Tim Duy has a great analysis of what the week-end teaches us about where we are with Lehman, Merrill, AIG etc. I think he is right that this is a signal from the US authorities that the socialisation of losses is over; that any taking-over of dud assets by the public will now go through Congress, and not through a technocratic nod-and-wink. The danger, as it has been for a year, is contagion to the real economy---when do firms providing real value find that either a) demand has fallen such that they have to cut back operations or b) that their own credit lines for working capital and investment programs are closed, and so have to cut back?
That danger still exists. Certainly, as banks find it harder and harder to satisfy regulators that they have enough capital to guarantee the loans they have made, they will cut back their lending. So far, the Fed has become banker-of-last-resort by allowing bonds and now even shares to be put up as guarantees for cash loans.
In any case, the week-end moves by the Fed mean that the music of time is picking up again. After 1 year of waiting, time-haltingly hoping, that the crisis would resolve itself, the regulator has called time-up. There may yet need to be large-scale public cash injections into the corporate sector to avoid deep depression. But this week-end shows the regulator has, at last, given up on hopes of self-repair. So adopt the pose of the surfer caught between breaking waves: take a deep breath and hope the turbulence of the breaking behemoth does not keep our economies trapped under for too long.
When we re-emerge, expect to see JP Morgan and Goldman Sachs still standing, but not much else in the financial firmament. Expect a divided world of finance---hyper-regulated standard products on one side, and a pool of crazy, gambling sharks on the other. Think twice about risk-reward before surfing in the sharky waters again.
Comments
An interesting article I must say. Your last paragraph really spoke to me. I think what will happen is that governments will now be far more interventionist. The US and the UK economies will see governments regulating. As I see it they have 1 option anyway. 1 - They re-regulate the economic system, allowing for growth in most sectors. However what will be different is that governments should have far more control; a sort of checks and balances scenario if you will. The problem with this economic turmoil is the bloody derivatives market. Nobody really understands them, Alan Greenspan himself came out claiming that he did not understand them. Hedge-fund managers control a wealth of futures and options and have their fingers in all sorts of pies. It is so dangerous, as a melt down here would be catostrophic to say the least.
The worst scenario would be for the government to keep bailing out economic institutions. Northern Rock is a prime example of how unregulated growth can cause such economic disaster. Not to mention that this had everything to do with Lehman Brothers. When Northern Rock was nationalised, Lehman Brothers lost out big time. Northern Rock and its granite subsidiary borrowed a lot of money of Lehman. Lehman made over 200 people unemployed with that fiasco, and now it barely exists.
Governments need to stop companies from Moral Hazard. If you privatise the profits, you should not be socialising the risk! This is why I applaud Hank Paulsen for letting Lehman Brothers go bust, but the issue of Fannie and Mae was one that was treated very badly indeed. Paulsen is similar to the Treasurer in the Wall Street Crash who did exactly the same to the United States bank. However, back in the late 1920's and early 1930's this had dire consequences. I just hope that as long as America keeps sneezing, that the rest of the economic world bulks up their immune system to fight the pending cold!
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