Thursday, December 13, 2007


Central banks pumping billions into world financial system

Why? Because they are scared. This is the real bailout. Not that amorphous plan from President Bush.

Only an estimated 250,000 borrowers, at best, are likely to benefit from the plan’s main relief measure — a five-year freeze on certain adjustable loans’ introductory rates. Yet, from mid-2007 to now, some 800,000 homeowners have entered foreclosure. From 2008 through mid-2010, when the last of the potentially eligible loans would otherwise reset to sharply higher payments, there will be an estimated 3.5 million loan defaults.

The plan is too little, too late and too voluntary. Mr. Paulson and his boss, President Bush, have left it to the private sector — the mortgage industry — to protect the public interest, without any negative consequences if it does not. That is not the way the private sector works. And it is not how government is supposed to work at a time when Americans are facing mass foreclosures that threaten entire communities, financial markets and the wider economy.

No, the real bailout is the deal banks will get from the Federal Reserve. Quick, anonymous money in the hands of the schlubs who brought us to the precipice.

The move by the central banks should get more money to banks at interest rates lower than what they would have to pay if they borrowed at the Fed's discount window. The Fed will auction up to $40 billion in loans to banks at two auctions next week and undetermined additional amounts at two auctions in January.

The Fed also said it was making funds available to allow the European Central Bank to lend $20 billion and the Swiss National Bank to lend $4 billion to European banks that needed to borrow dollars.


The auctions held by the Fed will set interest rates on borrowings by banks from the Fed. The banks will be able to post any collateral they wish, including illiquid securities such as collateralized debt obligations, as they now can do at the discount window. But while it often becomes known which banks borrow at the discount window, the auction procedures are designed to keep the identities of the borrowers secret.

"There is no reason to believe there would be stigma associated with the use of this facility," the senior Fed official said.

No reason to think that borrowing for below market interest rates will stigmatize the banks who want to remain anonymous says the anonymous Fed official. No reason to believe that releasing their names would cause a run on those banks but why take the chance?

The credit crunch is getting worse and the stock market is playing the role of Nero as the credit markets burn. It is getting ugly behind the scenes. In the murky recesses of the financial markets lack of liquidity is making banks more wary of lending to other banks and that has driven up the interest rate that banks chose to lend to one another, LIBOR. The solution? The Fed thinks it is more lending at cheaper rates.

What could go wrong with such an approach? Surely, it makes sense for banks to be lending to each other at lower rates, since that can spark more lending across the whole financial system. But Libor is a market rate, ultimately reflecting banks' views on each other's creditworthiness. Indeed, at 5.06% before news of the TAF was released by the Fed, Libor was considerably higher than the Fed funds rate, reflecting banks' caution about each other. But maybe the widened spread between Libor and the Fed funds rate is an inescapable product of the times. Given the credit problems U.S. banks are facing, they are naturally wary of each other. Maybe the Fed thinks banks are being overcautious, so the TAF is its way of bypassing what it sees as unwarranted skittishness.

The problem is that all the money in the world is not going to make the strange brew of Collateralized Debt Obligations (CDOs) any more of an attractive investment, at least at current market prices. What they are really trying to accomplish is impossible, clearing all of this bad debt from the market without any of the pain of falling prices. This should get your attention because this is proof of how frightened the Fed and the big banks are of a bear market. Our financial system is a house of cards with a recession on the horizon. How's that for a mixed metaphor non sequitor? W00t!


I love it when I lead in the creation of a meme.

Lower interest rates won't add much to home sales because prices are still falling, the supply of housing is still climbing and mortgage money is tight. Lower interest rates won't jump-start the refinancing boom that had kept consumers spending because the drop in home prices pretty much wipes out the chance for most homeowners to refinance and take money out of the equity to spend on other items. Lower interest rates won't lower soaring gasoline and home-heating-oil prices and won't stop food costs from climbing. And lower interest rates won't make loan write-offs at big banks any smaller.

The best that can be said for Tuesday's interest-rate cut is that it won't make anything worse. And even that's not exactly true, since a cut in U.S. interest rates, while rates stay the same in Europe and Japan, is likely to send the U.S. dollar even lower against the euro and the yen.

Oh yeah, Easy Al thinks the chance of a recession is a coin flip.

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