Money Sage (archive)

Reassuring words, joined for a change by reassuring actions, have been flowing rapidly over the last several days. While we are not saying that this is a centrally coordinated campaign, we are not saying it is not, either. It seems a trifle curious that the dramatic 75 basis point intermeeting FED rate cut, the accelerated movement toward enactment of a fiscal stimulus program, reported efforts to bail out -- yes, they are now, finally,admitting what they have to do -- quasi-insolvent municipal bond insurance firms have occurred rather simultaneously. We also note new issuances of preferred stock by major banks desperate to avoid insolvency, and new capital infusions from "sovereign" wealth funds.

What, we wonder, has catalyzed this wondrous confluence? Could it have been the dramatic fall in stock prices over the past week-and-a-half, which seemed to portend a true collapse a couple of days ago? Well...what do you think?

We also note that the FED, as we predicted months ago, has now panicked. The longer they stood fast, the more certain it was that things would deteriorate to the point where they would have to effectuate a dramatic and humiliating policy reversal. More is to come, we believe. The bottom line is: we will stick with our repeated previous forecast that the FED will drive overnight rates far below what they had intended, or what anyone had hoped. This is what happens when you pour all your resources into the Maginot Line, and the enemy outflanks the Line. If the FED had possessed the slightest degree of wisdom and sophistication, it would have realized that the preservation of the greatest possible amount of its inflation-fighting capability demanded that it generate liquidity early on, when a smaller quantity of same would likely have proven as effective, or more effective, than a larger quantity after panic had set in. Instead, they stubbornly set their face against the hurricane, with consequences for the economy the markets are suggesting fairly clearly. Truly, the FED is hoist on its own petard: it has drastically reduced its ability to fight inflation because it had neither the tactical nor the strategic wisdom to bend with hurricane force winds it could never hope to defy.

What is wrong with the FED, that they subvert their ability to achieve their own anti-inflation policy goals with self-defeating short-sightedness? The answer, we think, is plain as day. They may have Ph.D.s, eminent publications, bureaucratic skills. What they lack however is: STREET SMARTS. At an even more profound level, what they lack is: COMMON SENSE. So much the worse for all of us.

And the big news? Well, please forgive us, but we still prefer LEADING INDICATORS to lagging data as a basis for our assessment of where things are headed. Today, the media picked up the assessment of a Wall Street bank analyst, drawing attention to the fact that banks are unable to find buyers for a $230 billion backlog of high yield, high risk debt. This, he concluded, is "likely to hinder lending." Indeed. Well, seems like there are still some analysts who know their business and are not afraid to speak candidly. Bravo!

We noted repeatedly in prior posts that it was the overflow of unsalable bad loans and junk bonds of various sorts which constituted a critical element in the forthcoming (now arriving) credit contraction. One of the elements on which we wrote was precisely this one: viz., the pile-up of unsalable high yield debt on bank balance sheets the banks had been unable to unload on greedy investors BEFORE THE MUSIC STOPPED. A river cannot flow if it is blocked at the chokepoint by a mountain of garbage. This is the current state of the lending stream, a function of the vast quantity of garbage the banks accumulated and now cannot disperse.

Rate cuts and a massive liquidity infusion are indeed essential, but they leave unanswered the decisive question: Who is going to remove the financial garbage blocking the banks' lending stream??