30 September 2008

Short Take; FDIC asks to boost its per-depositor ceiling

In one of the few moves that are concretely, definitely, obviously aimed at making you and me, the average schmo on the street a little more confident that we're not going to be standing in lines for soup, the several people, including both candidates, have spent today babbling about the idea of the FDIC raising its per-depositor ceiling from $100,000 to $250,000.

Now, the word via the NyTimes is that the FDIC are themselves asking for that authority.

More later tonight or tomorrow.
First of all, let me pimp an article by my friend Chris, in which he expands a bit on the theme of liquidity: "Financial Lubricants".

One of the things being stressed this afternoon in the press, even as the markets rebound a bit, is that the money market is not rebounding at all. It's almost entirely jammed up, right now. Banks are just not lending to other banks, at least, not on favourable terms. Only the central banks of various nations (including the Federal Reserve) are being more open, but of course, all that does is put taxpayers on the hook for that borrowing.

This is part of what Paulson means when Congresscritters ask him why we should be on the hook for a $700bn credit line and he retorts that that the taxpayer is already on the hook. We are, through the Federal Reserve, lending money to banks who can't get it any other way. We're taking whatever collateral they can give us (at least, so I assume), and often, it's going to be crap, because that's all they've got. Of course, most of these banks really will pay back their notes--short term lending like this is supposed to be low-risk. But there's still likely to be some crap in there.

Meanwhile, the Senate appears poised to try to take the lead over the next day or so, rather than letting the House embarrass itself again right away. The theory presumably is that if the older, wiser heads of the Senate can get something passed, it will be easier to ram it down the House's collective throats. I'm not sure I'm buying it. I think too many of the people who said "no" really mean it, and at least some of the people who said "yes" really meant "no" and will find the courage to say so. I'm also not convinced that any attempt to even talk about the bailout won't face a filibuster.


So about the bailout itself. I'm still not convinced it's the right answer, but the more I understand about what Paulson was trying to do right from the start, the more I get why he and others think it's not an awful idea, anyway.

The idea, as near as I can decipher it, is to give Treasury a line of credit--a really bloody huge line of credit--with which to purchase "distressed" assets, like mortgage-backed securities whose mortgages are in the sewer. The theory, as I think I've said before, is to get them off the books of the banks, so the banks on the one hand no longer feel like they have to hoard cash to keep their balance sheets black, so they can lend again; and on the other hand no longer only have crap mortgage-backed bonds to use as collateral for being the borrowers.

Meanwhile, Treasury, which doesn't care if it holds on to a bunch of rotting meat for years, can wait paitently for the market to improve, and sell the securities as their value improves (or at least try to get more out of them) at a more leisurely pace. The bet being made is that while many of these securities are crap right now (because they're based on mortages whose underlying property values are no longer adequate, regardless of their interest terms or forecloseability), the housing market will eventually recover. 

Therefore even if some of these properties wind up foreclosed upon, there will be greater value available, later, than there would be now. The bailout bill's line of credit would wind up repaid and might even yield a profit, even if some percentage of the distressed securities really do turn out to be irredeemable turds.


And so now we come to the real reason why the bailout is itself an irredeemable turd and really ought to be rejected a second time: the bailout is doing exactly what the market was doing. It's betting that the housing market will eventually improve to the point where these securities are actually worth something.

Now...that's not really a completely incredible bet. Yes, the housing market is still falling and it doesn't have an obvious bottom in sight, but there does have to be a bottom, and then, it will bounce and start coming up again. There will, one day, be a demand again, and demand creates value.

It's the time-frame that makes the bet a shaky one. What if it takes five years just for the market to hit bottom. Or ten. Nobody wants it to, of course, but what if it does? And then takes another five to ten years to come back up to levels where the securities are worth a damn?

Even if it doesn't take that long, we can't assume that the value of these securities won't continue to fall after the government purchases them. One thing that's been made clear is that Treasury is not going to be able to buy them at absolute firesale prices. As much as the banks want them gone, they aren't going to accept pennies on the dollar. They're going to at least want something like the current value.

And there, at last, is the rub. We don't know their current value, not for certain. Not in aggregate. To investigate that, we would need to look not only at the securities themselves but the underlying mortgages and their terms, and then the value of the property securing that mortage, for every single one of these monsters. 

That, in the end, is why Paulson asked for so damned much money. Nobody really knows how much he's going to need to make this work, even if all the other conditions work out exactly the way he wants them to. They picked a nice big number that was lower than the deeply scary $1tn mark and figured it would probably be enough to at least get things started, even in the worst case.

There are too many unknowns, here, even now. And in the time it would take to nail them down, the credit freeze's side-effects would have begun rippling outward even further. Trickle-down economics might not work for prosperity, but there's no real question that it will work for pain. Something really does need to be done that unfreezes the money market.

But this bill ain't it.

Spreading Ripples

Of course, while America sleeps, Asia does business, and as America is starting to fumble for the coffee pot, Europe is well into its trading day.

The news is...not so good. But with one exception, which I'll note first, there are no signs of genuine panic, and even some signs of rebound.

Russia is not a country one usually associates with the words "stock market" at all, really, but it does have one. Two of its major indexes underwent major pullbacks today, requiring regulators there to actually suspend trading for a couple of hours to give people a chance to cool off and think about what they were doing.

Russia's actually had quite a bit of trouble, lately. Vladimir Putin gambled on flexing his muscles during the recent crisis in Georgia, in part because Russia seemed strong enough again to exert its own economic and political influence. The Russian economy has suffered ever since, however. Investors are nervous about putting money into Russia when it's feeling belligerent, and their banks are having some of the same "liquidity crisis" that we're having over here. Much of Russia's feeling of strength came from its status as an oil producer, but the price of oil has fallen significantly from its high of $147 in July.

Not all the market news is dire, however. The Heng Seng index out of Hong Kong posted a pretty good day, a further reflection perhaps of where China stands relative to the US and Europe in the credit mess. And the FTSE 100 index in London is also holding its own this morning. Furthermore, the futures trading market, which gambles on how the next day will go, is up for the DJIA and the S&P 500, suggesting that bargain hunting will keep the market from sliding much further today. Indeed, as I wrote this, US markets opened with a nice initial bounce, with the Dow 30 gaining 200 points back from the 777 point plummet yesterday.


Meanwhile, in Belgium, a bank named Dexia is requiring a massive bailout from the governments of Belgium, France and Luxembourg today. Its US operations are haemorrhaging money because of, say it with me now, the sub-prime mortgage crisis; it was trying to complete an over-leveredged buyout of a Dutch bank; and it was apparently tied in with Lehman Bros., somehow, and stood to lose $350mn from that company's collapse.

Dexia's main US operation was a bond-insurance organization called FSA. A large number of the bonds they were insuring were backed by sub-prime mortgages. With the collapse of those bonds, FSA has had to pay out quite a bit of insurance. FSA turned to its parent for help, and its Dexia provided a huge ($5bn) credit line to help FSA stay afloat without having to fire-sale its assets. But this, of course, leaves Dexia as a whole on the hook for FSA's problems.


Legislatively, today is likely to be a quiet day. The Congress stands in recess for Rosh ha-Shana, the Jewish New Year (for which at least one correspondent has reported seeing anti-semitic gabble on message boards at news sites). There will undoubtedly be back-room negotiations, as most of the principal players in this drama are not Jewish and have every reason not to take the day off. Tomorrow could see some committee action, but the full House of Representatives is not slated to reconvene until Thursday.

Conventional wisdom at the moment, therefore, is that there will be an attempt to pass a modified version of the bill on Thursday, assuming agreement on modifications can be reached; or else that Pelosi and Boehner are going to be breaking out the thumbscrews to try to get the handful of additional votes they need to pass the bill as-is.

29 September 2008

What the Credit Freeze Really Means

A number of people have commented to me that they didn't really understand what was meant by a credit freeze. They seemed to be having no trouble borrowing, even if their credit ratings weren't great.

First and foremost, the credit freeze is at the bank-to-bank level. You may think this is very odd (I know I'm still wrapping my head around it), but a lot of our economy is based on banks lending money to other banks! There's a constant swirl of loans that swirl around the banking industry. Quite a bit of this borrowing appears to be a case of borrwing from Peter to lend to Paul. No, I don't understand this yet, but when I do, I'll explain it!

At any rate, generally, the interest rate at which banks lend to each other is fixed by the Federal Reserve. When they talk about the Fed cutting or raising rates, this is often the rate they're talking about.

The current rate is 2%, but banks are ignoring that. They're demanding at least 4% from each other. So in other words, the credit is available, but it's expensive.

This means that banks are either balking at taking out such loans from one another, or passing the pain on to the people they, in turn, are lending to. So, for example, a business that should have been able to get a decent construction loan at (to pull a number out of thin air) 7% now will have to pay 9%.

This, in turn, may be more than that business (or individual, for that matter) feels they can pay. The rate of interest figures heavily into many borrowing decisions. Consider how many people started to buy homes as mortgage rates started to fall below 7%% a little over a decade ago (speaking as someone who bought into that wave).

So: it's not so much that nobody's lending. It's that nobody's lending cheaply, and many people who rely on credit as part of their capital model are finding the extra cost of borrowing too high.

Black Monday Round-Up

As I posted over on my LiveJournal before kicking this new site off, the Emergency Economic Stabilization Act of 2008 failed to pass the US House of Represenatives by a vote of 228–205. The bill had the support of about 60% of Democratic members and 40% of Republicans.

The problem, of course, is that for the most part, those who were for the bill were only for the bill because they didn't feel there were any good options ready to hand in the time available. Those who were against the bill were steadfastly against the bill, some as a matter of personal principle and some because their constituents were screaming blue murder at them, and couldn't be budged.

The only people whom I've ever heard come out and say they truly liked the bill were its original proponents, Treasury Secretary Henry Paulson, Jr. and Federal Reserve Chair Ben Bernanke. And actually, now that I think of it, even they were at least playing at being relucatant. In Paulson's case, it's a little hard to believe, because the original proposal put so much power into his hands that nobody is going to believe he didn't really like the idea, even if it's true. But the line they used consistently was essentially, "Yeah, we know this kinda sucks. But we're out of time."

Time, of course, has been a running theme throughout this entire process. Time was of the essence for a myriad of reasons, not least of which the fact that the Congress is already overdue to recess for the election. This is why, for example, we didn't get a real budget this year. None of the standard budget bills passed or were signed into law; only a Continuing Resolution (filled with tasty earmarks) that postpones budgeting for FY2009 until March, making it squarely the problem of a new Congress and a new President.

Adding to the time problem is that Rosh ha-Shana begins at sundown, and there are just enough Jewish members of Congress that no business will be conducted tomorrow in honour of the holiday. At this point, it seems unlikely that we will see another attempt to pass the bill, or one similar to it, before Wednesday.


Meanwhile, the markets started out the day feeling pretty damned uninspired by the news that Citicorp was buying Wachovia before it could collapse. They ended the day with the biggest haemorrhage in twenty years. 

The Dow 30 (aka the Dow-Jones Industrial Average), which measures a weighted average of the stocks of 30 key industrial powerhouses, gave up 777.68 points. The Standard & Poor's 500, a much broader index, gave up 8.77% or and the Nasdaq Composite Index 9%. Oil gave up $10/barrel—the closest thing to good news (at least, for consumers) in a day of red ink and woe.


The pain was not confined to the US. Overseas markets were of course already closed for the day, some long before the House vote was called, but the Citicorp-Wachovia deal had already rattled them pretty hard. On top of that, many banks in Europe are also in the midst of being bailed out by their regulators for similar reasons.

One of the things often lost in the current mire of coverage is that this really is a wider problem than just what we're facing here in the US. We led the way in overleveraging our economy, but Europe and to some degree Asia followed merrily along behind us. England, for example, is swamped with home foreclosures and a credit freeze-up, as well.

China, of course, is doing just fine for the moment, because they were the lender, rather than the borrower. They'd like their payments, of course, but they're not the ones in debt; they're the ones holding a lot of our markers. 


One things most pundits seem to be agreed on is that we have not yet plumbed the depths of this crisis. There are shoes left to drop, and nobody's not quite sure which one will be next. We could, for example, get surprised by the failure of a bank that currently seems sound. The US' bond rating could be cut, making it hard even for the Government to get a loan. Or we could start seeing more signs of the fiscal frostbite, with the failure of companies that are nowhere near the financial industry, but can't get the capital they need to operate. 

Are we having fun, yet?