Davos Mistakes about Securitization

I watched a C-SPAN replay tonight of a Jan. 29 panel at Davos in which five industry leaders pontificate about the future of the world. This was after tonight’s 60 Minutes lead report on the exclusive Davos gathering. The 60 Minutes report was as good as ever, but a failure of vision makes itself apparent in the Davos C-SPAN tape.

First, the CEO of a global bank, in response to an all-too-polite question about why the financial sector isn’t moving toward XBRL technology to support transparent securitization, dismissed the question with a statement to the effect that it failed to consider the “quality of the assets” — implying that only the most revered debt securities can hope to return to marketability.

Paternalistic balderdash.

If you’re the CEO of a global bank, you’re supposed to worry that you get the asset quality for which you pay. But if you’re a normal human being, you want to be able to use your assets fairly and reasonably no matter what a big banker thinks about your “quality.” What you’re concerned about is that your lender gets accurate information about you and your collateral in a cost-effective format so that you can know what your interest rate will be, how many points you’ll need to pay, and how much money you’ll need to put down — or if you should search for other lenders who might give you better terms or give up for the time being and keep renting.

In other words, if your asset is your 20% home down payment, you want to know how much it will cost you to borrow the other 80% so you can do the math and find a house in your ballpark. It’s not the “quality of the assets” that’s important. It’s information about those assets, whether they are “quality,” mediocre, or poor. When they’re too poor, it makes more sense for banks to lend to landlords instead of potential homeowners, but the important thing isn’t quality per se — it’s a functioning market that facilitates the transmission of information about quality, or lack thereof.

Another CEO summed up things by saying it’s “all about judgment.”

Wrong again.

It may be all about judgment in a command and control economy or in a particular firm. But for most of us in most of our lives, it’s about information first. Perhaps some of these Davos folks missed or have forgotten the basic tenet of economics that people can be stupid, but a working market, in which price signals dampen individual stupidity, is smart.

This shouldn’t be a huge surprise. Those who profited from the opacity that destroyed the securitization market and are continuing to profit from taxpayer subsidies of their mistakes have every incentive to continue to discount the value of genuine working markets relative to individual or firm “judgment.” Who wants a genuine market price for the poor securities that remain on your books when political alternatives promise better returns?

Davos alumni might reconsider their assumptions, but absent unanticipated vision, moving toward a system that appreciates that market transparency is more important than individual self-interested judgment about quality will need to be led from elsewhere.