Commentary: Mortgage Crisis Post Game.

“The Muezzin  in the tower of darkness cries.

Fools your reward is neither here nor there.”

:                                             – Omar Khayyam (Rubiyat)

The financial crisis is over.

The sea came in and took over our little thriving ecological backwater.

Everything is owned by the government. The government has not exactly started telling us  who will make profits and how much, but it’s a hair’s breath away from doing so. The US economy is not going to behave like a dysfunctional family pulling in different directions any more, though

The misbehaving private sector has been given a massive time out.

What really happened?

Ø      Paulson Moved the US government for a 700 Billion dollar rainy day fund for distressed assets

Ø      He got it. (he got 350 billion immediately.)

Ø      He used it to capitalize the strongest banks , who started taking over loss making banks and helping themselves to the tax writeoffs from them. This is equivalent to the biggest tax cut for these banks in history. People estimate that the bottom line number is easily in the trillion and a half dollar range. This is thus the equivalent of  a massive crony capitalist fiscal policy.

Ø      The Fed then opened up its lending facility for short term funds to virtually unlimited levels (to the surviving banks). This resulted in two things: 1. A collapse of the short term rates to near zero (why would you trade short term instruments when money is free?) 2. unlimited short term money meant people unwound their leverage from costly money to cheap / free money.

Ø      Liquidity flowed away from bad assets in the US to relatively better assets, resulting in massive churn and volatility in the stock markets. When people were reasonably sure they had pricing right again, financials started to rally.

Ø      The Fed then announced a easing of consumer loan and credit cards lending in time for the holiday.

Ø      It should also be realized that, as the market starts to recover, and banks lend more, the 350 billion will have a multiplier of ten times in the banking system- the equivalent of a 3.5 trillion dollar injection of liquidity. This combined with the 1.5 trillion tax cut means that the government is in the US market for upto half of the US GDP (of $11 trillion ).

What is the effect of this?

The simple answer is that we don’t know.

The Keynesian future

Here’s where the fun begins for the policy dogs in the American economy.

If there is an economic recovery and a bear market rally, I can see how a pitch will be made for higher interest rates to mop up additional liquidity. I also see the prospect of this being led by government expenditures on fiscal programs. This is a Keynesian future. If this happens, the US will become like the 2000s Japan with a focus on the development of a domestic tax and consumption base without increasing savings or investment.

The upside for this is easy to see. Obama will come away looking like Bill Clinton in his economic policies. People will smile and  industries will boom in their little potted plant greenhouses.

but then,  President Obama would have dropped the ball.

The Hedge fund is your friend.

The real opportunities in the world cannot be addressed by an inward looking US economic policy. The US needs to pretty much keep its position as the central banker to the world.  With China’s reserves set to top 4 trillion in the next few years, and more companies setting up shop in the BRIC countries, the US government cannot lead the way if it accounts for less of the world’s economic activity. The challenge for a post bush Obama administration is to repair America’s reputation enough to be treated as a credible alternative to an emerging European union.

Russia’s Natural ally is its biggest Oil client – Europe. China’s is It’s biggest Oil Supplier – Central Asia (Iran and Iraq..and central Asian oil). the last time the US took an army to the region they were routed by popular uprisings. The US Army , it turns out is lousy at the Great Game.

More people , Smart people , are watching the US economy from outside it than are in it. Many of them are financial intermediaries, currently not guided by the US central bank. How did the Fed let this go so out of control? You’d think the EU and the middle east would return the compliment and allow American trade to be as accessible to US trade and labor. The far reaches of the empire are restive..and there’s talk of a rebellion.

Gone are the days when General Mc Arthur could set the yen at 360 to a dollar, and it would be so. The hungry capitalists are Chinese and Indian these days. The passive workers are American and european. This should change.

The Reagan policies of hail mary pass tax cuts have been done to death. With major investments from overseas, a tax cut usually means that foreign capital benefits and it  takes its money home..the Queen’s England or Li Ka Sheng’s Hong kong. Tax cuts (gasp!! ) are sometimes anti National.

So (to quote Bill O Rielly) , Who’se looking out for you?

The “You” in the question is increasingly a global person. If you don’t buy products from China, your job depends on the world economy in more ways today, than it did in 2000. It’s a perception problem. If Policy does not address households that are interlinked internationally, and instead focuses only on the domestic economy, its throwing away good money after bad. Any Fed monetary policy adjustment should focus on effectively internationalizing its signaling processes and regaining control of its international linkages.

A bloating balance sheet and  free floating liquidity can really help in this…if people know what they are doing.

It’s going to be a wild ride, though.


About rameshram

Name : Ramesh Ram... Email Address : (don't even ask) Blog: (never updated) Height/ Weight: 6'1 175 (varies between 160 and 185) Color of hair/ eyes black/ brown Bald? Nope (not yet, but give me 20 years.) Interests: Film (Bollywood/international indie), Travel (Germany/Japan/Central America/Sout/east/west Asia/ Northern Africa), Gizmo geek, Clubbing... What do I like in a good movie?: Women, Music, Auters, Special effects, Style. What do I like in a bad movie?: Women, Music, Auters, Special effects, Style. Favorite Critic: International: Bazin Domestic: J Hobermann Indian : me. (noone else comes close ...India or here..) Best quality: Humility. Outspokenness. Warmth Worst quality: Intolerence Favorite color : Yellow Black Blue Favorite Perfume : men: Grey Flannel(Geoffery Beene) Women: Celine dion: Obsession Boxers / briefs : Boxers Did I inhale: And how! Author: Marquiz, Rushdie, Murakami, Jong Last Book: The Ethical Slut by Dossie Easton, Catherine A. Liszt Music : Patricia Kass, Alejandro Sanz,Nina Simone, Amir Diab Sports person: What am I usually in : White briefs and tees. Chianti or Burgandy: Chianti Food: French Japanese(street/fast food). Saw and liked: No Country for old men, Lust Caution Saw and disliked: Nishabd Didnt see: Aaja Nach le. Call me: Write me first.
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