Sunday, March 9, 2008

Shades of the 1987 Crash?

US Fed pins economic hopes on $200bn liquidity boost

By Ambrose Evans-Pritchard
Last Updated: 12:03am GMT 09/03/2008
Recession and fears of a crash force US central bank to bolster the credit markets again, reports Ambrose Evans-Pritchard
The Federal Reserve has again been forced to step in to alleviate extreme stress in the US credit markets, pledging $200bn (£100bn) of emergency liquidity for the banking system.

The move culminates a dramatic week that saw yield spreads on Fannie Mae and Freddie Mac agency bonds surge to the highest levels in over 20 years. A panic flight to safety across the credit universe briefly drove the yield on 2-year US Treasury notes below 1.5pc, a sign that investors may be battening down the hatches for a violent storm.

The Fed said the fresh money was needed to "address heightened liquidity pressures in the term funding markets". A tentative rebound on Wall Street ran out of steam in late trading as shares slid perilously close to the January lows, deemed key support levels by technical traders. The Dow Jones index tumbled 202 points at 11,833 in late trading. Grim jobs data released by the Labour Department showed that employers had cut the workforce by 63,000 in February, the sharpest drop since the dot com bust. "A decline of that magnitude screams recession," said Paul Ashworth, US strategist for Capital Economics.

My take:

This is from the Telegraph in the UK. Well it looks as if we are in recession. Goldman Sachs says it is a forgone conclusion. A negative jobs report almost always is a signal that we are in one. As you can see money is flying out of the credit markets and housing and flocking to treasuries to the point where the FED has to inject money in order to to keep the credit markets alive. 2 year treasuries are usually around 3%. They are now at 1.5%. this shows you the fear that is out there.

Now as I read on here is the 1987 comparison:

"The Bernanke circle is now deeply worried about a systemic crisis, fearing that
the "financial accelerator" may have set off a downward spiral that could prove
hard to stop.
The Fed is now starkly at odds with the European Central Bank,
which has held rates steady at 4pc since the credit crunch hit in August.
officials say privately that they are shocked by the ECB's complacency given
that Italy is falling into recession, while Spain and Ireland face property
The transatlantic rift is eerily similar to the disputes leading up
to the Black Monday stock market crash in October 1987
. Traders say the discord
has begun to infect market confidence:

I have been warning for a week that a time bomb is about to explode and it could happen very soon. The quote above is a major problem. We are cutting rates as Europe is holding rates to fight inflation(which is their mandate). As a result our dollar is getting pummeled and hitting all time lows. It now takes $1.54 US to equal one Euro. This disconnect is putting even more pressure on our problems because other countries aren't complying with our rate cutting.

This could blowup our economy because inflation is already getting out of control and the its going to get worse because Ben has to keep cutting in order to save the banks. Usually as our economy deflates inflation decreases because their is less demand for things like oil because people cut back on their usage. With rising demand from India and China combined with Europe not dropping rates inflation is persistent and rising. Short term its only going to get worse with more rate cuts.

So now we have a situation where housing is deflating, the economy is facing a major recession , and inflation and getting worse because of the European bank/world demand issues. This is a recipe for disaster. I really don't see Ben getting out of this one without a major blowup of the economy. The only answer is some type of collapse and reset of the whole system.

How does this translate to housing? Well there are many risks. Inflation means people spend more on necessities which means they have less income to buy a house. The FED may be forced to Raise rates after they lower them short term in order to fight inflation which will reduce the amount of money people can borrow.

Banks are losing billions and lending at a dramatically reduced rate becasue of losses and fear which will tighten lending standards and make loans very very difficult to get. This is the spiral that Ben Bernanke worries about. Oce it gets going its hard to stop and it feeds on itself.

What then happens to housing? KABOOM!

Link below:



Jeff said...

do you guys think we see a crash or some type of market event if the FED can't loosen up the credit markets and inflation continues to rise as our dollar weakens?

Anonymous said...

The big crash will be a dollar crash which will keep slowly eating away at the stock marcket. I don't see a one day dip more than 7-10%. But if it continues to dip 1-2% per day for the next 3-5 months the result will be the same.

It almost feels like the Fed is wrecking the dollar on purpose. In times like this be in non-dollar denominated assets and stocks that are traded in non dollar backed markets.

Jeff said...


I agree. I think Ben is ready to cut rates and allow the dollar to be pummeled in order to save the banks and prevent a systemic breakdown of our financial system.

I think at some point when things look stabilized you will see a rising of rates to then control inflation. This will be one tough balancing act.

Anonymous said...

What I still can't understand is how the Fed gets away with saving the banks at the expense of the dollar when it's mandate is to protect the value of the dollar.

Inflation is out of control. Not CPI, but real inflation... energy and food. The two things hardest to cut back on are rising at record paces. By the time the Fed gets around to traising rates to slow inflation, prices will be so high that it will take decades (if ever) for wages to catch up.

I don't see balancing as an option at this point.