A fake recovery

May 6, 2009

Zach Zill explains why there's many reasons to doubt that the financial sector is returning to health.

SOCIALISTWORKER.ORG does a great job pointing out the problems with recent arguments saying the economy is showing signs of recovery ("Is a real recovery in sight?").

Most importantly, the "positive economic indicators" that are used as evidence for recovery totally ignore the fact that things continue to deteriorate drastically for workers--skyrocketing unemployment, rising homelessness, deep wage cuts, loss of benefits and more.

But even these "positive economic indicators" need to be called into question. One of the main indicators of a recovery, according to supporters of this argument, is that most of the major U.S. banks recently posted a profit in the first quarter of 2009. After a year and a half of massive bank losses, this must be a sign of recovery. Right?

Wrong. Actually, the banks owe their reported profits to a technicality.

On April 2, the obscure Financial Accounting Standards Board rewrote the accounting rules for U.S. banks, altering the practice referred to as "mark-to-market" accounting.

"Mark-to-market" meant that banks had to report any assets on their books at current market value. For giant securities made up of mortgages--the "toxic assets" at the center of the global financial storm--market values have dropped to essentially zero, as no investor will touch them. As values for these mortgage-backed securities have fallen, banks have reported large losses, month after month.

Now, the banks can claim that these assets have value when they really don't, thus clearing the way for the first-quarter profits.

This rule change--which came about after intense pressure from Democrats in Congress--has too many problems to count.

The first problem is the assumption that the bad debt underlying these toxic assets is really not so bad. In fact, it is. Housing prices will continue to fall for some time due to overproduction and the deflating of the speculative bubble, meaning more mortgage defaults and foreclosures. Unemployment and falling wages mean that more people will default on credit card debt, another major source of debt underlying these securitized assets.

Furthermore, banks are now allowed to arbitrarily set the value of their own assets based on what they think these assets would sell for under "normal" market conditions. But we are not in "normal" market conditions, precisely because of these toxic assets that the banks have on their books!

In a more general sense, this is a move back toward self-regulation of the banks, which helped create the financial crisis in the first place by allowing a shadow banking system to arise in which banks didn't have to report certain assets and liabilities.

Finally, this creates a conundrum for the Obama administration and those banks that the White House is bailing out with tens of billions of taxpayer dollars. Now that the banks can pretend their toxic assets aren't so toxic, why take government money and risk looking weak and bringing on increased oversight?

But if the banks begin paying this money back, as several are promising to do, and then financial markets take another hit, we risk another Lehman or Bear Stearns-style collapse when it turns out the banks actually are undercapitalized.

All of these problems will lead to more financial turmoil in the months and years to come. The basic fact is that global finance is buried under mountains of bad debt, and a massive restructuring is needed before the system can get back into order.

The fact that this rule change is now allowing the banks to claim record profits again does not mean the financial crisis has ended. It only marks a new stage of deception and corruption in the U.S. financial system.

A better solution would be to nationalize all the banks, kick out the overpaid parasites who run them, and harness the riches held in U.S. financial markets to meet the needs of everyday people whose living standards are plummeting--first and foremost, by forgiving all mortgage, credit card, student loan and other debt owed by working-class Americans.

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