The action of the US government may have saved the world from another Great Depression but we are still in for a world of hurt with a painful slowdown expected in the real economy.
Here are a few points that come to mind:
– Here’s how I see the history and present: The man on the street wants a house. Dodgy lending practices result in the build up of billions of stupidly risky mortgages. Banks package up these mortgages into large blocks and sell them off, often to each other. Like a quart of milk that has been ignored and left at the back of the fridge, the mortgages start to give off a bit of a stink as the housing market turns down. While stale milk can poured down the sink, no one can make the dodgy mortgage risk can’t disappear. At best, it can be moved around the system. The banks are stuck with the rump of duff mortgages and they start screaming to be saved. The government steps in and bails out the banks to ‘save the world’ by hoovering up all the dodgy debt into one large fund. So who does the all this toxic risk now sit with? The answer will be the taxpayer. It’s almost gone full circle and worked it’s way back the man on street. Strange world. Here’s a nice quote from Robert Reich’s blog: ‘watch your wallets. The tab here could be very high. If everything goes extremely well, markets move upward, and the risky loans become far less risky, it’s possible that taxpayers (that is, the Treasury) might actually make money. But if the bottom falls out, American taxpayers could be on the hook for trillions of dollars. What then? The federal debt soars. What then? Interest rates go out of sight. What then? Foreigners lend us less money. What then? We’re cooked.’
– The political and ideological ramifications of the bail out are huge.
– We can’t short the bank’s anymore but can we short the US government? It doesn’t have shares but there is traded debt and a currency. Let’s just say I’m a teeny bit worried about the dollar now. I would expect the USD to at least become a bit more sensitive to the housing data.
– Will the US government allow all this toxic debt to be moved to their balance sheet without penalising the banks? I hope not. Robert Reich’s opinion is that ‘the process should resemble chapter 11 under bankruptcy. Any big financial institution that wants to clear its books can opt in. But the price for opting in is this: Investors in these institutions lose the value of their equity. Executives lose the value of their options, and their pay (and the pay of their directors) is sharply limited. All the money from the fire sale goes to making creditors as whole as possible.’ I agree that they need to feel some pain.
– In the UK the government blatantly overrode competition rules to allow a merger between HBOS and Lloyds TSB. This was rushed through so HBOS could be saved from being run in to the ground by market forces. I wonder if there was a better way to deal with what happened. A couple of worries I have include the potential for future anti-competitive market abuse that results from this behemoth, and the idea about saving a company that is deemed ‘too big to fail’ by letting it become way too big to be allowed to ever fail.
– Short UK banks and long US banks may have made a good trade given that our government is not planning a Resolution Trust UK Edition. We are just like a mini-US when it comes to the housing bubble, with some metrics looking quite a bit worse.
– Tomorrow will be the first time that I will be buying the Financial Times paper edition in over a year.