Our financial system is crumbling this week.

[Hungary Jack]

We need higher rates to weed out the riff-raff in this economy.

Seriously, the markets have soooo overreacted to the S&P spectacle. The economy isn't any crappier than it was before the downgrade, yet valuations fall 10% when forward looking P/Es suggest stocks are relatively cheap, corporate balance sheets are clean, and a lot of bad news has been digested already? But like borrowed dollars through the hands of a hedge fund manager, so our the days of our investment lives.

[IMADreamer]

We need higher rates to weed out the riff-raff in this economy.

Seriously, the markets have soooo overreacted to the S&P spectacle. The economy isn't any crappier than it was before the downgrade, yet valuations fall 10% when forward looking P/Es suggest stocks are relatively cheap, corporate balance sheets are clean, and a lot of bad news has been digested already? But like borrowed dollars through the hands of a hedge fund manager, so our the days of our investment lives.

That's fine, if we could just wait 12-18 months for those higher rates I'm cool with that.

[Arthur Dent]

Meanwhile, the downgrade has increased federal borrowing costs not a whit. 10 year Treasuries are now trading at even smaller yields, 2.34%. It would be nice if this was noticed for future debt crisis mongering. Investors are in fact clamoring to buy more federal debt.

Now down to 2.14%. Ten year inflation adjusted securities are at 0%. Just sayin'.

[Freed Roger]

We need higher rates to weed out the riff-raff in this economy.

Seriously, the markets have soooo overreacted to the S&P spectacle. The economy isn't any crappier than it was before the downgrade, yet valuations fall 10% when forward looking P/Es suggest stocks are relatively cheap, corporate balance sheets are clean, and a lot of bad news has been digested already? But like borrowed dollars through the hands of a hedge fund manager, so our the days of our investment lives.

That's fine, if we could just wait 12-18 months for those higher rates I'm cool with that.

Oh by all means consumers should take the best interest rates they can get. Generally this move will help debtors.

But it goes without saying, that keeping the interest rates held down is not without side effects. Otherwise, why doesn't fed make it permanent zero?

And mortgage/consumer rates don't necessarily coincide with Fed. The fed rate isn't going lower - it is just being held down. I could be wrong, but I view this as another ploy to force money into stock markets. The Fed does not have many rabbits left to pull out of the hat. As AD indicated, the institutions/investors clamoring still for the security of ever-lower treasuries -can be taken as an ominous sign.

In my layman (mis)?interpretation - I agree with HJ - it's time to cut this crap out and let stocks stand on their own.

Longhorn, greenback, if you're out there - as always, I would like to read your take about the Fed interest rate monkeying. I may only be able to grasp about 10% of what you say, but WTH.

[Arthur Dent]

But it goes without saying, that keeping the interest rates held down is not without side effects. Otherwise, why doesn't fed make it permanent zero?

And mortgage/consumer rates don't necessarily coincide with Fed. The fed rate isn't going lower - it is just being held down. I could be wrong, but I view this as another ploy to force money into stock markets. The Fed does not have many rabbits left to pull out of the hat. As AD indicated, the institutions/investors clamoring still for the security of ever-lower treasuries -can be taken as an ominous sign.

In my layman (mis)?interpretation - I agree with HJ - it's time to cut this crap out and let stocks stand on their own.

The usual concern about excessively low interest rates is that they will cause inflation. But there isn't much sign that inflation should be a concern right now.

The Fed is required by law to promote full employment and maintain price stability. During a period of poor economic performance, the Fed is supposed to lower rates to promote investment and spending. If rates are too low, you get too many dollars chasing the same scarce resources, and prices get bid up. Right now, it's quite difficult for prices to get bid up as the resources we already have are not getting used. It's difficult to get a raise, for example, when there are plenty of unemployed people out there happy to take your job. Unfortunately, even rock bottom interest rates aren't enough right now to get people to spend because they are broke and can't handle more debt. Businesses aren't interested as, in aggregate, they aren't using their existing facilities at capacity, and future prospects look poor. Nonetheless, raising rates would make the situation worse at the margin by shutting down some of those people who are taking the money.

As to your point about forcing money into the stock market, there are some who claim that low rates promote asset bubbles. There may be something to this, but the evidence is not totally convincing. If investors were rational (they are not), they wouldn't borrow even at low rates to purchase overpriced assets with a poor expected return. In any case, there are methods available outside of rate hikes to control asset bubbles.

[longhornbaseball]

The media (and the public) believe that the stock sell-off began on Monday as a direct result of the rating downgrade last Friday, but this is false. Stocks were losing in value for two weeks prior to the downgrade. From July 25th through August 5th the S&P 500 dropped over 10% in value, and the Dow lost over 1,200 points. This chart shows the daily returns of the S&P during this time:

[SHOW]

In my opinion, the sell-off can almost 100% be attributed to a negative outlook for the economy based on three reasons:
1. Incoming austerity measures in the US
2. The European debt crisis
3. Emerging market slowdown

Households are still tremendously weak and our politicians (on both sides, but overwhelmingly Republicans) have shown a complete lack of understanding towards our current economic situation. Imposing austerity measures when the private sector is deleveraging (paying down debt) will be contractionary. As I've touched on before, the private sector's net financial surplus (or savings) is equal to the government sector's deficit plus the foreign sector's balance. This is true by accounting identity. A decrease in the deficit will lower the private sector's net savings, which will stall the deleveraging process and result in even weaker domestic demand. We have a debt crisis in this country, but you never hear about it.

From 1980 through 1996 the private sector had positive savings rates and household debt grew at a reasonable, linear pace as shown in the first chart below. Not surprisingly, the government ran deficits every year during this period. When the Clinton administration decided to balance the federal budget in the late 90's, savings rates turned negative and households were plunged into debt in order to maintain their standard of living. This was easy to do thanks to the deregulation of the financial sector that started under Reagan and flourished during Alan Greenspan's reign as the Fed chief. From 1997 through 2007 private sector saving was negative every year except 2002, and household debt grew at an unsustainable, exponential pace as shown in the second chart.

The bursting of the housing bubble led households to increase their saving to start paying down their debt, and they have been able to do this because the government has run massive deficits. Unfortunately, the deleveraging process has been slow, and at its current pace will not be back to the 82-96 trend until 2021, as shown in the third chart.

[SHOW]

The biggest problem confronting our economy is the lack of aggregate demand caused by unemployment. This is a circular problem. Businesses, while flush with cash, are not hiring domestically because domestic demand has been weak. Businesses won't invest, and hire more people, until sales increase. Sales won't increase until people start buying things. People (collectively) won't start buying things until they have jobs and are out of debt. People won't have jobs until businesses start hiring. As you can see, this is difficult cycle to get out of.

The only way the Fed can affect the economy is by keeping interest rates low, which is supposed to increase borrowing in order stimulate consumption and investment. Unfortunately, we are in a balance sheet recession, and households are trying to delever, not take on additional debt. Businesses have increased their borrowing over the past few years, but once again, they won't invest until they are confident there will be consumers to buy their products. What we need is more fiscal stimulus in order to expedite the deleveraging process and strengthen household consumption. The best way to do this is through a full payroll tax holiday that instantly gives everyone working a 4% raise. We should also hire anyone who wants a job but is unable to find one. It shouldn't be hard to find them something, anything productive for them to do.

We need to stop worrying about the fabricated public debt "crisis" and start realizing this country has no solvency risk, is not suffering from inflation (much less hyperinflation), and is being seriously threatened by the huge number of people who want to work but can't.

[vinsanity]

We need to stop worrying about the fabricated public debt "crisis" and start realizing this country has no solvency risk, is not suffering from inflation (much less hyperinflation), and is being seriously threatened by the huge number of people who want to work but can't.

But but but we can't just give more money to poor people to buy things from rich people. That's communism! I mean why can't we just stop unemployment and make those slackers support their families on whatever wage McDonald's will pay. We can save businesses money by removing the minimum wage and let the market determine how much to pay. Then we should lower capitol gains and income taxes to encourage investing.

[planet planet]

The USPS announced 120k job cuts today. That's going to wipe out a good month of employment gains, not to mention the affected families.

[cards2468]

The USPS announced 120k job cuts today. That's going to wipe out a good month of employment gains, not to mention the affected families.

I guess that has something to do with all the post offices that are closing since most people just use the drop boxes

[G. Keenan]

The USPS announced 120k job cuts today. That's going to wipe out a good month of employment gains, not to mention the affected families.

On a related note:

http://ryancbradford.com/2011/07/28/how ... -the-usps/