Treasury Secretary Hank Paulson has correctly identified the quandary: Lots of shaky banks and insurance companies are showing strangely high values for assets that aren't worth squat in the market. Many need more capital and can't raise it. And he's right in saying the outlook is grim if we don't get this fixed.
What's stunning is how little the taxpayers would get in return for their money under Paulson's package, and how illusory much of the banks' newly minted capital would be.
It is like trying to sell a house in an emergency. If you had to sell your home tomorrow you might not get much for it. But, if you could wait until the market is moving again, you could get a better price.
But what if the problem is not that banks are being forced to value their assets at too low a price, but that they are sitting on massive losses that reflect a collapse in the value of their securities?
If that is the case, then the Treasury’s bailout may not be enough. Some reliable estimates suggest that the losses in the US financial system – at core, reflecting the scale of the downturn in the housing market – may be more than $1 trillion. If the Treasury is buying those bad assets at a little above their current value, it will not be providing anywhere near enough capital for banks, who will still be sitting on massive losses.
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