bonds forever; but nobody really believes that traditional, old-fashioned lending can take up all the slack. So either the system needs to find a way to restart securitisation or we face a world where credit will remain a highly rationed commodity for a long time to come.
Before the crisis, over a quarter of all consumer credit (non-mortgage) was funded through the securitization markets. While securitization's share of total lending will undoubtedly shrink in the medium- to long-term, it's just not possible to completely—or even substantially—replace such a large source of lending in a matter of months (and during an epic financial crisis to boot). So securitization it is. As Tett puts it in a great line at the end of her column:
The longer that politicians wail about the supposed “failure of banks to lend”, while ignoring the bigger source of the credit crunch, the harder it will be to wean the system away from government support.
I couldn't agree more. If you want banks to start lending again on a scale sufficient to fuel an economic recovery, then restarting the securitization markets should be one of your top priorities. You shouldn't be demonizing the entire concept of securitization, and you certainly shouldn't be calling for banks to increase lending while simultaneously criticizing the Obama administration for attempting to restart the securitization markets.

12 comments:

Economic Darwinism said...

So the way out of a credit bubble is to extend more credit?

Consumers with good credit and sufficient equity should have no problem getting loans even in this environment. Securitization helps lower standards to the point that credit becomes affordable to people who should not be extended credit.

One of these days, we'll need to bite the bullet. I happen to think now is the time. Kick starting the secondary market now only kicks the can down the road.

The moral is, if you are a consumer, small business, or large corporation whose survival is dependent on the availability of easy credit, then you should not survive. Period.

Economic Darwinism said...

I commented on your article before reading Tett's. Her article is even internally inconsistent. She starts by saying:

-begin quote-

But the loan total last year was similar to that seen in 2006, and twice the scale of activity in 2004. Moreover, when non-financial loans are measured, an even more notable pattern crops up: at the end of last year, the volume of non-financial corporate loans was still growing at an annual rate of 10 per cent in both the US and Europe. That was well below the 20 per cent expansion seen in Europe before the peak of the boom, and in some sectors new bank-lending has tumbled. But those figures do not point to a credit drought. After all, from 2002-2004, loans to non-financial companies in the US shrank at an annual rate of more than 5 per cent.-end quote-

and ends with

-begin quote-

After all, no politician wants to see the government buying mortgage-backed bonds forever; but nobody really believes that traditional, old-fashioned lending can take up all the slack.-end quote-

As I said, if you are a good candidate, e.g. good credit, sufficient equity, for a loan, you can get one. Lending has merely returned to 2006 levels. Is that really so bad? It is already double the levels of 2004 according to Tett.

Many people became accustomed to easy credit and adjusted their capital structure, whether it be personal household or corporate, accordingly. Those who did made a mistake.

Besides, if you did bring back the securitization market, who would invest in it? Pension funds? University endowments? They've already fallen for that joke and have been burned badly. Do you think they will fall for the same joke again?

Mr Market is taking care of securization and we should continue to let that process play itself out.

Economics of Contempt said...

"So the way out of a credit bubble is to extend more credit?"

Sure. I'll defer to Baron Keynes on that point.

"Securitization helps lower standards to the point that credit becomes affordable to people who should not be extended credit."

No, securitization done poorly helps lower standards to the point that credit becomes affordable to people who should not be extended credit. For that matter, all lending practices that deviate from the optimal lending standards help lead to an inefficient allocation of capital. There were suboptimal lending practices in non-securitized loans too, but I hardly think the solution is to ban lending in general.

"The moral is, if you are a consumer, small business, or large corporation whose survival is dependent on the availability of easy credit, then you should not survive. Period."

It's easy to say that, but it's not terribly useful unless you can define "easy credit." Otherwise you're just saying, "people who aren't creditworthy enough to lend money to shouldn't get loans." I doubt many people would disagree.

Economic Darwinism said...

"So the way out of a credit bubble is to extend more credit?"

-- Sure. I'll defer to Baron Keynes on that point.
-

I'm pretty sure Keynes would not have advocated fixing a credit bubble by issuing more credit to overleveraged consumers. Keynes' basic premise was that fiscal stimulus (particularly in the form of government projects to create jobs, stimulate consumer demand, etc) is occasionally required to jump start an ailing economy. That is a far cry from trying to re-inflate a bursting credit bubble.

There were suboptimal lending practices in non-securitized loans too, but I hardly think the solution is to ban lending in general.-

In the absence of an active secondary market, banks will keep most loans on their books. When you keep the loans, your lending standards will be higher than if you offload the risk to a pension fund or an unsuspecting barber in Norway.

Unfortunately, I don't think lenders acknowledged you shouldn't give loans to uncreditworthy borrowers. The evidence seems clear. They were absorbed in a culture of "originate to sell".

Realistically, securitization will not go away. So what can be done to make securitization better? Maybe we could force the issuer to absorb any credit loss in the first 3 years (as opposed to 3 months)?

James A. Donald said...

Securitization of debt must end. It is fundamentally incompatible with capitalism and free markets.

When debts are securitized, many different debts of many different borrowers are piled together into a great big pool of debt, and then shares in the pool are sold to lots of creditors – which means that there is no one person responsible for verifying that any one particular loan is sound, that the assets securing the loan are worth what they are supposed to be worth, that the person responsible for making payments on the loan can read and write, that he speaks the language that the papers that he signed were written in, that he was sufficiently sober when he signed them to remember signing them, or even that the paperwork exists and is in good order.

Securitization was born in fraud: The original motivation for securitization was the 1995 Community Reinvestment Act. If the government is pressuring you to make loans on the basis of race, rather than willingness and ability to pay one’s just debts, you want to get rid of the politically correct mortgages to some other sucker as fast as possible.

Securitization of debt is only legitimate when the people that arranged the loan remain linked to the loan. Otherwise, securitization is a scam, as the origins of mortgage securitization demonstrate.

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