Bailout Could Deepen Crisis, CBO Chief Says

Washington post ^ | 9/25/08 | Frank Ahrens

[Mr. Jeeves]

IS THIS 770 BILLION, THE LAST MONEY WE WILL HAVE TO SPEND?

Well, we don't exactly have it to spend right now. We haven't borrowed it from China, yet.

[hedgetrimmer]

What is happening to this country is wrong! The Federal Reserve is DEAD WRONG!

[politicket]

Derivative traders?

I haven't read this thread yet, but if you're referring to today's rally on the Dow then yes - all of the investment banks will be in state of euphoria when they smell the blood in the water of the bill's passage.

This is because the American taxpayer will assume the risk that the mortgage-backed assets used to carry - and the derivative's traders can continue placing CDS bets against the new bonds that get generated as Paulson uses his $700 billion dollar pipe to cycle trillions and trillions of bad debt through to the bond market - in the form of $50 billion dollar tranches - all carrying the 'Aaa' rating of the the taxpayer.

[politicket]

Where do you get that number of 250 billion? Fannie and Freddie mortgage debt alone is 5.1 trillion. The government already took on all of that. Whatever amount of that which goes bad- the tax payer eats. And that is just those two companies.

I'm just talking about an 'ideal' world where you went to everyone with a 'distressed or defaulted' mortgage and said: "I am the government. Here is the cash to make you 'whole' again. In addition, for those still in their house, we will paint your house. For those not in the house any longer, we will paint the house and sell it on the open market."

This would have cost the US government about $250 billion dollars to accomplish.

However, you're right. We don't live in this 'ideal' world and the current problem is very large.

[too_cool_for_skool]

The Wikipedia article gives a specific article about how an initial $100 deposit ends up funding $357 worth of loans.

I’ll try to briefly describe:
- Saver A deposits $100 in bank.
- Bank loans out the $100 to Borrower 1 who spends it. Saver B received it and deposits that money back into the bank.
- Bank loans out that $100 again to Borrower 2 who spends it. Saver C received it also deposits money back into the same bank.
- Bank loans out $100 again to Borrower 3.

The bank has loaned out a total of $300 even though there was only $100 originally in the system.

Let’s say Borrower 3 can’t pay it back. Now the bank is screwed - right now it has no money on hand and it still owes Savers A,B, C $100 each.

All is not lost - the bank owns the IOUs from Borrowers 1 & 2 which it tries to sell for $150 each (IOUs pay interest). If it can sell the IOUs, the bank will have $300 again and be able to pay back all the Savers. However everyone knows Borrowers 1 & 2 are deadbeats so the IOUs are probably worthless. Nobody buys the IOUs. Bank is really screwed.

Government takes money out of YOUR paycheck and buys IOUs for $300 each. Bank is no longer screwed - it now has $600, enough to pay back the Savers and still have $300 left over - bank actually makes fat profit! Government gives speeches about how rescue was absolutely necessary and claims it paid fair value for IOUs. Nobody is fooled and lots of people are angry.

But phew, crisis averted!

[Toddsterpatriot]

The Wikipedia article gives a specific article about how an initial $100 deposit ends up funding $357 worth of loans.

Yes, I know how it works. And it's not “for every dollar a bank has, it can lend out ten dollars”.

[too_cool_for_skool]

If you want to get picky, it probably should read: for every dollar a bank has, it can expand the money supply by ten dollars.

[Toddsterpatriot]

If you want to get picky,

If by picky, you mean don't post a boneheaded error, yeah, I'm picky.

it probably should read: for every dollar a bank has...

...It can lend less than a dollar. I'm glad you understand. Maybe you can help the guys on the thread who are still confused? Thanks.