MOVING ON, ALREADY
Someone should prevail on Paulson to do a Brady Plan for sub-prime and alt-a RMBS, already.
But, the market is already moving ahead.
At bat: a recession, one that will lead to corporate defaults, some of which Wall Street has insured using CDS, credit default swaps.
As you can see, the Swap market, such as it is now, has never ... been through a significant economic downturn. n.b. the growth in notional size is only generally indicative of the growth in net risk exposure.
Growth of Credit Default Market, 2001-2008
WHAT SHOULD THE GOVERNMENT DO TO CUT EXPECTATIONS OF LOSSES?
The first responsibility lies with banks to quantify their risks for regulators. For most, this is probably probably a combination of the basis risk of their hedges and, of course, their unhedged risk.
If the government doesn't like those figures, they should start to do something clever to reduce them.
I have things in mind that don't simply involve 'injecting capital' to paper over the risks.
Whatever solutions you have, the point is clear as is the responsibility: an appropriate regulatory response is to reassure, as best as possible, that the risks of loss are not asymptotically large or freakishly unmanageable, even if the economy tips into a recession.
There are things to do ... it's not wait-and-see, whatsoever!
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