Willem Buiter has a penchant for ruffling feathers with his blunt pronouncements. He caused a firestorm at the Fed’s recent Jackson Hole conference by, in his presentation, telling the central bank that it was a victim of “cognitive regulatory capture” and was excessively sensitive to the needs and special pleading of the financial services industry. Even though the hosts took umbrage, they should not have been surprised, since Buiter had been saying that sort of thing for months.
Buiter lobbed another bombshell today, but because it was presented on his blog and (needless to say) the market meltdow was attention-grabbing, it appears to have gotten little note:
It’s reasonable to assume that the banking system in the North Atlantic region is insolvent and would be bankrupt but for the reality of recent government bailouts and the expectation of future government bailouts. Certainly, for the system as a whole, the marked-to-market value of its assets is way below that of its liabilities. I strongly suspect that even the hold-to-maturity value of its assets is well below that of its liabilities. Although the system as a whole is broke, there are no doubt individual banks that are solvent. We may not, however be certain as to which banks are solvent and which banks are not.
This is a bold, troubling, and probably accurate assessment. Note (if you read the rest of the post) that Buiter uses the term bank deliberately; he is not referring to the larger shadow banking system that has clearly run aground, but to its core, the regulated banking sector (plus, of course, its new additions, Goldman and Morgan Stanley).
More important, Buiter suspects that the banks as a whole are insolvent even if they hold assets to maturity. In other words, the argument that bank distress is due in large degree to mark-to-market pricing meeting a panicked flight to quality is wishful thinking. While many readers of this blog would agree with that view, it’s quite another for an economist with considerable central bank/regulatory experience to voice that opinion.
Assuming that Buiter is correct, then efforts to relax mark-to-market accounting are completely counterproductive. As discussed here and in the financial media, it serves to heighten mistrust by making financial statements less verifiable, and worse, even trying to put a fig leaf over this mess will not improve the picture sufficiently.