In the ICU, Signs Weak But Stable
The relative calm currently afoot in the financial markets is exactly what you'd expect after major surgery: the financial system just underwent an emergency heart transplant (the Paulson artificial heart -- model A4-271).
That's effectively what Congress' $700 billion bailout of Wall Street just turned into. Instead of buying up the banks' balance sheet-cluttering, toxic paper, the Treasury is now deploying a big chunk of that cash to take equity positions in them. For now, the recipients are the big, name-brand money center banks; eventually, smaller banks will also be brought into the fold.
Meanwhile, the Federal financial life support system continues to function at 100% of capacity (if not more). Witness Treasury's barely-noted directive to Fannie Mae and Freddie Mac to begin buying, ASAP, up to $40 billion in bad mortgages per month; the unfolding (and increasingly expensive) custodianship of AIG; and the government's unprecedented venture into the commercial paper markets.
Mortgage Rates Up
So how are the patient's vital signs?
At least for the moment, that almost seems besides the point: the patient is alive.
Yesterday's 900 point-plus stock market rally would seem to confirm that. However, the new heart's rhythm is weak and erratic, and the weakened patient must now be given potent drugs to guard against rejection (plus lots more units of fresh capital to offset post-operative hemorrhaging).
Danger signs abound, including a still severely impaired commercial paper market; an elevated LIBOR (rate at which banks lend to each other); plus now-rising mortgage interest rates. That last development is precisely the opposite of what's needed to support real estate prices (can you say, "hoarding cash?").
In sum, it's far too soon to declare the operation a success.
Even if it is, the recovery is likely to be slow and drawn-out. Finally, unlike real-life heart transplant recipients, when the patient is sufficiently recovered . . . its new, government-issue heart has to be swapped out. Instead of the old, defective private market one, the replacement will need to be fundamentally redesigned and improved, not just repaired.
Tuesday, October 14, 2008
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1 comment:
An interesting analogy. I think the downside of the treasury directly purchasing the toxic mortgage paper was that if they paid too much, the taxpayer was screwed, and if they paid too little, everyone else holding these investments would have to mark them down to the price the treasury paid. Injecting capital directly into the banks achieves the same end, hopefully letting them feel comfortable enough to start lending again. Time will tell if Paulson made the right calls.
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