Greenspan Legacy

The Reckoning - Taking Hard New Look at a Greenspan Legacy - Series - NYTimes.com: "George Soros, the prominent financier, avoids using the financial contracts known as derivatives “because we don’t really understand how they work.” Felix G. Rohatyn, the investment banker who saved New York from financial catastrophe in the 1970s, described derivatives as potential “hydrogen bombs.”

And Warren E. Buffett presciently observed five years ago that derivatives were “financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal.”

One prominent financial figure, however, has long thought otherwise. And his views held the greatest sway in debates about the regulation and use of derivatives — exotic contracts that promised to protect investors from losses, thereby stimulating riskier practices that led to the financial crisis. For more than a decade, the former Federal Reserve Chairman Alan Greenspan has fiercely objected whenever derivatives have come under scrutiny in Congress or on Wall Street. “What we have found over the years in the marketplace is that derivatives have been an extraordinarily useful vehicle to transfer risk from those who shouldn’t be taking it to those who are willing to and are capable of doing so,” Mr. Greenspan told the Senate Banking Committee in 2003.


“Not only have individual financial institutions become less vulnerable to shocks from underlying risk factors, but also the financial system as a whole has become more resilient.” — Alan Greenspan in 2004

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The accounting rule you should care about

From cnnmoney.com

NEW YORK (CNNMoney.com) -- It's easy to understand why the proposal to spend $700 billion in taxpayer money to rescue banks would inspire impassioned debate in Washington.

But in a sign of just how complex and controversial the current credit crisis has become, a move to potentially change accounting rules on how banks and Wall Street firms value the securities they own is almost as heated.

Some argue that tight accounting rules are a major reason for the credit crisis in the first place. Others contend that changing the rules will just bury problems lurking beneath the surface and could further shake investor confidence in the already battered financial sector.

Roots of the problem

First a bit of background. The one fact everyone agrees on is that the current financial crisis centers on trillions of dollars worth of mortgage loans that were packaged together into financial instruments known as mortgage-backed securities, or MBS. Those securities were purchased by banks and Wall Street firms.

But as home prices started to fall and foreclosures rose, the value of these securities plunged. Today, there is almost no market for the securities.

This is why Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke proposed that the government buy the securities. The hope is that doing so could restart the MBS market at something well above the current fire sale valuations and that the government could hold the securities until the market improves.

Some advocates of the plan argue that taxpayers will be able to eventually make money if the government sells the securities at a higher price down the road. But the more immediate hope is that banks and Wall Street firms, freed from the toxic loans on their balance sheet, will start lending again.

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