The only point I would quibble with is the bailout in 6. The federal govt is too weak financially to conduct any sort of bailout of this magnitude. And he forgot point 9, the years of litigation to follow.
I also agree that the federal government has the money for a full scale bailout. In my article on the Dollar Standard in Jeopardy I reasoned that the US couldnt borrow the trillions of dollars it would take to bail out just our financial institutions.
Consider that if we were to borrow trillions for a bailout, then could the US deny that we can even service our existing deficit without borrowing money. I would doubt it.
I suppose how bad it will be depends on one view of the current and future leadership of the US as well as the ability of the financial markets to adjust plus the international situations.
or even how one views how bad things will have to get before the GOP loses at the polls.
The federal govt is too weak financially to conduct any sort of bailout of this magnitude
I don't think the government finances are that weak. They are only bad compared to what they were before, understanding that we are supposed to be well into the recovery, and given the liability we have for medicare and social security. After all, the debt over GDP ratio is nowhere near what it is in most of the euro countries.
Besides, I thought the government could borrow any amount of money it wants. The downside is that interest rates would skyrocket.
The Federal Government doesnt have infinite borrowing power.
Right now interest rates on US sovereign debt is very low due to foreign banks having collected to many US dollars. If these foreign banks were to trade these dollars for another currency, the US dollar would collapse.
Since the majority of foreign bank core assets consist of US dollar denominated assets, devaluation in the dollar would induce a banking crisis in foreign banks. So in order to avoid a collapsing dollar, foreign banks invest this back in the US as to avoid trading currency.
The US GDP has been inflated due to steep inflation due to housing. Therefore the US GDP, after the real estate market collapses, shall be much less.
Foreign banks may very well not lend to the US and therefore end the dollar standard. They may feel they have endured enough pain.
Depends on what you call a 'bail out'... if you mean a bail out sufficient to cover every moron who has a million dollar McMinimansion he can't possibly afford in Orange County, Dade County, Lake County (Illinois), Long Island, Fairfax County VA, etc... and that the new arrangement llows that their payments remain low with equity fully preserved... for ever and ever amen...
...then no there isn't enough money in the government to bail the country out.
But if you mean by 'bail out'... just keeping the capital markets liquid so relatively healthy financial companies survive, buying up then reselling the worst performing loan bundles like with RTC... Allowing failed financial companies to be dissolved or 'fire sale' merged into healthier ones (even though job loses will make S&L look like a banker holiday)... and allowing the 25% of people who are very over stretched to lose their property... But then make sure they still have a roof over their head & food on the table... Move from their 3000 foot McMinimansion to say rent subsidized apartment or 1,400 foot shoebox ranch starter or mass produced town home... while they dig out...
... if you mean THIS kind of a bail out, then all the gov't needs to do is cover the ugliest direct losses... that and facilitate the turnaround and do it over say 4 years like RTC... then the US has more than enough resources to do that.
It comes down to will. The wild card will be the politics. I have no idea how that will go... probably very ugly.
If the US bailed out its own banks only to have the crisis boomerang back though the foreign banks, this is the question.
I don't think it will be that clearly demarked... I think it will be more a case of buying up poorly performing MBSs at discount no matter where they are held... I believe more than a few foriegn entities will be in line. If they are excluded... then we run the risk of this looking like Argentina's 'solution'... and we'll have difficulty forever after being taken seriously in financial markets.
The difference between this time and the RTC will be FAR more moral hazard will be pushed on to the investors by necessity... the bail out will not be overly generous. The focus will be on preserve the system but individuals will suffer. It is a ship wreck and not everyone will make it to a lifeboat... and the lifeboats will be small and crowded and uncomfortable... and those in them will be happy they got in one when compared to those who didn't.
dry fly: The question is how much aggregate demand are overleveraged homeowners contributing (considering the multiplier effects)? Of course it is not fair to bail out people who engaged in moral hazard (at everybody else's expense) when they could have known better, but when they stop going to the store, our own asses may be on the line quite pronto as well.
In other words, when most money enters the economy by originating new loans, tightening lending standards can only lead to tightening money. The other mechanism is the Fed purchasing debt instruments on the market. The former case means easy home-related loans, the latter rewarding "investors" why will promptly put much of the money right back into other "investments", and certainly not spend a lot of it on goods that employ armies of people. We have yet to see the helicopters dumping bills on working-class neighborhoods.
"We have the keys to the printing press, and we are not afraid to use them."
Advocatus Diaboli
I really like this comment. If the US prints its way out of this then hyper-inflation is not far behind.
So far the foreign banks have been doing the dirty work of keeping this asset bubble alive. Therefore they have collected bibblical amounts of US debt.
This worked for Germany after WWI. Have you ever seen any of the postage stamps issued during that time period?
Touche, I hope that was sarcasm...
It did work for Germany if you think Hitler, Stalingrad, Auschwitz, occupation, Berlin Wall, Cold War & reunification cost was evidence of how well it all worked.
The destruction of the economy after WWI and the great inflation destroyed the vestiges of the middle class and forever turned them against the concept of 'moderate liberal democracy'... that is until they tasted the alternatives... It wasn't until the 60s that it started to really improve in Germany and they are still working it all out.
dry fly: The question is how much aggregate demand are overleveraged homeowners contributing (considering the multiplier effects)? Of course it is not fair to bail out people who engaged in moral hazard (at everybody else's expense) when they could have known better, but when they stop going to the store, our own asses may be on the line quite pronto as well.
cm - I agree that any fix that does NOT make everyone everywhere 'whole' will place a downward pressure on aggregate demand... but that is how it will be, they will have no other choices. The problem is too large and tangled.
And the longer this bubble runs the more certain I become they will only be able to save the basic systems and force individuals to fend for themselves...
It will be lifeboat economics... how well can you swim?
The S&L Scandal was far different than our current crisis. However, even in an age before derivatives and securitization took over finance the S&Ls exposed international financial institutions through investment.
The S&L Scandal was much smaller in terms of real money than this crisis. The national debt by 1989 was approx. 3 trillion while the bailout was above 170 billion. The S&Ls were primary involved, not the whole international banking system.
The rest of the lending countries didnt have steep asset bubbles as we do today. This is directly caused by the Russian Default Crisis of 1998.
Lending Standards for most money was still much tighter than it is today except for the S&Ls at the time. After the 1998 crisis lending standards were lowered in order to create money though borrowing.
Arbitrage wasnt as prevalent as today. The derivatives market is something like 150 trillion of exposure. Any strange behavior in the market can send hedge funds into insolvency.
The US dollar was still the worlds currency. However, banks didnt have to worry as much about the devaluation of the US dollar if foreign banks traded it for other currencies.
In order to save the international banking system the US, and almost every other G-8 country, would have to buy debt from the countries they sold bad debt too. At the same time these countries must deal with their own deflating assets by borrowing money.
The electrical engineer in me tells me this is a positive feedback loop. I very much doubt we can borrow our way out of this.
Lower the interest rates may not have much of an effect. That is why the world lowered its lending standard after the 1998 Russian Default Crisis.
The government has a history of buying assets to avoid a depression or to get out of one.
However, the same problem still come up, where will the money come from.
This is not a small amount of money like 170 billion for the S&L Scandal or the The Reconstruction Finance Corporation which bailed out assets in the US in the 1930's for approx. 11 billion.
How do you bail out the entire world when the entire world is losing equity through bad lending.
Buying back our own bonds may not have much of an effect if we cannot borrow money to do it or the other countries hyper-inflate to do it.
But if you mean by 'bail out'... just keeping the capital markets liquid so relatively healthy financial companies survive
Yeah I totally agree with dry fly. I think that is what a bail out will be like.
I think the government will only step in to support the Fannie Mae and Freddie Mac quasi guarantee, and ensure the FDIC insurances below 100K is honored. It may create an entity to manage bad loans from bankrupt hedge funds and banks but I don't think that bail out would be big.
Of course I do think it's gonna be painful for all of us to go through that, but I really think we can handle it.
Should there be a significant slowing of housing activity or even a decline in housing prices the economy would be weakened, possibly seriously. But, many indivudals are secure in houses in which they intend to stay. Also, should there be a weakening in the economy the bond market will be a fine refuge as it has been so often before. Knowing how to use bond funds properly seems to me essential. I am not the least worried about the bond market in case of a housing induced economic slowing, and I find no reason the Fed will not act decisively in such an instance. In any event, know the bond market.
Though I take Dean baker seriously, we should notice that there is a world wide bull stock market right now and a strong bond market as well. Broad and strong.
Markets are supposed to give us some important information and world stock and bond markets are just not telling us of short term problems. That comforts me a bit at any rate.
Markets are supposed to give us some important information and world stock and bond markets are just not telling us of short term problems. That comforts me a bit at any rate.
Jennifer - the markets don't comfort me. Markets are like SPC charts for quality control. They are great predictors of the future when the future is very similar to the present & the past... and so behaves in expected ways, like it does now and in the past.
But both SPC & markets fail when the environment on which those metrics & understandings has altered so as to no longer be predictable using the old paradigm...
This brave new world of global real estate & debt bubble and hedge funds & derivatives is pushing us into new territory... One that I don't think anyone fully understands... including market participants.
My guess is the market won't know we are heading for a world of hurt until we are already in a world of hurt.
I agree with both Dry Fly and Jennifer. We can not count on reading this market properly from here, for we do have a housing bubble and likely a broader real estate bubble. Still, knowing the bond market as Jennifer tells us so well is the way to protect ourselves. I am reading avidly on bonds and bond funds, and think I understand how to insulate my family from an end of bubble when it comes. We were extremely fortunate through the bear market in stocks, so we need to be as fortunate now. Also, we no longer have any debt.
I would certainly question why there is a world wide bull market. If any nation hyper-inflates their currency, bond will be left behind. It will be as if they didnt exist.
As for a world wide bull market, one should really consider the effects of uncontrolled money creation through borrowing to answer why it is so strong. This is just another sign of asset induced inflation through money creation.
I would certainly question why there is a world wide bull market. If any nation hyper-inflates their currency, bond will be left behind. It will be as if they didnt exist.
Ya I agree CD... Jennifer is pretty sharp but even saying that I don't know a statistically safe bet anymore... will inflation kill us or deflation or one then the other... all I know is it looks mighty ugly... tomato cans & mattresses sound about as good as any of them right now.
I think the government will only step in to support the Fannie Mae and Freddie Mac quasi guarantee, and ensure the FDIC insurances below 100K is honored. It may create an entity to manage bad loans from bankrupt hedge funds and banks but I don't think that bail out would be big.
Why does the federal government bail out all banks that get into trouble?
The federal government has historically bailed out almost all banks that become insolvent. They do this in order to stop any chance of a chain reaction of failing payments propagating through the banking system causing multiple banking failures.
So, the question, can the government allow just to bail out a few banks or do a half a bailout.
No, this is not possible with a fractional reserve system. If only a few banks were bailed out, like the GSEs and low performing MBSs were bought back what would be the impact.
Banks would become insolvent in mass due to missed payments. As a huge amount of risky loans are not GSE originated, and these loans are very speculative in nature and go to homes which are not lived in by the owner.
The banking system would still be destroyed, you either bail all your troubled banks or the bailout would be ineffective.
Dont forget, this is not just an American problem. Most of our major partners are going through the same thing.
Interesting to think why the so many countries have hyper-inflated their money through borrowing isnt it. Obviously they thought that would be the best choice. Only a currency in trouble chooses this option.
Banking has changed with the advent of modern derivatives, past theories do not apply any longer because they do not take into account hyper-inflating the money supply through borrowing.
I am carefully following your interesting discussion, and will try to add when I have weighed different arguments, but the diswcussion is most useful and I thank you much.
Gary Shilling (Forbes) thinks we are in a bear market rally in stocks. Also on housing:
"...this time the housing boom is much bigger and national. Americans still think they deserve huge investment returns but are wary of stocks after the big decline. That's why they look to real estate. And low interest rates and loose lending terms have made speculation easy.
When, not if, the housing bubble bursts, the effects will be devastating. While half of U.S. households own stocks, 69% own their homes. Furthermore, the median-income American has much more of his net worth in his house than he ever had in stocks, even at their peak. The likely nosedive in house prices will end the two-decade-long consumer borrowing-and-spending binge and launch a saving spree.
Since consumers account for 70% of GDP, U.S. growth will suffer. Export-driven countries that depend on America, notably China, will be hurt more. Chinese officials are succeeding in cooling their white-hot economy, and a recession in that global growth generator is likely. They lack the policy tools to effect a soft landing in what is only a semi-market economy."
Jennifer,I think, is in the bond business(?) (or academia) myopic and special interestone horse.
Lucked out with all the insane borrowing going on across the country. Very bad for this country, but good for her and her ilk.
Any of you remember Long Term Capital Management derivatives and arbitrage use?! Almost brought all the markets down! All the markets, but the big, big money boys bailed it out to prevent international havock.
Govt. if not legally required to bail out to bail out Fannie and Freddie--contrary to popular opinion out htere.
jl: (off-topic side note) In the days after .com, it happened that a bunch of people including myself were chatting about miscellaneous stuff. Somebody (not me!) complained how they had to juggle a dozen or so bank accounts. A second person responded: "Why don't you put everything in one account, it is much more convenient." Me: "Yeah, but FDIC insurance on accounts is only up to 100K." -- Embarrassed silence on all sides, and mild fidgeting on the part of the first party ... Moral: Watch your words when I'm around!
dry fly: Lifeboat as in "hitting people trying to climb in with a paddle and pushing them under the water" (so that the boat doesn't get overfull)? We may already be seeing that ... not just since this administration, lifetime welfare limits, workfare, and all ...
Chromatic Dispersion: You are convincingly arguing the moral hazard -- get your loan today instead of paying for your neighbor's tomorrow (or you are paying anyway, so get some goodies).
dry fly: "doing the market": That's the problem -- once you have the "information at your fingertips" to squeeze out the signal characteristics from your channel, what remains is the noise ...
But that's perhaps just a minor contributor. Mainly, when the feedback loop becomes so short/strong that the feedback overshoots, it makes for a rough ride. The financial system always has been 24/7, and the internet has greatly accelerated both "information" (data?) flow and response time, which has (in my amateur view, anyway) greatly increased the pressure to act on the part of all players.
As a side note, the same is true in all of economy & society, only there are no readily available and prominent indicators to show that.
The moral hazard is definitely a symptom of a fractional reserve system with a small amount of money supporting exponentially higher levels of debt. Therefore in order to save the banking system you cannot do a partial bailout, leading to the moral hazard.
I am arguing, that if too much money is a risk, there is no way you can perform a bailout without destroying the currency. Counties have basically over leveraged their monetary systems by hyper-inflating the money supply through sketchy borrowing practices.
I dont believe the world can borrow its way out of a situation caused by hyper borrowing. In the end, no matter what you call it, it is still monetizing the debt or printing money in order to heal the monetary breach.
The fact is that if you can get through the turbulence of the money supply it may be actually better to own now then to buy latter. The trick is of course hanging on to your home during the turbulence of the money supply. Many people dont have the financial leeway in order to accomplish this.
Chromatic Dispersion: Yeah, I see the dilemma too. One problem with feasible and orderly solutions is that people would have to sacrifice the more the closer they sit to the goodies and the levers of power.
I don't think there is a dearth of money, but too much of newly created money (i.e. debt) ends up circulating in property and financial markets, and too little in "real" investments and real production. (I.e. to use the lame but accurate phrase, it is if not entirely owned, then in possession of the "investor class" who effectively monopolizes it.) Issuing more money in a system where most of the money flows to the rich money bags and their financial handlers will only exacerbate this.
But then what are the fundamental "traction" mechanisms for all the money flowing upward? Is it that in a "vertically" labor-divided society that is increasingly based on legal maneuvers and procedure, all economic actors can no longer be self-sufficient, enabling people who manage to monopolize important resources to collect rent (not just land & building rent, but including "business interfaces" for lack of a better term) from everybody? This needs more thought on my part.
The only point I would quibble with is the bailout in 6. The federal govt is too weak financially to conduct any sort of bailout of this magnitude. And he forgot point 9, the years of litigation to follow.
I also agree that the federal government has the money for a full scale bailout. In my article on the Dollar Standard in Jeopardy I reasoned that the US couldnt borrow the trillions of dollars it would take to bail out just our financial institutions.
Consider that if we were to borrow trillions for a bailout, then could the US deny that we can even service our existing deficit without borrowing money. I would doubt it.
This situation is not your fathers S&L Scandal
Chromatic Dispersion
Banking, Derivatives, and Systemic Risk: Dollar Standard in Jepordy
Sorry, I meant to say I also agree that the federal government may have difficulty in obtaining money for a full scale bailout.
Chromatic Dispersion
I suppose how bad it will be depends on one view of the current and future leadership of the US as well as the ability of the financial markets to adjust plus the international situations.
or even how one views how bad things will have to get before the GOP loses at the polls.
The federal govt is too weak financially to conduct any sort of bailout of this magnitude
I don't think the government finances are that weak. They are only bad compared to what they were before, understanding that we are supposed to be well into the recovery, and given the liability we have for medicare and social security. After all, the debt over GDP ratio is nowhere near what it is in most of the euro countries.
Besides, I thought the government could borrow any amount of money it wants. The downside is that interest rates would skyrocket.
The Federal Government doesnt have infinite borrowing power.
Right now interest rates on US sovereign debt is very low due to foreign banks having collected to many US dollars. If these foreign banks were to trade these dollars for another currency, the US dollar would collapse.
Since the majority of foreign bank core assets consist of US dollar denominated assets, devaluation in the dollar would induce a banking crisis in foreign banks. So in order to avoid a collapsing dollar, foreign banks invest this back in the US as to avoid trading currency.
The US GDP has been inflated due to steep inflation due to housing. Therefore the US GDP, after the real estate market collapses, shall be much less.
Foreign banks may very well not lend to the US and therefore end the dollar standard. They may feel they have endured enough pain.
Chromatic Dispersion
Depends on what you call a 'bail out'... if you mean a bail out sufficient to cover every moron who has a million dollar McMinimansion he can't possibly afford in Orange County, Dade County, Lake County (Illinois), Long Island, Fairfax County VA, etc... and that the new arrangement llows that their payments remain low with equity fully preserved... for ever and ever amen...
...then no there isn't enough money in the government to bail the country out.
But if you mean by 'bail out'... just keeping the capital markets liquid so relatively healthy financial companies survive, buying up then reselling the worst performing loan bundles like with RTC... Allowing failed financial companies to be dissolved or 'fire sale' merged into healthier ones (even though job loses will make S&L look like a banker holiday)... and allowing the 25% of people who are very over stretched to lose their property... But then make sure they still have a roof over their head & food on the table... Move from their 3000 foot McMinimansion to say rent subsidized apartment or 1,400 foot shoebox ranch starter or mass produced town home... while they dig out...
... if you mean THIS kind of a bail out, then all the gov't needs to do is cover the ugliest direct losses... that and facilitate the turnaround and do it over say 4 years like RTC... then the US has more than enough resources to do that.
It comes down to will. The wild card will be the politics. I have no idea how that will go... probably very ugly.
RTC during the S&L Scandal started at about 50 billion and FDIC estimated that is took 170 billion by the end game.
I also believe FDIC increased this estimate.
The amount of money will be determined by bank defaults in order to save the banking system.
The question I am looking at is how the foreign banks will fail. With exposure though US sovreign debt and derivatives, how would this play out.
If the US bailed out its own banks only to have the crisis boomerang back though the foreign banks, this is the question.
If the US bailed out its own banks only to have the crisis boomerang back though the foreign banks, this is the question.
I don't think it will be that clearly demarked... I think it will be more a case of buying up poorly performing MBSs at discount no matter where they are held... I believe more than a few foriegn entities will be in line. If they are excluded... then we run the risk of this looking like Argentina's 'solution'... and we'll have difficulty forever after being taken seriously in financial markets.
The difference between this time and the RTC will be FAR more moral hazard will be pushed on to the investors by necessity... the bail out will not be overly generous. The focus will be on preserve the system but individuals will suffer. It is a ship wreck and not everyone will make it to a lifeboat... and the lifeboats will be small and crowded and uncomfortable... and those in them will be happy they got in one when compared to those who didn't.
Just my WAG on how it will look.
dry fly: The question is how much aggregate demand are overleveraged homeowners contributing (considering the multiplier effects)? Of course it is not fair to bail out people who engaged in moral hazard (at everybody else's expense) when they could have known better, but when they stop going to the store, our own asses may be on the line quite pronto as well.
In other words, when most money enters the economy by originating new loans, tightening lending standards can only lead to tightening money. The other mechanism is the Fed purchasing debt instruments on the market. The former case means easy home-related loans, the latter rewarding "investors" why will promptly put much of the money right back into other "investments", and certainly not spend a lot of it on goods that employ armies of people. We have yet to see the helicopters dumping bills on working-class neighborhoods.
"We have the keys to the printing press, and we are not afraid to use them."
"We have the keys to the printing press, and we are not afraid to use them."
Advocatus Diaboli
I really like this comment. If the US prints its way out of this then hyper-inflation is not far behind.
So far the foreign banks have been doing the dirty work of keeping this asset bubble alive. Therefore they have collected bibblical amounts of US debt.
Print money and the whole system shall melt down.
"Print money and the whole system shall melt down."
This worked for Germany after WWI. Have you ever seen any of the postage stamps issued during that time period?
I haven't seen a postage stamp, but I have seen a one sided million dollar mark.
I live in Washington DC, I think it is at the Smithsonian.
This worked for Germany after WWI. Have you ever seen any of the postage stamps issued during that time period?
Touche, I hope that was sarcasm...
It did work for Germany if you think Hitler, Stalingrad, Auschwitz, occupation, Berlin Wall, Cold War & reunification cost was evidence of how well it all worked.
The destruction of the economy after WWI and the great inflation destroyed the vestiges of the middle class and forever turned them against the concept of 'moderate liberal democracy'... that is until they tasted the alternatives... It wasn't until the 60s that it started to really improve in Germany and they are still working it all out.
It could happen to us.
dry fly: The question is how much aggregate demand are overleveraged homeowners contributing (considering the multiplier effects)? Of course it is not fair to bail out people who engaged in moral hazard (at everybody else's expense) when they could have known better, but when they stop going to the store, our own asses may be on the line quite pronto as well.
cm - I agree that any fix that does NOT make everyone everywhere 'whole' will place a downward pressure on aggregate demand... but that is how it will be, they will have no other choices. The problem is too large and tangled.
And the longer this bubble runs the more certain I become they will only be able to save the basic systems and force individuals to fend for themselves...
It will be lifeboat economics... how well can you swim?
The S&L Scandal was far different than our current crisis. However, even in an age before derivatives and securitization took over finance the S&Ls exposed international financial institutions through investment.
The S&L Scandal was much smaller in terms of real money than this crisis. The national debt by 1989 was approx. 3 trillion while the bailout was above 170 billion. The S&Ls were primary involved, not the whole international banking system.
The rest of the lending countries didnt have steep asset bubbles as we do today. This is directly caused by the Russian Default Crisis of 1998.
Lending Standards for most money was still much tighter than it is today except for the S&Ls at the time. After the 1998 crisis lending standards were lowered in order to create money though borrowing.
Arbitrage wasnt as prevalent as today. The derivatives market is something like 150 trillion of exposure. Any strange behavior in the market can send hedge funds into insolvency.
The US dollar was still the worlds currency. However, banks didnt have to worry as much about the devaluation of the US dollar if foreign banks traded it for other currencies.
In order to save the international banking system the US, and almost every other G-8 country, would have to buy debt from the countries they sold bad debt too. At the same time these countries must deal with their own deflating assets by borrowing money.
The electrical engineer in me tells me this is a positive feedback loop. I very much doubt we can borrow our way out of this.
Chromatic Dispersion
The Fed will lower interest rates and even buy long bonds if necessary to restore the economy and housing should it come to that.
Lower the interest rates may not have much of an effect. That is why the world lowered its lending standard after the 1998 Russian Default Crisis.
The government has a history of buying assets to avoid a depression or to get out of one.
However, the same problem still come up, where will the money come from.
This is not a small amount of money like 170 billion for the S&L Scandal or the The Reconstruction Finance Corporation which bailed out assets in the US in the 1930's for approx. 11 billion.
How do you bail out the entire world when the entire world is losing equity through bad lending.
Buying back our own bonds may not have much of an effect if we cannot borrow money to do it or the other countries hyper-inflate to do it.
Boomerang
"It could happen to us."
I think desperation prompted the hyperinflation and set the stage for the bad things that happened afterwards. I don't blame the hyperinflation.
But if you mean by 'bail out'... just keeping the capital markets liquid so relatively healthy financial companies survive
Yeah I totally agree with dry fly. I think that is what a bail out will be like.
I think the government will only step in to support the Fannie Mae and Freddie Mac quasi guarantee, and ensure the FDIC insurances below 100K is honored. It may create an entity to manage bad loans from bankrupt hedge funds and banks but I don't think that bail out would be big.
Of course I do think it's gonna be painful for all of us to go through that, but I really think we can handle it.
Should there be a significant slowing of housing activity or even a decline in housing prices the economy would be weakened, possibly seriously. But, many indivudals are secure in houses in which they intend to stay. Also, should there be a weakening in the economy the bond market will be a fine refuge as it has been so often before. Knowing how to use bond funds properly seems to me essential. I am not the least worried about the bond market in case of a housing induced economic slowing, and I find no reason the Fed will not act decisively in such an instance. In any event, know the bond market.
Though I take Dean baker seriously, we should notice that there is a world wide bull stock market right now and a strong bond market as well. Broad and strong.
Markets are supposed to give us some important information and world stock and bond markets are just not telling us of short term problems. That comforts me a bit at any rate.
Markets are supposed to give us some important information and world stock and bond markets are just not telling us of short term problems. That comforts me a bit at any rate.
Jennifer - the markets don't comfort me. Markets are like SPC charts for quality control. They are great predictors of the future when the future is very similar to the present & the past... and so behaves in expected ways, like it does now and in the past.
But both SPC & markets fail when the environment on which those metrics & understandings has altered so as to no longer be predictable using the old paradigm...
This brave new world of global real estate & debt bubble and hedge funds & derivatives is pushing us into new territory... One that I don't think anyone fully understands... including market participants.
My guess is the market won't know we are heading for a world of hurt until we are already in a world of hurt.
I agree with both Dry Fly and Jennifer. We can not count on reading this market properly from here, for we do have a housing bubble and likely a broader real estate bubble. Still, knowing the bond market as Jennifer tells us so well is the way to protect ourselves. I am reading avidly on bonds and bond funds, and think I understand how to insulate my family from an end of bubble when it comes. We were extremely fortunate through the bear market in stocks, so we need to be as fortunate now. Also, we no longer have any debt.
Thank you Jennifer and Dry Fly.
Always good work CR. I can not get enough of your posts.
Jennifer,
I would certainly question why there is a world wide bull market. If any nation hyper-inflates their currency, bond will be left behind. It will be as if they didnt exist.
As for a world wide bull market, one should really consider the effects of uncontrolled money creation through borrowing to answer why it is so strong. This is just another sign of asset induced inflation through money creation.
I would certainly question why there is a world wide bull market. If any nation hyper-inflates their currency, bond will be left behind. It will be as if they didnt exist.
Ya I agree CD... Jennifer is pretty sharp but even saying that I don't know a statistically safe bet anymore... will inflation kill us or deflation or one then the other... all I know is it looks mighty ugly... tomato cans & mattresses sound about as good as any of them right now.
I think the government will only step in to support the Fannie Mae and Freddie Mac quasi guarantee, and ensure the FDIC insurances below 100K is honored. It may create an entity to manage bad loans from bankrupt hedge funds and banks but I don't think that bail out would be big.
Why does the federal government bail out all banks that get into trouble?
The federal government has historically bailed out almost all banks that become insolvent. They do this in order to stop any chance of a chain reaction of failing payments propagating through the banking system causing multiple banking failures.
So, the question, can the government allow just to bail out a few banks or do a half a bailout.
No, this is not possible with a fractional reserve system. If only a few banks were bailed out, like the GSEs and low performing MBSs were bought back what would be the impact.
The census bureau came out today with vacancy numbers for homes at 9.8 for rentals and 1.8 for homeowner.
http://www.census.gov/hhes/www/housing/hvs/qtr205/q205prss.pdf
Banks would become insolvent in mass due to missed payments. As a huge amount of risky loans are not GSE originated, and these loans are very speculative in nature and go to homes which are not lived in by the owner.
The banking system would still be destroyed, you either bail all your troubled banks or the bailout would be ineffective.
Dont forget, this is not just an American problem. Most of our major partners are going through the same thing.
Interesting to think why the so many countries have hyper-inflated their money through borrowing isnt it. Obviously they thought that would be the best choice. Only a currency in trouble chooses this option.
Banking has changed with the advent of modern derivatives, past theories do not apply any longer because they do not take into account hyper-inflating the money supply through borrowing.
I am carefully following your interesting discussion, and will try to add when I have weighed different arguments, but the diswcussion is most useful and I thank you much.
Gary Shilling (Forbes) thinks we are in a bear market rally in stocks. Also on housing:
"...this time the housing boom is much bigger and national. Americans still think they deserve huge investment returns but are wary of stocks after the big decline. That's why they look to real estate. And low interest rates and loose lending terms have made speculation easy.
When, not if, the housing bubble bursts, the effects will be devastating. While half of U.S. households own stocks, 69% own their homes. Furthermore, the median-income American has much more of his net worth in his house than he ever had in stocks, even at their peak. The likely nosedive in house prices will end the two-decade-long consumer borrowing-and-spending binge and launch a saving spree.
Since consumers account for 70% of GDP, U.S. growth will suffer. Export-driven countries that depend on America, notably China, will be hurt more. Chinese officials are succeeding in cooling their white-hot economy, and a recession in that global growth generator is likely. They lack the policy tools to effect a soft landing in what is only a semi-market economy."
Some other interesting comments ...
Best to All!
Agree once again df and CR.
Jennifer,I think, is in the bond business(?) (or academia) myopic and special interestone horse.
Lucked out with all the insane borrowing going on across the country. Very bad for this country, but good for her and her ilk.
Any of you remember Long Term Capital Management derivatives and arbitrage use?! Almost brought all the markets down! All the markets, but the big, big money boys bailed it out to prevent international havock.
Govt. if not legally required to bail out to bail out Fannie and Freddie--contrary to popular opinion out htere.
jl: (off-topic side note) In the days after .com, it happened that a bunch of people including myself were chatting about miscellaneous stuff. Somebody (not me!) complained how they had to juggle a dozen or so bank accounts. A second person responded: "Why don't you put everything in one account, it is much more convenient." Me: "Yeah, but FDIC insurance on accounts is only up to 100K." -- Embarrassed silence on all sides, and mild fidgeting on the part of the first party ... Moral: Watch your words when I'm around!
dry fly: Lifeboat as in "hitting people trying to climb in with a paddle and pushing them under the water" (so that the boat doesn't get overfull)? We may already be seeing that ... not just since this administration, lifetime welfare limits, workfare, and all ...
Chromatic Dispersion: You are convincingly arguing the moral hazard -- get your loan today instead of paying for your neighbor's tomorrow (or you are paying anyway, so get some goodies).
dry fly: "doing the market": That's the problem -- once you have the "information at your fingertips" to squeeze out the signal characteristics from your channel, what remains is the noise ...
But that's perhaps just a minor contributor. Mainly, when the feedback loop becomes so short/strong that the feedback overshoots, it makes for a rough ride. The financial system always has been 24/7, and the internet has greatly accelerated both "information" (data?) flow and response time, which has (in my amateur view, anyway) greatly increased the pressure to act on the part of all players.
As a side note, the same is true in all of economy & society, only there are no readily available and prominent indicators to show that.
cm,
The moral hazard is definitely a symptom of a fractional reserve system with a small amount of money supporting exponentially higher levels of debt. Therefore in order to save the banking system you cannot do a partial bailout, leading to the moral hazard.
I am arguing, that if too much money is a risk, there is no way you can perform a bailout without destroying the currency. Counties have basically over leveraged their monetary systems by hyper-inflating the money supply through sketchy borrowing practices.
I dont believe the world can borrow its way out of a situation caused by hyper borrowing. In the end, no matter what you call it, it is still monetizing the debt or printing money in order to heal the monetary breach.
The fact is that if you can get through the turbulence of the money supply it may be actually better to own now then to buy latter. The trick is of course hanging on to your home during the turbulence of the money supply. Many people dont have the financial leeway in order to accomplish this.
All - Great comments!
tanta - thank you so much. I humbly bow to your awesome knowledge!
Best Regards.
Chromatic Dispersion: Yeah, I see the dilemma too. One problem with feasible and orderly solutions is that people would have to sacrifice the more the closer they sit to the goodies and the levers of power.
I don't think there is a dearth of money, but too much of newly created money (i.e. debt) ends up circulating in property and financial markets, and too little in "real" investments and real production. (I.e. to use the lame but accurate phrase, it is if not entirely owned, then in possession of the "investor class" who effectively monopolizes it.) Issuing more money in a system where most of the money flows to the rich money bags and their financial handlers will only exacerbate this.
But then what are the fundamental "traction" mechanisms for all the money flowing upward? Is it that in a "vertically" labor-divided society that is increasingly based on legal maneuvers and procedure, all economic actors can no longer be self-sufficient, enabling people who manage to monopolize important resources to collect rent (not just land & building rent, but including "business interfaces" for lack of a better term) from everybody? This needs more thought on my part.