Ad Majorem Dei Gloriam

Essential thinking for reading Catholics.

Monday, September 29, 2008

Updated money stuff.

As of the nanosecond I am typing this, the "bailout" (which wasn't, really, technically a bailout) has been rejected by the House of Representatives. The plan, which I believe was some sort of hybrid between the plan put forth by Sec. Paulson (as tinkered with by the Democrats) and the counterproposal by the Republicans. The House leadership promises to bring up the matter again soon. The Dow Jones Industrial Average collapsed 778 points, the NASDAQ 200 and the S&P about 100.

Stop and digest that for a moment.

Blood is not running down the gutters of Wall Street, but it's starting to trickle.

If whatever rescue plan emerges is substantially along these lines, (and it may well not be) then it seems it would be a workable deal. Not a great deal, but a good deal. Larry Kudlow, a stalwart free-marketeer capitalist who'd be my Sec. of the Treasury and under whose thinking cap groweth no moss, weighs in on why this would be a good deal (assuming what will pass, if anything, is essentially what he is discussing) or, as he called it a "win-win-win-win" and it merits your attention. Kudlow has a knack for reducing the complex down to layperson-friendly terms.

No, by my lights the deal voted down today wasn't perfect. For example, that mark-to-market accounting rule was not struck down outright, instead the deal "...mandates a study on the impact of mark-to-market accounting standards." Which is like saying that when you see someone being attacked by a swarm of hornets, you immediately demand someone conduct a study on the impact of hornet stings.

But it seemed to meet the main goal, that of stopping the financial hemorrhage.

Again, I have no idea how close to this plan is the plan which will actually end up passing. Assuming anything passes.

That said, I realize the plan -- in my opinion incorrectly billed as a bailout; "bailout" essentially meaning "here, Wall Street and deadbeat borrowers, take a gazillion dollars of taxpayer funds and clean up the mess you made" -- is wildly unpopular. However, the (incorrect, IMCO) popular perception is that this is showering money on people who shouldn't have had a mortgage in the first place, etc. (It's not.) Congress reported calls running +/- 25:1 against it, in fact. But most people really have absolutely no idea:

a) how financial markets work,
b) how what happens on Wall St. deeply impacts what happens on Main St. (which is why a lot of people get all mad at oil companies, instead of oil speculators, for rising fuel prices) and
c) the scope of the abyss* down which we are staring.

This is not to say there's nothing left to do and the plan (assuming...blahblahblah, etc.) will prove a miraculous cure-all. The problem, and it is a colossal problem, is that nobody wants to lend their money (and we're talking a zillion tons of it) to anyone. The issue (for now) is not solvency, but liquidity. It's not "does the car have any gas?" but "does the car have any oil pumping through it?" What would you rather have, a car that runs out of gas at highway speeds, or one that runs out of oil all of a sudden at the same speeds? (Hint: Find some videos on YouTube of race cars with catastrophic oil pump failures. Yeah..."wow" is right.) That is what we are facing, and it would be just as cataclysmic for an economy as it would for a minivan.

Lack of liquidity, however, has a nasty habit of turning into insolvency REALLY fast. Washington Mutual can't get the everyday cash it needs to handle daily operations and just like that [finger snap] it's seized by the gummint, broken up, and its assets sold off for pennies. Oh, those bondholders and shareholders of Washington Mutual are now holding worthless paper. This puts pressure on other banks (like, say Wachovia Bank, the 6th largest in the USA) because their cost on insuring their debt just shot through the roof just as they need cash on hand. Ta-da! Wachovia (wisely!) is now leaping into the arms of whomever is still there, kind of like a drunk guy looking at some aesthetically-challenged girls at closing time.

Furthermore, other banks don't want to lend to each other because they don't want to wind up like the saps who lent money to Washington Mutual and wound up losing all they invested. Worse, some of those bondholders and shareholders happen to be other banks in Europe and Asia (where they are still fighting the previous battle of inflation and have not yet figured out that systemic problems demand systemic solutions) and that's causing some of THOSE to start wobbling worryingly on their axis.This is all an unpleasant shock for people who assume this is just a USA thing; the financial markets are so interwoven -- and have been for so many decades -- that it is impossible to be isolated from the problems. Just ask Russia, which on top of everything is finding out that annoying the world with that whole Georgia-invasion thing is not the way to get people to fling capital at you.

In sum, if the situation on financial markets isn't addressed soon, we're facing, at very best, a really deep recession and at worst...you don't want to know. Let's just say your crazy relatives who moved to a compound up in Montana could be feeling pretty damned smug and history books will rewrite the Great Depression as the Not Really That Bad, Now That We Think About It, Depression.

However, this needn't get worse. The fundamental underpinnings of the US economy are still (for now) okay. Personal income grew 0.5% (the projection was for only 0.2%) and 2nd Quarter GDP was 2.8% (up from a piddling 0.9% in the 1st Quarter).

But every setback (not backstopping Lehman is starting to look ever-dumber, no?) just makes any eventual solution exponentially costlier and exponentially more painful.

In sum, if you want a cheat-sheet for seeing how things are going, just look to see how well banks are lending each other money in the "overnights," the more they are lending each other, the closer we are to the end of this mess. (Click here and check the "TED Spread"**.)

So that's what's going on so far.

Right now, we are playing Russian roulette and every week we keep adding another bullet to another chamber.

-J.

P.S. My favorite quote from Someone Who Really Knows: "If you're not scared [deleted] you're on public assistance."

* As in, really, really, REALLY have no idea how bad it would get.

** Quote: "Okay, it's a little eye-crossing. But basically, the bigger the TED spread number, the more hesitant banks are to lend to one another. And that reverberates all the way up the credit chain. (And that swap rating, basically the rate institutions put on trading cash flow streams, is even more complicated. In the end, it's a measure of risk aversion).
You don't have to be fluent in all this credit notions to make use of the page. In the end, it's a way of monitoring whether banks and other credit institutions are getting more nervous, or less nervous. Here's hoping those numbers head down. Let's watch'em."

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