Posted on 10/14/2008 12:55:09 PM PDT by Freedom_Is_Not_Free
After pointing a gun to the head of Congress, threatening a financial meltdown in case his plan was not approved, Treasury Secretary Hank Paulson has finally arrived at the only logical conclusion: his plan will not work.
Desperate for a Plan B, Paulson is slowly warming to the suggestion of many economists: inject some equity into the banking system. Unfortunately, it is too little and too late. The confidence crisis currently affecting the financial system is so severe that only a massive infusion of equity capital can reassure the market that the major banks will not fail, recreating the confidence for banks to lend to each other. The piecemeal approach of 100 billion today, 100 billion tomorrow used with AIG will not work. It will only eat up the money, without achieving the desired effectwithout reassuring the market that the worst is over. Simply stated, nothing short of a 5% increase in the equity capital of the banking system will do the trick. We are talking about 600 billion. Unfortunately, even if the government is willing to spend this kind of money, there are three problems.
(Excerpt) Read more at itulip.com ...
I appreciate hearing from JasonC because he seems intelligent, his posts are well thought out and supported, and gives me good food for thought, even when I disagree with him. Which is why I had him on my personal ping list until he told me to cut it out.
JasonC has made his views crystal clear from day one. Remember his “I told you so” vanity post. Then again, who could ever forget it.
...reassure the market by initiating explosive inflation????
I can. He self-admitted he didn’t know anything about finance.
The problem is you can't invest. If you could, you would probably gain satisfaction from it. I argued with someone in another thread about whether he was investing or speculating. He used some textbook definition of investment that was strictly phenomenological: you put money in, and more comes out. On Friday I put money in the market, you can look up the threads where I announced that. Today my triggers hit and I sold 2/3 or so.
Was that an investment? Or did I speculate with a reasonable expectation that the G-7 would come up with some short sighted plan to boost stocks over the weekend? Did I sell today to invest in something else? Of course not, I will have to wait for another opportunity to speculate. For example, once the $250B has been dispersed into banks and they are starting to loan to hedge funds who use that leverage to speculate in commodities, I will speculate in commodities. I could use leverage too but if there is deleveraging I would lose my own shirt rather than be able to pass off the loss onto the financial system as a whole.
Once the $250B is lost in the financial black hole (trillions in deleveraged debt waiting for official default) the government will decide they need to throw another 500B in. I will try to play that bounce too. In the meantime I just need to wait for the upside down U market shape. My simplest advice on keeping your wealth intact when the government is meddling in the markets is to follow the credit. This past weekend they proposed to borrow money from China to prop up banks, and by extension, the market.
Next there will be credit flows into some bubble like energy was last spring. It could leveraged buyouts of medical companies. Ongoing currency inflation is a good reason not to invest (e.g. buy a CD longer than 6 months) and to chase the credit because it will overwhelm the capital in these circumstances.
If stocks are undervalued, how about making clear that companies that buy up their own stocks in reasonable circumstances won't be subjected to harassment? A company that buys its own stock at a price below its net per-share worth will often improve the worth of shares still on the market, in addition to raising the price.
If stocks are overvalued, how about letting the market correct?
Why is it necessary for the government to try to prop up stock prices? What's the point of that except to reward those who know the details of the propping-up plans?
http://www.freerepublic.com/focus/f-chat/2093481/posts?page=51
in which the author supported the first Bailout, chastising us non-Bailout types under the headline: "I told you so".
Well, here's what the author's vaunted bailout brought us:
In case apologies for being wrong are forthcoming.
Which leads to reason for intervention, the govt is partly trying to dispel the perception of future reductions in earnings which is weighing on the market. But the real reason for pumping money directly into bank shares is to prop up the rest of the market. Everything is linked to the bank shares because so many market speculators bought index funds. Also many diversified funds are forced to sell shares of stronger companies that are not particularly overvalued because their bank stocks have tanked so much there's not enough money to satisfy the redemption demand.
So the govt is trying to break the downward spiral from those factors. But it won't work. Banks are insolvent to the tune of trillions. A few hundred billion in equity is not going to make any difference except in the perceptions, but that won't last long. The main reason is that there is no reason anyone would assume an asset (loan) that a bank or other financial company owns when the asset is not properly marked to market. The will be an upside down "U" market before the govt announces another trillion dollar market intervention.
Your namesake was flat wrong about lenders of last resort, see Kindleberger. More, he was incoherent and historically inaccurate on the subject. But to his credit, at least he was saner than the Pauleans and understood the need for freedom of credit. And the need for actively adding money with a firehose in a deflation.
Insolvent banks' shares shouldn't be worth anything anyway.
Another poster has pointed me to an article, though, that states that there are a number of businesses whose quantity of liquid assets per share exceeds the share price. If the article is referring to the quantity of liquid assets in excess of debt, there is no reason many such businesses shouldn't buy up their own stock. Doing so would be an unambiguous benefit to all share holders.
There are still weak banks (e.g. National City) which may still fail. But the likes of Royal Bank of Scotland and Morgan Stanley are not going to go down, not on a time scale of $1 trillion a week in debts, not ever (in this crisis I mean). The worst is behind us, in the credit market. We still face a real economic contraction. So what? We've ridden through those dozens of times without undo difficulty, and low rates will rebuild balance sheets etc. The non-financials have record levels of cash themselves, and US household sector net worth remains on the order of $50 trillion, Europe as a whole likewise, etc, all easily enough to absorb the scale of support being given.
Lender of last resort operations are not going to prevent the normal economic cycle. They are, however, a normal part of that cycle, and they keep alive the means for recovery. Plenty of fine companies are now quite cheap, and in the long run it will be clear in retrospect this was an excellent time to buy. That doesn't mean anything will be straight up from here. It is entirely possible, on parallels to similar situations in the past, that it could be another 4-8 years before past peaks are finally left behind, in the broad averages. But there will be no 90% meltdowns to great depression levels.
Benefit the market in general yes, but benefit them in particular, no. The whole reason to sell shares to get money to invest in new production. When the next recovery comes I would want my company to be ready. For a manufacturing company that really means investing in new production now, not buying back shares.
You are right that insolvent banks shouldn't be worth anything. That's the entire problem with the market in a nutshell. We can't have a credit-based recovery (the govt's stated goal) until they are liquidated. The problem with liquidation is the systemic risk that it creates. So it has to be slowed down by temporarily propping up the insolvent banks with loans. But expecting the credit bubble to reinflate and those banks to become solvent is ludicrous.
Got it.
We’ve done enough. Now the banks are just sitting on the money. If they won’t lend, screw them.
>Amazing as it might seem, there are folks who support the banksters even today, and not only that, think we’d starve without them helping to guide our lives.<
Sheeple scare easily. They are wonderful, obediant herd animals.
Well time is part of reality. What was is not quite today what is. There was the banking system that I grew up with before Burns and Greenspan made a cruel joke of saving. Mortgages came from local savings and loans where you put your savings and got a reasonable interest rate. That was long ago and far away. Today we have the mess we had up to when Paulson told us that was all about to go bust unless he got $700B to bail his friends out.
So yes, there is the old old system, the new now old system, and there is whatever is being cobbled together from the wreckage.
Good. Thank you, as I always appreciate your point of view and well written posts.
Loan losses don't reflect the financial market, just the nonfinancial market. The losses on the first tier of the loan market are at least that much (a couple percent of the 50T in nonfinancial credit). The real problem is the financial market assets such as loans to hedge funds that leveraged their money to buy now worthless securities. Similarly the CDS booked as assets. The banks have not acknowledged losses on those assets because they don't have to, and was the main reason AIG was bailed out.
Lender of last resort operations are the solution to the financial crisis, not the economic cycle. The financial market will continue to deleverage and banks will have to be liquidated. But their liquidation can be postponed to lessen the systemic risk. All that matters right now is postponing the meltdown as long as possible without resorting to massive inflation. It's not going to be easy and may be impossible, but as long as the insolvent banks are hanging around they will be a drag on recovery and a risk to the financial system.
In post 28 you said that Morgan Stanley was rescued by the new bailout last weekend. Those statements seem contradictory. Also why would MS shares go up 83% in one day? Isn't that proof of their rescue from the brink of extinction?
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