Mike Beversluis

Sunday, February 22, 2009

Another exercise in translation

I know: there are plenty of newspapers from where you can take information and commentaries. But I don't have much to talk about, don't know what to write about and so proceed with an exercise in translation. The piece is from today's Corriere della Sera. I do not have the competence to discuss its merits but it looks reasonable and certainly one thing is correct in my opinion: that the world is not different now from what it was one year ago (including material goods and technical competences).

Come salvarci dall'abisso (How to save ourselves from the abyss) by Francesco Giavazzi.

We drove ourselves into an absurd situation. The prices of the financial activities, and therefore the wealth of families, plummeted abruptly, as if the world economies had all been razed to the ground by a global bombing campaign, as happened to Germany in 1945.

In a few months in the world wealth evaluated at about 40 trillion dollars has been burned away. In a week Wall Street has lost about 13 percent; in a just a little more than a year the value of American stocks fell by one half. But there has been no bombing: the companies are still all around, as well as the houses, and our natural resources, and workers have today the same level of experience they had yesterday. It is lack of confidence that pulled the world into this absurd situation and it is just from there that we need to start over. Next week will be a crucial one

If the fall of Wall Street does not stop, the vortex risks gaining power: a further fall of the wealth of American families would slow down consumption even more and would erase the effects of the exceptional fiscal plan approved last week by Congress. What to do? First of all we should not be forgetting that (thanks to globalization) never the world had grown so quickly as in the ten years preceding the crisis. And not just the rich countries: for the first time sub-Saharan Africa as well had started growing. Certainly there were many weaknesses: the price of housing in some countries had risen too much; in the United States some recent immigrants had been granted mortgages that were outside of their means; banks had deluded themselves that they had diversified risk and on the opposite they often had not done it; regulations were leaky; Congress had permitted that Fannie Mae and Freddie Mac, that should have been just simple guarantee funds, turned themselves into aggressive speculators, transferring risks on unwitting subscribers.

But all of this does not justify the abyss in which we have fallen. Mortgages in the US today have practically zero value and however the price of homes went down just by 20/30%, did not go to zero. In the American cities the houses did not disappear, they are still all there: maybe their worth is less than two years ago, but I doubt it is zero. How to bring back the world to reason, how to stop this wicked spiral? It is possible, and it could turn out to cost nothing. The downturn in which Stock Markets have been taken in depends on banks: in a week Citigroup lost half of its value and today one share is worth less than two dollars (it was worth 50 one and a half years ago). But the bank did not go bankrupt: it would be so if we thought that American houses and companies did not have any more any worth, but it is not the case. In order to get the markets out of this lack of confidence downward spiral the American government should put its guarantee on all of the financial activities linked to the real estate market, that is it should commit to buy them at a pre-fixed price, higher than the market value.

Such a guarantee would immediately push prices up and with that the wealth of families. It would solve as well the problems of the banks. Just as for Citigroup, whether or not American banks are bankrupt depends on the prices of the assets in their balance sheet: if the price of these assets is zero they are all bankrupt; if the price is reasonable none of them is (yesterday Governor Draghi [see note at the bottom] proposed guaranteeing not the assets of banks but new loans, an action that goes in the same direction and would help to get credit to restart for our companies). What is the price at which these guarantees should be offered? Certainly not at the prices before the crisis, but also not at the prices of today, that for many assets are close to zero. One possibility is to use the prices just before the Lehman bankruptcy, that is when the markets were already feeling the crisis, but before the collapse.

And how much these guarantees would cost for the governments? It is quite likely that on some of these the government would suffer a loss, that is that the market prices at the moment of buying would be lower than the guaranteed value. But for the most part - when the world will come back to behaving reasonably - the market price will be much higher than the guarantee value: in these cases it could be possible to put a tax on the capital gains.

It is not just the guarantees could cost nothing: for the contributors they could turn out to be a great deal. In this weekend in Washington another idea gained strenght: and it too could block the downward spiral without costing nothing. Ricardo Caballero, an MIT economist, proposed on the Washington post that the government commit to buy in two years time twice as many of the shares of the four major banks at twice their value of today. The first effect would be that of doubling the capital of the banks through private funds.

At the same time the stock prices would immediately rise up next to the level of the public guarantee, raising up in this way the whole market. This measure as well would cost zero to contributors, unless we really think today that American economy be like Germany's in '45. The advantage with respect to the guarantees on banks' assets is that in this case an announcement is sufficient: it could be done tomorrow. Guarantees on banks' assets will be needed anyway, but for those there is a little bit more time (a few days, not a few months). What on the opposite makes the spiral go faster is talking about nationalizations. Nationalizing a bank means erasing (or at least greatly decreasing) the capital of stock holders: one should not be surprised if this risk causes a Stock Market collapse. Luckily yesterday the Obama administration distanced itself from those who ask for nationalizations. In the most famous scene of Mary Poppins, Mr. Dawes, the aging bank employee, scares off Michael by trying to snatch a penny out of him. People do not understand, panic and sweep out the bank. It is just to avoid these panics that public guarantees on bank deposits were created. Next week the world could carry itself into a depression, but if that will happen it will be only our responsibility, that is of our governments. The world is not radically different now from how it was one year ago, it is just that confidence has been lost. The rebuilding work should start from this observation.

* Mario Draghi, the Governor of Banca d'Italia


  • Great posting. If we were smart enough to get ourselves into this mess, wouldn't you think we could use our brains to get out of it?

    In terms of exercises in translation, is "40 thousand billion dollars" equal to $40,000,000,000,000? or to put it more succinctly, $40 trillion?

    By Anonymous Terry, at 22 February, 2009 10:31  

  • Yes, 40,000,000,000,000. No word that corresponds to "trillion" exists in the Italian language, so I had forgotten that it exists in English.

    By Blogger John Travolta Sardus, at 22 February, 2009 11:09  

  • Sorry, markets are markets. If the gummint guaranteed real estate prices, everyone would unload, the gummint could not possibly handle it, prices would fall, the rich would buy at lower prices and offer back to the gummint.

    Talk about a spiral.

    The banker seems to have fallen into a delusion (common to bankers) that paper and property are equivalent.

    It's true that the fall of the markets did not bulldoze houses and factories, it just wiped out paper assets, which were never real anyway, since they did not reflect actual production.

    We are not in the case of the Great Depression, when there were products but not buyers. Not yet, anyway.

    Wall Street operated for years as a bucket shop. Eventually, as it had to, that evaporated.

    We will only slowly work our way out of this.

    By Blogger Harry Eagar, at 23 February, 2009 00:01  

  • I intend no defense of Wall Street, but as I noted (accurately, I think) a month or so at The Daily Duck, US mortgages are a huge source of liquidity.

    The average US house is 30 years old. Using generous assumptions, the mortgage payment on that house covered the goods and services required to build it 12 years ago.

    Therefore, there is a huge mortgage stream which is not purchasing anything.

    What happens with all that money?

    By Blogger Hey Skipper, at 27 February, 2009 14:59  

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