Securitization: Dead parrot, or half-dead parrot?

I agree with Justin and can't imagine why plain vanilla securitization (or at most some Neopolitan securitization) won't continue. Hopefully some of the leveraging derring-do (both pre securitization and post) will disappear. On these general issues, I think dear departed Tanta's Ubernerd collection ( http://calculatedrisk.blogspot.com/2007/07/compleat-ubernerd.html ) is always valuable. Where the range of behaviors seen in the future will be curtailed from what she describes remains to be seen.

Justin,
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You say, "Mortgage lenders used to run a lot of interest-rate risk. When rates skyrocketed during the Great Inflation of the 1970s, the savings and loans and savings banks that dominated the business at the time found themselves stuck with portfolios of 30-year mortgages yielding 5% or 6% while having to pay double-digits to borrow money themselves. They were under water, and the frantic efforts of many mortgage lenders to grow their way out of that predicament brought us the last big financial-industry bailout, a.k.a. the savings and loan crisis."
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But whose fault was that? Bnks are the ones that issued the loans in the first place. If they could not turn a profit, they should have gone out of business. This is a free market, and the invisible hand guides the way.

bryan, the S&L crisis was the process by which a lot of them went out of business, or got into other (often riskier) lines of business. The S&L "bailout" was the expensive process of making good on FSLIC (now defunct, absorbed into FDIC) deposit insurance guarantees that remained in force in spite of the crisis.

But that was my point. Banks should not make loans for which they cannot make money. It is akin to a car dealer selling cars at a loss. It is unsustainable in a free market, capitalist economy. Now, if we want to socialize the industry to limit the downside risks, then we should just go ahead and make it explicit, but the Santa Claus myth that a "bailout" exists under the tree for every good little girl and boy has to go. These businesses are all grownups now.

bryan, basically what a bank is is a place that borrows short and lends long. Until recently, S&Ls were if anything the extreme case of this. When the interest rate environment changed drastically (inflation, and then Volcker's wringing out of inflation), these S&Ls found themselves with a very bad funding problem, caused in large part by this maturity mismatch.

It's all fine and good to say, boo hoo, too bad for them, etc, but the problem was that the S&L deposits were insured by the FSLIC, and due both to inadequate FSLIC resources and federal and state government dithering and interference (recall the Keating 5 thing), the scale of the deposit insurance requirements overwhelmed the existing system and a general Federal response was necessary. It was the need to make depositors whole from the shards of S&Ls that had underwater balance sheets and had in many cases made further risky or even absurd loans in an effort to restore the balance sheets. The deposit insurance requirements and the FSLIC (now FDIC) process for taking over failed instititions was the issue then. To make it a matter for moralistic finger wagging is a category error.

Also, to assert that a firm should not undertake unsustainable actions (ever? not even once? or should they stop once the unsustainable ceases to be sustainable?) and go under when they fail is, no offense, naive. Firms fight for their existence - because the people involved have an interest in THAT venture continuing (as opposed to the larger interest in that line of business continuing). They sell at a loss to generate business or minimize the damage during downturns. And they certainly fight to avoid bankruptcy - especially when they're a bank whose sole role is as an intermediary (why go to a defunct intermediary?). And firms on the brink of collapsing try overly risky things - thanks limited liability - when they're down to a 'puncher's chance' of surviving. And that may just make matters worse. But to expect all 'failing' businesses to go quietly misses important distinctions between businesses.

LETS DO THE SUBPRIME WARP AGAIN!
(THE END OF MORAL HAZARD)
(Lets Do the TIME WARP, Rocky Horror Picture Show)
WilliamBanzai7

It's astounding, markets are fleeting
Greenspan's Madness takes its toll
But listen closely, not for very much longer
We've got to regain control

I remember doing the Subprime Warp
Drinking those moments when
MORAL HAZARD would skip past me and the greed would be calling
Let's do the Subprime Warp again...
Let's do the Subprime Warp again!

It's just a AAA CDO to the left
And then a backstop CDS to the right
With your hands on your FLIPS
You bring those TOXIC TRANCHES in tight
But it's the ALT-A thrust that really drives you insane,
Let's do the Subprime Warp again!

It's so dreamy, oh fantasy free me
So you can't see me, no not at all
In another dimension, with fraudulent intention
Well-deluded, I see all
With a bit of a mind flip
You're there in the SHADOW BANKING slip
And nothing can ever be the same
You're spaced out on SECURITIZATION, like you're under sedation
Let's do the Subprime Warp again!