Our financial system is crumbling this week.

[Hungary Jack]

DOW up close to 900 point in anticipation of rate cuts. It's false positive. It'll be back down later once the market realizes it doesn't help that much.

Yup. They cannot help much in an environment where credit is hard to find, right?

[cpebbles]

Feel free to correct me if I'm wrong on this, but my understanding was that these rate cuts are largely intended to force money back into the stock market by making alternative investments less attractive.

[Hungary Jack]

Feel free to correct me if I'm wrong on this, but my understanding was that these rate cuts are largely intended to force money back into the stock market by making alternative investments less attractive.

Perhaps, but the Fed would never publicly state as such. The huge concern right now is short-term liquidity, and not so much asset prices. The rate cut eases borrowing costs, but there doesn't seem to be much new borrowing (lending) going on right now. And corporate balance sheets are reportedly in very good shape in general (low debt).

[KyCardinalFan]

If they're trying to increase borrowing - isn't that what helped create the problem, buying what one couldn't afford? Doesn't this continue the problem?

Actually, as I think on this more, I guess they're thinking of the small-business owners who can't get credit? Still, not seeing how a rate cut helps getting credit and not making credit-buying more affordable.

[Hungary Jack]

If they're trying to increase borrowing - isn't that what helped create the problem, buying what one couldn't afford? Doesn't this continue the problem?

Actually, as I think on this more, I guess they're thinking of the small-business owners who can't get credit? Still, not seeing how a rate cut helps getting credit and not making credit-buying more affordable.

You basically answered your question. They are trying to provide liquidity in the short-term borrowing markets that companies use to fund their operations. Companies use commercial paper, which are basically IOUs to borrow money for days or weeks to make payroll, pay bills, etc. until they get paid (revenue cycles and payment cycles almost never match). This isn't long-term credit that gets consumers into trouble because lenders force repayment typically in 30 days.

A rate cut can help consumers by lowering the cost of credit card loans, auto loans, mortgages, etc., which can increase spending. But household debt is at a peak right now, so consumers are pretty tapped out.

[Hungary Jack]

how can 2 failing auto companies that merge be a good thing?

i like ford's position better by selling off assets and trying to get smaller and leaner. i think they will be better positioned out of the big three.

The merger is an act of financial desperation. Strategically, it makes little sense as both companies have product lines weighted toward trucks and SUVs. GM already has too many undistinguished brands in its stable, and now it would add 3 more (Jeep, Chrysler, Dodge). And by all indications, both companies are crappily managed.

It doesn't frighten me that GM wants the Fed to loan $10B to help finance the merger. What frightens me is that the Fed apparently is willing to listen. I will probably projectile vomit if the government gives any money to support this deal.

[TimeForGuinness]

how can 2 failing auto companies that merge be a good thing?

i like ford's position better by selling off assets and trying to get smaller and leaner. i think they will be better positioned out of the big three.

The merger is an act of financial desperation. Strategically, it makes little sense as both companies have product lines weighted toward trucks and SUVs. GM already has too many undistinguished brands in its stable, and now it would add 3 more (Jeep, Chrysler, Dodge). And by all indications, both companies are crappily managed.

It doesn't frighten me that GM wants the Fed to loan $10B to help finance the merger. What frightens me is that the Fed apparently is willing to listen. I will probably projectile vomit if the government gives any money to support this deal.

I'm thinking that you better get your barf bag ready...

[Hungary Jack]

Interesting blog post from Gary Becker.

Blog

Is the Goose that Laid the Golden Eggs Severely Wounded? Becker

Will this financial crisis mark a substantial retreat from the world's movement during the past several decades toward a competitive market system? Many journalists and others have been suggesting that this crisis will lead to much more active government involvement in the economy, and even induce a return toward government ownership of many companies in the non-financial as well as the financial sector. In my opinion, what will happen to the worldwide support for competition and privatizations, freer trade, and market-based economies depend greatly on how the American and other major economies fare during the next year or longer.

The US and much of the rest of the world appear to be headed for, if not already in, a recession with falling GDP and rising unemployment. It is possible that this recession will be steep and somewhat prolonged. The extreme example of a major depression is the Great Depression of the 1930s, where real GDP declined sharply for a few years during the early 1930s, and where unemployment grew from 3 percent in 1929 to 25 percent in 1933. Unemployment was still at the remarkably high rate of 17 percent in 1939 prior to the outbreak of World War II. By contrast, American recessions since 1959 have been so mild that in no year did real GDP fall by much more than 1 percent, and yearly average unemployment rates peaked at about 10 percent. This unemployment rate was approached in both 1982 and 1983 as the Fed squeezed inflationary expectations out of the system with interest rates that sometimes exceeded 20 percent. Still, real GDP only fell a little between 1981 and 1982, and then rebounded in 1983, even though unemployment was still high in that year.

As I have said in several recent blog discussions, and in my Wall Street Journal article of October 7th, I do not expect the current crisis to develop into a major depression. I do expect that most governments will place any worldwide recession that develops, even a severe one, in the context of the sizable world economic developments during the past 40 years not mainly in the US, but in Europe, Japan, China, and most other countries. Even a couple of years of declines in GDP and relatively high unemployment will not overshadow the remarkable economic achievements during these decades. These include unprecedented growth in GDP in formerly poor to very poor countries, such as Japan, South Korea, China, India, Malaysia, Chile, Spain, Portugal, and others. Growth in mainly market-oriented developing economies swept away dire poverty from hundreds of millions of families in Asia, Europe, and South America. This sustained growth also led hundreds of millions of others into middle class status, where they could afford to buy cars, well-equipped homes, television sets, cell phones, computers, and other goods that not long ago were considered well beyond the means of the typical family in all but a few countries.

Yet, even with a recession of the type I expect, there will be increased regulation of financial institutions. These could include requirements of minimum levels of capital to assets for investment banks and hedge funds, government insurance of money market funds, and greater oversight of all types of financial institutions-in prior postsI have supported versions of these changes. Although there may be other regulations and controls, I would not expect the US federal government to hold on for long to its preferred stock interest in various investment banks. I have not supported such government equity interests, and it would be a grave mistake if the govern continued to maintain such ownership. Indeed, the government's influence over Fannie Mae and Freddie Mac contributed in a significant way to the housing bust by encouraging these institutions to make many worthless sub prime loans, although clearly other important forces were also at work in the housing bust.

On the other hand, if I am wrong, and there is a prolonged and deep worldwide depression, not simply a recession, the retreat from capitalism and globalization could be severe, as happened during the Great Depression. Many countries would increase their tariffs and other trade barriers to reduce the competition to domestic production from imports. Nationalization rather than privatization will be in favor as governments take over ownership of many weak companies. Regulation of executive salaries and other wage and price controls will become much more common. Competition will be stifled as governments encourage companies to coordinate their pricing and other policies, and change laws to make it much easier for unions to organize workers. These are not attractive prospects.

Few people have sympathy for the hedge fund managers and others who made hundreds of millions, and sometimes billions, of dollars during the boom years, Still, middle class and poor families would be hurt the most by unwise government policies and attacks on the foundations of a competitive economy. Policies that frighten entrepreneurs and discourage them from accumulating private capital and investing in innovations will hurt most of us, but especially workers in various companies.

[AWvsCBsteeeerike3]

http://blogs.moneycentral.msn.com/topst ... nuses.aspx

As if the economic bailout by U.S. taxpayers isn't enough to make you sick to your stomach, new information has come to light that several banks are planning to pay billions of dollars in year-end bonuses from the bailout funds they received. Investigations are beginning into the nine banks that took in the first $125 billion -- the same $125 billion that was supposed to be used to unclog the credit system which was preventing banks from providing much needed funds for individuals and businesses.

There are many feathers in a ruffle over this and New York Attorney General Andrew Cuomo and several congressmen are furious that over $20 billion has already been earmarked as bonus funds for management and employees. Unbelievably, that is just the estimates from Goldman Sachs, Morgan Stanley and Merrill Lynch. There are six more banks that are also working on similar heists.

Here is their rationale for using that money: It is reported that the financial industry pays base salaries in the range of $80,000 to $600,000 and apparently that is simply not enough to keep some of the best and brightest working to keep their companies profitable. It seems that if they were paid only this meager amount, the company would risk mass defections. That would be a real problem...or would it?

Maybe it is time to peg annual bonuses to something meaningful like profitability. As I recall, not only are these the firms that have been losing money (as is evident by the need for a massive multi-billion dollar bailout) but they have also been shown to be the creators of securitization, derivatives, sub-prime mortgages and other toxic credit that is the root cause of this historic global economic catastrophe!

Maybe I am being too harsh? Perhaps management is entitled to hundreds of millions in bonuses for the hard work they do, day in and day out. You have to feel sorry for them as most have had to give up their private jets and instead fly in a cramped seat in first class. Surely most will now have to wonder how they will deal with the excess workload as they have had to fire thousands of employees. Also, they will need to use a good chunk of that money to rebuild their retirement plans as much of their wealth was tied up in their company's stock which, under their leadership, could be down more than 60% just this year alone.

...and here I was convinced that they needed these billions to keep the credit lines open.

What a [expletive] joke. This bailout was a waste of our money. We've all been duped.

[Hungary Jack]

over $20 billion has already been earmarked as bonus funds for management and employees

This bothers me.