The Financial System is a Hollow Shell Waiting to Collapse

Monty Pelerin Economic Noise April 16th, 2012

The incorrect belief that our financial system has passed its crisis continues.

No one, especially the Fed, knows how insolvent the banking system truly is. The magnitude of the problem has been deliberately hidden. Banks themselves probably don’t know the value of many assets on their balance sheets. They were ordered/allowed/instructed to keep assets valued at original costs rather than market values. This dictate/allowance was an attempt to hide the true condition of financial institutions. While valuations are grossly overstated, no one has any reasonable way to estimate by how much.

The Federal Reserve has taken many of these toxic assets off the books of banks and put them on their own balance sheet at original value. This action was taken to prevent a collapse of the banking system and reliquify the banks. Now the Federal Reserve’s balance sheet is also meaningless to the extent of these (and other) overvalued assets. Even the Fed doesn’t know how bad their balance sheet is overstated. Without markets, valuation is guesswork. The only thing for certain is that these losses were transferred away from private entities and will ultimately be borne by taxpayers.

The last time we had real markets in these assets was when Bear Stearns failed in mid 2007. Since then, the toxic assets have had no market transactions. Irrational enthusiasm, unbounded optimism or outright fraud has been the basis of valuation since.

Bill Buckler describes what happened when Bear Stearns failed:

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