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Intervention needed for financial crisis

By Hong liang (China Daily)
Updated: 2008-09-20 17:09

There is something US treasury officials can learn from their Chinese counterparts in managing the unfolding financial crisis.

In fact, a proposal that is gaining currency on Capitol Hill and within the administration looks rather similar to the policy and method adopted by the Chinese government in relieving the State-owned banks of their bad debt burdens.

In addition to injecting capital to selected State-owned banks, the Chinese government, in 1999, set up four asset management companies to take over a substantial portion of the non-performing loans on the books of those banks, with the longer-term objective of packaging those loans for sale to bargain-hunting investors. These measures greatly helped strengthen the banks' balance sheets, enabling them to raise funds in the capital markets of Hong Kong and on the mainland.

As the US financial crisis worsens, more and more lawmakers in Washington are reportedly leaning toward the idea of establishing an agency to relieve institutions of their holdings of mortgage-backed securities that are fast losing their value. Proponents of the idea include such luminaries as former Federal Reserve chairmen Paul Volcker and Alan Greenspan, according to the New York Times.

Any form of a government bailout will invariably raise the question whether public funds are being properly employed. The bailing out of troubled financial institutions also touches on the issue of moral hazard because such actions could provide institutions with a false sense of security that encourages them to take undue risks.

None of these issues are of much importance in China because the lenders and most of the borrowers are in the public sector. In fact, much of the non-performing loans were the so-called "policy loans" lent to State-owned enterprises in the planned economy era for projects that were judged more for their political significance.

Unlike their US counterparts, Chinese banks acquired bad assets more for reasons of performing their treasury function than to maximize profits. In the US, the proposal to establish some form of government-funded asset management company will almost certainly stir heated debate on whether public money should be spent on bailing out mortgage lenders, investment banks and swashbuckling investors who have obviously made the wrong bet.

Putting aside moral hazard and other issues, there seems to be consensus about the need to stabilize the capital markets and stop the asset meltdown by propping up the tattered financial institutions whose downfall could trigger a panic selling wave around the world.

The US government has been taking up some of the so-called "toxic" securities from several failing institutions on an ad hoc basis. The Federal Reserve accepted $29 billion of Bear Stearns' mortgage-related assets as collateral for a loan to JPMorgan to facilitate its acquisition of failing Bear Stearns.

In addition to backing the $5.3 trillion of mortgages owned or guaranteed by Fannie Mae and Freddie Mac, the US Treasury Department has agreed to buy mortgage backed securities of the two troubled institutions for later resale at an appropriate time.

The scale of the current financial crisis is so large, it has prompted some market experts to suggest the formation of a multi-government funded global agency to take up the distress assets held by financial institutions around the world while the capital markets try to sort out the systemic problems that are threatening to overwhelm them.