Morning Briefing

Now, it's the Senate's turn.

The markets overseas seem to be in a holding pattern, awaiting news about the fate of the U.S. financial system rescue plan. The Senate will vote this evening on a new version of the $700 billion bailout plan, which was modified yesterday afternoon to appease some lawmakers. The markets in Asia and Europe are up, with the DJ Stoxx index up slightly and the Hang Seng and Nikkei up less than one percent. Oil is up today, trading at $100 a barrel.

--Sara Goo

October 1, 2008; 7:08 AM ET  | Category:  business
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The mortgage securitization and derivatives businesses which has been the beneficiary of extraordinary profits is undergoing a profound and enduring fundamental shift that is the result of unprecedented leveraged and irresponsible risk taking. The problem however is being exacerbated by speculative panic and hoarding by financial institutions around the world. Financial institutions fearful of a run on its deposits or other funding are hoarding. Lacking government intervention financial institutions are clearly vulnerable to liquidity runs.
LIBOR RATES ARE A RESPONSE TO CREDIT CONCERNS AND OLD FASHION HOARDING which is an interesting parallel to the Great Depression. Interestingly the Great Depression was preceded by the Republican administrations of Harding 1920 to1923 and Coolidge 1923 to 1929. Both of these republican administrations were laissez-faire which allowed the markets to operate with minimal government regulation or supervision. Corporate dynasties formed. At the same time the imbalance of wealth and income reached unprecedented levels. Construction and automobile manufacturing which had enjoyed spectacular growth were in contraction in the year preceding the stock market crash of 1929. When the stock market crashed there was a huge excess of goods on the market ( ANYTHING SOUND FAMILIAR??)
The threat for this crisis to bring down the economy is very real. Financial Services is a critical sector of the economy. An orderly shrinkage of the financial services sector is in every Americans best interest. The $700 Billion Dollar question is how best to go about it. First we need to recognize that the problem is far bigger than the $700 Billion the Treasury is asking for.
We need to start to understand that the engine of our economy growth was tied to false demand created by leverage and extraordinary risk taking which included extending credit to less than credit worthy borrowers. Regulation at this point is a mute point as risk tolerance has already contracted rather dramatically. What we are confronting now are the consequences that follow.
The American people understand that different investments carry different levels of risks and that it is precisely that risk / reward premium that drives investors to invest their money in equities or corporate bonds over conversely CDs or TBills.
The risk / reward understanding forms the basis of the reasoning that the equity and bond holders must bear the brunt of the cost in solving this crisis facing the financial services sector less we face a moral hazard not to mention the outrage of the American people.
The Federal Reserve balance sheet is already extraordinarily exposed to the risk created by the fallout in the financial services sector. The Federal Reserve is at a point where it needs to direct more of its attention towards encouraging consolidation. Weak banks must either merge or be shut down. Congress needs to understand that the government cannot keep making injections like the proposed $700 billion dollar bailout without overwhelming the US balance sheet. (Painful as it might sound there are really only two ways to restore the US balance sheet: recapitalization through taxation or inflation.)
The role of the government in this crisis should be two fold. Its primary role should be that of a clearinghouse for disposing of impaired assets. The government should not buy but rather only advance money to the financial institutions who surrender assets and the amount extended should be based in large part on the predicted eventual sales price. The government would be charged with package these assets in a full range of standardize lot sizes while providing prospective bidders with material information about the asset class. The government would use broad means to solicit bids. In an effort to maximize the offer prices from bidders the government would offer financing on all US headquartered financial institutions assets. The amount of the financing available would be based on a sliding scale that has some loose correlation to the realized percentage of the bid to the assets original value. For example bids at 50 percent of asset value might be offered 50 percent financing whereas bids at 20 percent of asset value would only be eligible for 20 percent financing. The financing component would allow the government to extract greater participation and higher bids for assets. The financing would provide much less exposure to the US balance sheet than an outright bailout. By limiting advance payments as well as the financing to assets offered by US based institutions we would avoid the backlash of bailing out foreign held debt.
The plan is pretty straight forward. I welcome your thoughts and other points of view as well as scathing criticisms.

Posted by: RadioCeleb99 | October 1, 2008 7:22 AM

Here's an interesting article about how history can't be used to predict what's going on here, and why this increasing volatility. How can you know what to expect in this market when it is politicians who are controlling the outcomes.

Posted by: Graham Colt | October 1, 2008 8:34 AM




Posted by: Marc Schlee | October 1, 2008 9:18 AM

It's a surprise move and the votes are being wooed Goo. Some are saying woe. There are more woes than woos though.

Posted by: JD in PA | October 1, 2008 10:01 AM

Thanks 99. I'm looking to head somewhere else myself. I can only move so fast and it's not a bailout that's going to make it real. People get in and people get out of their own messes. Things are looking up and the things looking down are headed for hell, so some expenses provide better returns than others. The bailer goes to the bottom. It's better at the top. Please stay on top of things.

Posted by: JD in PA | October 1, 2008 10:06 AM

Oil is headed down with the Dow this morning. You hit a point where the upward spiral becomes a downward spiral, but stocks rebound and rally. Oil can take a drubbing and not rally. Dropping food costs mean more to eat and more to invest. Bad news for the Middle East. It's always bad news from the Middle East. If it's not that bad news, Hugo Chavez is making more bad news and now he's building a bank with the Russians as depositors. What a joke.

Posted by: JD in PA | October 1, 2008 10:16 AM

I just glanced at my crude charts. It's dropping and if it keeps dropping, all the better or for worse it's rough justice. Risk/reward favors the investor. There are no bad risks, just bad prices. Oil proves this fact.

Posted by: JD in PA | October 1, 2008 10:22 AM

WPO was dropping like a rock and the line went the other way. With any luck it will keep going up for you. Good luck Posties. I have to go do some Paddy work.

Posted by: JD in PA | October 1, 2008 10:35 AM

The dollar looks good and WPO looking up. Another alls well ends well dull day here. They are going to vote in the dark tonight and there were some dark clouds over the Capitol.

Posted by: JD in PA | October 1, 2008 3:10 PM

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