In that regard I became familiar with the insurance strategy that was used quite effectively in the housing market for many years to create assets capable of being bought and sold because their value was insured. Can someone comment on why the insurance approach has not been proposed in the current crisis? See my comment on it below to Bill Grigsby — housing economist in late September. Thanks to anyone who cares to respond.

From G. Claflen to W. G. Grigsby in September:

Here’s a question regarding the bailout proposals that are floating around.

Why not an insurance approach rather than an investment approach?

The federal government seems to have a better record as insurer of last resort than as investor of last resort. HUD insurance seemed to work fairly well.

Here is the idea. — the Federal Government would capitalize and set up an insurance function (or since we just bought AIG maybe they could do it). Insurance would be optional. The trashy assets would remain in the hands of their ill-advised owners. If these owners wanted to enhance their assets, they could buy insurance which would cover the gap in value between what they are worth and what they want them to be worth. Initially the insurance premiums might have to be below the proper level for the true risk, but that could work out over time if the assets gradually increased in value. If the insurance premiums were set adequately to generate some income in this entity, some or all of the surplus could be used to buy impaired assets which would create a market for them and gradually increase their value which would have the effect of reducing the need for the insurance. Would this make any sense?

End of comments from G. Claflen to W. G. Grigsby

The results of the procedure they outline are that:
“The adoption of the proposed good- and bad-bank separation would result in capital losses for the shareholders and bondholders, because the new policy would eliminate the benefit that they might receive from further bailout money from the government. The potential reorganization of the bad bank made necessary by future insolvency would not create any kind of financial emergency, so there would be no reason for the government to bail out the bad bank. There is no reason not to inflict the capital losses on the shareholders and bondholders, as they represent the capitalization of possible bad policies and are unrelated to the assets that the shareholders and bondholders actually own.”

I like it. It relieves the taxpayer of further obligation, and places risk associated with the questionable assets where it belongs.

They are in a trap: If they forecsat an “L” shaped recession (i.e. the most probable outcome), they could make it more likely that their forecast will come true. Plus they’ll get politically hammered for excess negativity.

Forecasts aren’t just forecasts, especially when the Fed does it. Then they’re policy statements.

pfiskeb

Imagine a first world country that recognizes the notion of 100% home ownership as a delusion. A country that vigorously defends the rights of tenants. A country in which national banks compete in the retail banking market, providing solutions that successfully underprice the credit-card industry. A country where the notion of carrying several thousand dollars of debt on your credit card is unheard of. A country that provides a national health system and free higher education.

You are imagining a deleveraged society. There are several of them in Northern and Central Europe.

Thanks somit for the Crisis of Credit link. It would be better if it addressed the regulatory background, for example the reduction in capital requirements.