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Thursday, January 10, 2008

Small talk, 2008 style

How's your bank doing?

Comments (4)

I'm hearing MBIA which insures many muni bonds nationally may be out of cash by the end of '08. Hopefully, the Federal Reserve steps up its interest rate cuts so as to soften the current global credit crunch. Greenspan and Rubin were pretty good at solving past credit crunches like the '98 Asian meltdown and the Longterm Capital bankruptcy. Greenspan had his downsides like making credit too easy for too long eventually leading to the current housing bust, and then there was his knifing of the 90s stock boom by sharply hiking rates in 2000. We've got a rookie running the Fed now, and hopefully he weighs the credit crisis more importantly than high oil prices.


"credit crunch" huh?

There is a mismatch between debt and the means to repay that debt. A banker wants to get a gift, to then lend out, by asking the Fed to debase the currency. This is hardly good economic policy. If the cause was debasement to begin with we must therefor debase some more. This is funny, but is the mantra that folks seem to follow. (It is astroturfing, designed to create debt slaves.)

A wage earner's wage becomes an even smaller proportion of the effective money supply . . . translating immediately to real wage deflation.

I want home prices that folks can cover with wages in ten years time, to roughly match the period of time that an investor that rents out property uses for deriving a capitalization rate for return of their investment. Isn't money supposed to be just a means of exchange? Instead, we will see 40 or 50 year mortgage documents. See how it works? Then we will use our fantastic "labor productivity gains" to boost the retirement age (in our upside down world).

I am sure that our local champion of Affordable Housing (landlord subsidies) and advocate of house-price-gambling Mr. Erik Sten would serve the useful idiot role quite well at a national level, if all one wants to do is give out unearned gifts to a select group of folks. He is the kind of person for whom the PR is directed.

The Albania-style pyramid scheme for home prices and the stock price valuations has run it's course for this current go around in the inherently-untamable-business-cycle.

The public cost in trying to perpetuate a classic pyramid scheme is higher than the cost associated with letting it collapse and restart, again, with some minor corrections and new but temporary platitudes toward assuring that it will never happen again. And it will happen again. The collapse is inevitable.

The present problem, and explosion of debt, began when the professional actor took office. We have fully replaced CPI related inflationary expectations with asset price inflationary expectations . . . in a bizarro sort of world. It is the new problem that needs to be slayed . . . "asset price inflationary expectations."

Imagine a world where wages are expected to increase yearly by eight percent just as are the asset prices held by pension trusts today. They cannot both simultaneously go up by eight percent per year, can they? There is a trade-off. What if folks stopped buying stocks until they had first paid off their home purchase debt entirely? That would be the correct planning decision on an individual level, under the correct set of policy choices by Congress and the Fed. But it conflicts with the mantra.

What happens when the home price normalize to a natural equilibrium? Property tax collections drop. The municipal lenders are gambling too that home prices, maintained through debt creation, continues on an unnatural and unsustainable course. But hope springs eternal, even when it is wholly irrational.


I hear what your saying but it's a moral dilema. If the FED does nothing, the economy could spiral into a depression. Unemployment skyrockets to over 10%, wages drop reducing many homeowners ability to make their mortgage payment. Folks that were making their mortgage payment suddenly can't make their mortgage payment. Who in their right mind would want this kind of deflationary event. Better the Fed debase the currency a little by pumping out a few more easy dollars. Heck, inflation is not really that big of a problem right now, anyways at 2 to 3 percent...Not too different from its historical average


MBIA says they have raised an additional $2 billion of capital (from Warburg Pincus and a preferred "surplus notes" sale), and is likely seeking reinsurance to strengthen their balance sheet.

Other "monoline" insurers are taking similar steps to maintain their AAA credit ratings.

Warren Buffet recently started his own municipal bond insurer, with the stated intention of charging higher premiums (given his superior liquidity), and has indicated his company will not insure the more volatile derivative instruments which has adversely impacted the established monoline insurers.

It seems obvious (in hindsight) that too much liquidity at artificially low interest rates prompted lenders to price credit risk too cheaply. In the retail mortgage business, this was largely the result of reduced downpayment requirements which were ostensibly intended to increase homeownership rates. The system was abused by real estate speculators who used the more liberal underwriting standards to lever up and buy lots of houses without the ability to service their debt unless they could flip the properties quickly.

Wall Street facilitated the lending orgy by securitizing these mortgages into bundles of mortgage backed securities which allowed even the riskiest loans to be sold as AAA securities (thanks to the ratings agencies) thereby freeing up their balance sheets for even more high risk lending. The shell game began to unwind when rising mortgage defaults, coupled with carry trading (borrowing at short term rates to invest in long term maturities) and highly leveraged derivatives (like hedge funds "investing" with 10 cents on the dollar, either long or short) produced 30% to 70% losses in a matter of days or weeks.

The whole shell game only works so long as prices are rising. The smartest guys in the room should have anticipated the painful unwinding, but their assumptions were predicated on historical real estate and economic models which didn't incorporate so much leverage and mispriced risk premiums.

I don't know how long this unwinding will last (or which banks are likely to fail), but it seems likely to produce a recession no matter what the fed does. Personally, I don't think any fiscal stimulus is going to make much difference.

If the problem was caused by too much liquidity at too low a rate of interest, it seems counterintuitive that you can fix it with more liquiditiy at artificially low rates. Even if it does work, the U.S. Dollar seems likely to decline further.

If nothing else it makes sense to make certain your bank deposits do not exceed the FDIC insured limit at any single institution.

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