The Science of Insolvency

Opening Statement By Chairman Brad Miller

Good morning, and welcome to today’s hearing, The Science of Insolvency.

Several committees have jurisdiction over economic issues, but economics is also the subject of significant federally funded research authorized by this Committee. And economics, after all, has never quite shaken Thomas Carlyle’s term “the dismal science.”

This subcommittee has championed scientific integrity as necessary to inform policy decisions. There is plenty of room for debate about policy implications, but scientific facts should be assessed by scientists without political interference.

If we have ever needed sound, neutral evaluation of economic facts upon which to base policy, it is now. Dr. Simon Johnson, in his written testimony today, says that we have “a desperately ill banking sector.”

Congress and the Administration are working to treat the illness, but there has been remarkably little discussion of the precise nature of the illness. The diagnosis of the illness, the determination of what is wrong with our economy, appears to be a factual question, not a policy decision, but it is a factual question with enormous policy implications.

The factual premise of our policy to this point appears to be that our banks are facing a rough patch, since many of their assets are illiquid because there is no active market for those assets and persnickety accounting rules make those banks appear to be on shaky ground, but the assets are really just fine and the banks are too. The determination, or discovery, of value appears to be the core competency of markets, and some who now argue that the markets are befuddled in valuing complex financial assets have for years genuflected when the word “market” was spoken.

Others argue that the market is correctly valuing assets, and the problem is that the assets are simply not worth much, and that many of our banks are insolvent.

Edward Yingling, president of the American Bankers Association, told the The New York Times that “claims of technical insolvency” at many of our banks amounted to “speculation by people who have no specific knowledge of bank assets.”

It is true that banks’ assets and liabilities are not public knowledge, but many credible economists are not persuaded when regulators peek into the black box of banks’ assets and liabilities and declare that there is nothing to worry about. And the regulators not that long ago told us that any problems in the financial sector arising from mortgage defaults would be easily “contained.”

What should we make of the stress tests?
 

Witnesses

Panel

2 - Mr. Simon Johnson
Professor Sloan School of Management Massachusetts Institute of Technology Sloan School of Management Massachusetts Institute of Technology
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3 - Dr. Dean Baker
Co-Director Center for Economic and Policy Research Center for Economic and Policy Research
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1 - Dr. Jeffrey Sachs
Director The Earth Institute at Columbia University The Earth Institute at Columbia University

4 - Mr. David John
Senior Research Fellow Heritage Foundation Heritage Foundation
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