Smithers raises an interesting concept here. He offers that Banks should value their loans on the balance sheet at market value. Today loans are shown at face value on Banks balance sheets. The reduction based on market value would have a dramatic effect on Bank capital, and take many from being highly levered to being hyper levered, or bankrupt.
However he misses the point that Banks already do this in effect by taking allowances for bad debts, and there are substantial reserves in place in most conservative Banks. However its clear that those reserves are not adequate, and there are different levels of conservatism exhibited amongst Banks.
It goes against normal accounting practise that books assets at cost, but Banks are clearly in need of a different approach that will bring credibility and confidence. It will take more than accounting, but this is one step in the right direction.
Financial crisis: what the US authorities should do
The authorities should require banks to value their assets at these levels and to make conservative reserves against future losses. Banks would then fall into one of three categories:
(i) those with adequate capital for regulatory purposes, who would need to take no action
(ii) those with inadequate regulatory capital, who would be required to raise new equity and would be capable of raising it from private sources and
(iii) those that would need the injection of preferred capital by the government as proposed by Charles Calomiris
Bankwatch 
I suggest that banks need to enhance their underwriting practices to make them more comprehensive and verifyable, more transparent to borrowers and investors, and more effective in measuring the true credit risk of the full range of lending transactions. The recent episode has managed to shake confidence significantly in the lending process. Our nation’s leadership has called for some innovative new approaches, coupled with stregthened internal controls and greater regulatory oversight. Change never comes easily. However, the ultimate cost of not fixing the problem properly by adopting the KISS Principle and choosing the path of least resistance could set us up for more crises down the road. The solution we seek will no doubt combine the best that science has to offer, expert judgment, and some good old fashioned “common sense.”
@Clark .. well said, although I would suggest there is a level of detail here thats important. Banks underwriting practices need to be transparent through the securitisation process when other banks take on a banks debts.
Some banks are good at underwriting and some are bad. The process of on boarding mortgages through brokers in the US is unequivocally bad.
The process of bundling products into ABCP is unequivocally bad too.
Banking does need to get back to basics.