Bernanke: US should pay higher prices for troubled housing assets; cites

Los Angeles TimesSeptember 23, 2008Bernanke:

US should pay higher prices for troubled housing assets; cites long-term advantages

By MARCY GORDON, AP Business Writer

WASHINGTON (AP) _ Federal Reserve Chairman Ben Bernanke told Congress Tuesday the government should pay more than "fire-sale" prices for the toxic assets it would acquire under a proposed $700 billion bailout plan. That could mean both higher initial costs for taxpayers and reduced returns when the assets are later resold.

Bernanke's comment was the first indication of how he and Treasury Secretary Henry Paulson are thinking about formulating the rescue plan's medicine in a way that doesn't kill the patients. Requiring banks andother financial institutions to sell troubled loans and other assets anywhere close to recent sales prices of only a few cents on the dollar could wipe out the net worth of many and lead to a new wave of bank failures.

The Fed chairman said he favors buying the assets based on their"hold-to-maturity" value, which would require an estimate to be made of what each security will eventually be worth as payments come in over theyears.

"If the Treasury bids for and then buys assets at a price close to thehold-to-maturity price, there will be substantial benefits," Bernanketold the Senate Banking Committee. "First, banks will have a basis forvaluing those assets and will not have to use fire-sale prices. Their capital will not be unreasonably marked down."

"I understand what (Bernanke) is trying to accomplish," said accounting expert Art Bowman, who publishes Bowman's Accounting Report. At the same time, it may be difficult to discern when the market turnaround will occur.

"When does that mean?" Bowman said. "What does maturity define?

"In contrast, current accounting rules require banks to use"mark-to-market" valuations that require them to value their holdings based on the price at which similar securities have recently been sold.

But as Bernanke notes, if the government drives a hard bargain in buying these distressed holdings, it risks wiping out the already reduced equity of many banks. "This creates something of a vicious circle," hesaid.

Even after paying higher prices, the government could eventually turn a profit if the assets rise in value after the housing market recovers,but analysts said that was far from a certainty.

Separately, law enforcement officials said the FBI had begun investigating four institutions whose collapse helped trigger the financial crisis.

The FBI is looking at potential fraud by mortgage giants Fannie Mae andFreddie Mac, Lehman Brothers Holdings Inc. and insurer American International Group Inc., said two officials, speaking on condition of anonymity because of the sensitivity of the investigations. The inquiries, still in preliminary stages, will focus on the financial institutions and the people who ran them, one senior law enforcement official said.

Spokesmen for AIG, Fannie and Freddie did not immediately return calls for comment Tuesday evening. Lehman Brothers spokesman Mark Lanedeclined to comment.

The government's goal in the bailout plan is to put stressed financial institutions in a better position to raise capital and lend more freely. Unclogging credit problems is critical to helping the faltering economy get back on its feet.

Paulson, who appeared with Bernanke at the Senate Banking Committeehearing, said he envisioned using different methods to price the range of distressed securities that the government would buy up from banksunder the massive plan. But he acknowledged that pricing the soured debt will be tricky.

"We asked for broad-based authorities to use a series of market-based approaches. We'll be dealing with different approaches in different situations," Paulson said.

The Fed's apparent decision on pricing illustrates conflicting goals:enabling the government to pick up assets more cheaply versus helping crippled financial institutions recover and thereby spur the economy, said economist Bernard Baumohl, executive director of The EconomicOutlook Group.

The central bank may have concluded that ultimately it was most important "to get the banking system and the economy up and running assoon as possible," Baumohl said in a telephone interview.