What happens now?

This piece on RedState by Francis Cianfrocca (hat tip to John Podhoretz) is as cogent an analysis of the Treasury and Fed’s Troubled Assets Relief Program (“TARP”) as I’ve seen. Cianfrocca argues that we face two huge crises — a liquidity crisis and a credit crisis. Under TARP, we will borrow money from world markets, guaranteed by the taxpayers, and use the money to buy up to 700 billion dollars’ worth of distressed assets from financial firms. Cianfrocca argues that TARP will stem the liquidity crisis and, for that reason alone, is justified as a matter of necessity.

His concern, though, is with how the distressed assets will be valued, and who will make this determination.

Get it too low, and you’ll put a lot of firms out of business, because they will be forced to realize capital losses they can’t recover from. Get it too high, and you’ll be doing two extremely bad things: you’ll be rewarding banks and Wall Street for making bad decisions; and you’ll expose the taxpayers to losses and inflation.

Democrats like Barney Frank, a culprit in the underlying crisis, are insisting that the people who do the valuation not be allowed to make a lot of money. Cianfrocca responds that “given the dire implications of getting this wrong, it’s charitable to say that Mr. Frank is being shortsighted and probably a little vindictive.” But it’s not clear (at least to me) that anyone really has a good idea of what the distrressed assets are worth. If that’s the case, then TARP might well turn out badly regardless of who makes the decisions.

Cianfrocca’s biggest fear is that correct valuation of distressed mortgage-backed assets may actually be very, very low. If so, he says, TARP will not solve the longer-term credit crisis, “and the US may be facing a long, possibly multiyear period of very slow economic growth” like Japan did when its real estate bubble burst.

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