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Generational Dynamics Web Log for 3-Oct-2008
The nutty bailout bill discussion

Web Log - October, 2008

The nutty bailout bill discussion

As I listen to politicians on both sides of the $700 billion Bailout of the World (BOTW) plan, I enjoy seeing how much they're sweating.

If you ask them whether $700 billion is the right amount, they say they don't know. If you ask them whether the bill is going to work, they say that they hope so, but they don't know.

The reason that they're sweating is not because they're necessarily concerned whether the bailout plan will work, but only whether they'll be blamed for whatever happens. You can almost hear the gears in their minds grinding: "Which way should I vote to get reelected in November?"

The result is that we're hearing some pretty nutty arguments.

One is the "mark to market" debate.

Under this proposal, the reason that we're in so much trouble is because financial firms are required to provide "mark to market" valuations of the securities that they manage. If only that nasty requirement could be repealed, then banks could return to claiming high values for mortgage-backed securities, and the crisis would end.

There are several problems with this proposal:

This proposal is a license to lie. I've written dozens of times that sickening stench of corruption that's pervaded financial and real estate institutions for the last few years. Those who wish to repeal the mark to market requirements are essentially supporting a return to that stench.

The specific proposal is to repeal the implementation of an accounting rule, FASB 157, that I wrote about last year in October when it was proposed, for implementation on November 15, 2007. It was proposed because several investment banks had already been forced to write down tens of billions of dollars in mortgage-backed securities, and it was felt desirable not to allow that to continue. Well, that answers the question. There were massive asset writedowns BEFORE FASB 157 was implemented, and so it's pretty clear that asset writedowns will continue even if FASB 157 is repealed.

Market summary, 2-Oct-2008

Market summary, 2-Oct-2008

So when a politician talks about repealing the mark to market rules, it's not because doing so would actually change anything, but it might get him votes.

A web site wrote to me today, recommending that I listen to an interview with Nouriel Roubini. She wrote, "I really enjoyed this interview. This clarifies a lot of the questions I am hearing and discussions with friends about why this Paulson bailout plan is a joke. It's more entertaining and informative than most Bloomberg financial interviews because Dr. Nouriel Roubini appeals to basic common sense. The fact that our government hasn't enlisted the majority of economists who agree with Roubini for an alternative plan to Paulson's plan, is a complete failure of leadership."

But all of these people -- journalists, pundits, college professors -- are just screwing around. They're just saying things to cover their asses when everything goes wrong.

These people are arguing about a plan that will have no effect at all. It's as if there were a one-mile-high tsunami heading toward land, and the bailout plan was to line the beaches with buckets, so that people could scoop up the water and toss it back out into the ocean. Bickering and arguing over the number of buckets on the beach is irrelevant, since the tsunami is going to wash all the buckets away anyway. The above graphic shows that investors are not impressed with what's going on in Congress. The Senate has approved the bailout bill, and the House of Representatives will vote tomorrow.

The supporters of the bill say things like, "We have to supply some liquidity to restart the banks, so that they can get back to normal and start lending to each other again."

I can't imagine what these people are thinking. They must think that the world financial system is like a motor on a lawn mower -- all you have to do to get it going is give it a spin.

Well, what made the motor stop spinning in the first place?

The last few weeks have shown a steady downtrend in the stock market indexes. The downward trend is the most similar to the time just prior to the 1929 crash than I've seen so far.

But the real crash is the continuing in the credit markets.

Here's a graph that a blogger posted, courtesy of Barclay's bank:

Credit market summary, 2004 to 2-Oct-2008

Credit market summary, 2004 to 2-Oct-2008

The Libor/OIS and TED spread graphs show that interest rates get worse and worse every day. This is the lawn mower engine that the politicians want to restart with a gimmick. But the credit markets are getting more and more locked up every day.

The reason is the same that I've given before: As the massive real estate and credit bubbles deflate, the world's deflationary spiral is getting deeper and deeper. Each day, there's far less money (US dollars) in the world than the day before because of asset writedowns, deleveraging, and so forth.

The real estate bubble increased the total price of real estate from about $15 trillion to $22 trillion, so the leaking real estate bubble will take back $7 trillion from the world.

Last week, I quoted the Financial Times as saying that a partial deleveraging of investment banks would $6 trillion in asset sales, and since those investments were made on credit, that means $6 trillion less money in the world. Extrapolating those figures, full deleveraging of investment banks would come to $20-30 trillion.

And then we have the matter of credit default swaps. There are $60 trillion of those in portfolios around the world (including a lot of overlap with the $20-30 trillion figure of the last paragraph), and these are all going to unwind at some point, losing more tens of trillions of dollars in the world. And I don't even want to think about that one quadrillion dollars in credit derivatives that are around.

The point I'm making is that we're talking about numbers that are so huge, $700 billion is tiny compared to it. That's what I meant above, comparing the size of a few buckets to the size of a one-mile-high tsunami.

If you're one of those who haven't prepared for what's coming, I honestly doubt that you have much time left. (3-Oct-2008) Permanent Link
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Generational Dynamics Web Log for 3-Oct-2008 The nutty bailout bill discussion

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Generational Dynamics Web Log for 3-Oct-2008
The nutty bailout bill discussion