First there was the Fannie Mae and Freddie Mac takeover by the US Treasury. Then the bankruptcy of Lehman Brothers. Today, the Federal Reserve played Coast Guard to the American International Group.
Did this calm the markets? Two money-market funds "broke the buck," that is, they lost money because of these debacles. More will follow. Banks will be increasingly folding. Even the venerable firms of Goldman Sachs and Morgan Stanley are under pressure from investors. The Russians had to halt trading in their stock market to pump cash into three banks. As Yogi Berra once said, "it ain't over, 'til it's over.''
Well, the Fat Lady hasn't even come close to the stage. I can't say when this will all end. It may even trigger a monster Depression. I can predict one thing: If banks stop lending, the global economy is in deep trouble. If you don't have buyers and sellers in the debt markets, everyone will be a victim.
What are our major presidential candidates saying? Obama is going to do another speech on the subject. McCain blamed "greed and excess" for Wall Street's woes, but offered nothing beyond that. That makes sense because most of his campaign advisers are either connected to Wall Street or pushed through de-regulation to give financial companies a free ride in the free market. The free market's working all right, but it's not protecting anyone except those with the most cash on their balance sheets.
Here's what I think will happen:
-- We will be seeing a new program to purchase toxic debt. The mortgage securities that are poisoning credit markets have to be corralled and branded. Somebody will end up pooling them and auctioning them off. It will probably be the US Treasury or Fed. Taxpayers, as usual, end up being the big losers.
-- There will be attempts to send even more checks to consumers. IF middle America stops spending, a recession is guaranteed. So far, most of the damage is limited to the building/real estate industries, Wall Street and Detroit. Only? All of this may change if credit becomes unaffordable or unavailable.
-- Confidence must be restored. The Fed has got to pump more money into the system and open up all of its lending windows. The SEC, which has curbed short selling, has to shut the shorters down until this is over. The Fed needs to convene a crisis convention to provide cash to the companies next on the hit list. None of this is palatable to those outside of Wall Street, of course. But keeping credit markets liquid is essential.
-- If you can't borrow, you can't spend and people will lose lots of jobs if this happens. We can't go from being a credit-based economy to a cash-based economy overnight. This whale can't turn on a dime. There are lots of reasons for people to sit on cash and pay their debts, though. This is usually the best route.
-- Create a sense of recovery. There has to be a point where Wall Street says "I think this is over." The housing disaster will continue until foreclosures are stopped and people can get 30-year fixed-rate mortgages at reasonable rates again. That might spell the end of securitization where the local savings and loan holds onto your note, but that's not such a bad idea. Securitize that!