This past week featured a sharp closing time sell off amidst fears of the subprime mortage lending market and fears regarding a weak housing market. Mad Money host Jim Cramer has an entertaining video critique of Fed chairmen Ben Bernanke. In it, Cramer says Bernanke should wake up and cut interest rates immediately to stave off disaster. Fears also continue to escalate as job growth has clearly slackened. Leading lenders are also curbing loans and raising rates.

Questions for debate:

1.)In light of the subprime mortgage disaster, will we see an economic cooling and end to the flourising late '90s/early 00's economy?

2.)Should the Fed lower interest rates to 5%? Why or why not?

3.)Will we be entering a recession or is this just a blip?

4.)What factor is the most responsible cause for the latest sell off and tightening credit market?

It was quite entertaining to watch Jim Cramer give a melodramatic speech blasting the Fed Chairman and screaming about Financial Armeggedon. Nonetheless, the man is a Wall Street insider and probably should not be trusted to give honest advice to the investors. Cramer could be trying to get people to dump their stocks so that he can a favorable short position.

1.)In light of the subprime mortgage disaster, will we see an economic cooling and end to the flourising late '90s/early 00's economy?
That's going to depend on how the rest of the economy is doing. Right now, a lot of Americas manufacturing has either gone out of business or left the country. If the only Industries left in America are Government jobs and low-value service jobs like retailing and gas stations, then at some point, the Financial Markets will have to reflect the reality on the ground.

2.)Should the Fed lower interest rates to 5%? Why or why not?
It's a catch 22. Lowering Interest rates may help out some of the people who presently cannot afford higher mortgage payments on their houses. But right now, the Dollar is at record lows against the Euro and other currencies. With America's dangerous dependency on foreign imports to prop up its economy, letting the Dollar sink could hurt a lot of businesses outside of Real Estate. Higher Interest rates is what will attract foreign investors to prop up the dollar.

How did this thread sink into oblivion? Seems fairly relevant.


1.)In light of the subprime mortgage disaster, will we see an economic cooling and end to the flourishing late '90s/early 00's economy?

The broader elements of the local and world economy that can be affected by this could have the effect of seriously damaging the global economy.

2.)Should the Fed lower interest rates to 5%? Why or why not?

I am not sure that the fed can impact the availability of money for banks. Banks have made some serious mistakes and confidence in them and their financial tools has been seriously undermined. This is a major cause of the present credit crunch. If more money is made available it will not necessarily go into the mortgage finance industry.

What the fed and other central banks did this week I think is probably as far as they should go. They made money readily available for the short term as a gesture of support for the international economy.

3.)Will we be entering a recession or is this just a blip?

The range of players that are at risk in this situation could clearly trigger a recession. That and the crunch that is presently squeezing the middle class toward the edges of the wealth ladder in the United States. High debt and rising costs for services in the domestic economy don't look real good for future consumption.

4.)What factor is the most responsible cause for the latest sell off and tightening credit market?

The most responsible factor was the idiotic relaxation of the credit standards in order to continue a robust mortgage market. Money flooded out of the stock market in the late 1990s and began to invest in the real estate market creating a bit of a bubble. Then mortgage companies began designing a variety of tools to get people with middle income, the desire to flip houses, and with dodgy credit into houses at these higher costs.

The subprime market only represents this trend and the damages are affecting all national mortgage related industries.

Two years ago the industry was way to cavalier about who to grant a mortgage to. And today the industry has swung to being too cautious. This is dramatically shrinking the pool of people who can qualify for a mortgage, which shrinks the buyers pool making it a buyer's market and driving down the prices of the houses.

Since the mortgage companies fudged to keep their high profits, they made too many reckless 100% loan to value loans. The downward pressure on the housing market places the holders of mortgages at tremendous risk.

By relying on income-stated or liar loans, the industry granted loans to people without real income verification so someone with a great month of income could imply that that was their average income for the past 3 years. The people who made these income statements to mortgage companies and hoped they could somehow make their mortgage payments often are finding it difficult to make the payments. As they get into trouble, they are finding no new financial mortgage solutions to allow them to keep their houses and may be trapped in the sense that they cannot sell and qualify for any new house by more cautious standards today.

Other people bought a house to catch a rising real estate market in order to create equity. In return for doing this they may have taken a variable rate loan. That rate after a cushy opening period almost always rises some. With a bump in the market it can jump fairly significantly. They, too, likely cannot afford the new payments and are searching for a way out but no mortgage broker has an out for them.

Even worse, they may have taken an interest only loan. They are paying a reduced mortgage but will never pay off principle. Those loans can end or can get to a balloon payment. These people were expecting to find a new mortgage tool at a certain point and many of these people are not going to get one.

Worse than that, some people have secured less than interest only payments so that the amount they owe increases the longer they hold their mortgage.

Add to this the costs of buying a house like agent fees and closing costs and often these costs were factored into 100% loan to value mortgages so that many people are upside down in their houses.

People were shoehorned into houses with tricky mortgages that allowed them to move into high dollar houses that they couldn't really afford. Because so many people are wedged in this way, the ways to solve the problems are already very difficult. If the industry has been scared into dramatically raising its credit standards then the shoehorned people will all get the ten-foot pole treatment and the real estate market will continue to have less buyers and the prices will continue to drop and the 100% loan to value mortgages will be handed back over to our backs who will take a beating and they will have even less resources to use to lend money and the credit standards will sharpen even more.

Oddly the robust economy seems to be part of the problem. Because the economy has been fairly robust the fed is very concerned about inflation. Until that concern ebbs, the fed policies will not likely rush to dramatically reducing their interest rates to try to draw down the prime rate.

Since I've posted this debate topic, things have definitely remained flat. For some weird reason, I began to pay more attention to CNBC and Bloomberg more than usual before the markets began to take a dive. At worse, I thought the "self-correction" would be a day or two and then the market would go through the roof, quickly outdating my topic to the dustbin of AD history. I've been proven wrong, sadly. The mortgage crisis was due to $100 billion in "credits" coming due. I found a U.K. Times article stating that this coming week, $113 billion more is slated to be up for refinancing. The people quoted in the article believe the market will take a second hard punch. The American economic news stories paint a less bleak assessment on this. It will be interesting in the coming days to see who is right.

Longest month to month job increases in history and the biggest boom economy we have ever had – so it may be a little premature to worry about recession just yet.

A recession doesn't occur all at once, it's a gradual process with some tell-tale signs. I agree that we have had a prosperous time since 2000. This is not a thread about whether or not Bush has messed up the economy or if prosperity has been limited. I think you're defending Bush's record on the economy, at least, that's how I read your post. This is different as we are clearly experiencing indicators which have not been around in the recent past. Individual companies who serve other sectors of the economy like Caterpillar, clearly believe that with dropping orders and purchases, that those segments are "in recession." Fears of a recession are becoming more entrenched as well according to investors. Stocks also fell precipitously this past week.

From the last hyperlink:

Falling earnings....


banking takes a hit.....


Housing whacked around....



I'll save you a spot on the ledge Ted, just bring coffee when you come on out here.

Interest rates to be cut to stave off recession fears.

Dollar reaches record low against other currencies.

Ya keep on watching and let me know when the recession starts. Dems desperate to portray the economy badly are working hard right along with you. Top level Numbers still tell the tail. As below

US Budget Deficit Drops to 5-Year Low
Thursday October 11, 6:30 pm ET
By Martin Crutsinger, AP Economics Writer

US Budget Deficit Falls to $162.8 Billion in 2007, Lowest Level in 5 Years
WASHINGTON (AP) -- The Bush administration reported Thursday that the federal budget deficit fell to $162.8 billion in the just-completed budget year, the lowest amount of red ink in five years.

The administration credited the president's tax cuts for helping generate record-breaking revenues
President Bush, appearing with his economic team to trumpet the news, noted that the deficit turned out to be $81 billion lower than it was projected to be in February. He said the deficit represents 1.2 percent of gross domestic product -- less than the average of the last 40 years.

This is a good point, Ted. It is a good sign that the budget deficit is falling. The deficit is still in the red though. We still have a huge debt and that debt is still increasing if not as fast as it was.

More important is our trade deficit which is also dropping. As the dollar drops versus other currencies, US products become cheaper as well as foreign products become more expensive. Thus, US exports will improve. What's of concern though is: even though the US has such cheap currency, we still have a trade deficit and not a trade surplus. We are seeing a more robust domestic trade market at the expense of foreign goods so maybe this explains some of it. Regardless, a cheap currency in general is good news for exports and we are seeing this reflected in our trade metrics.

That said, don't discount the negative effects of a weak currency to the US economy. A large segment of the US economy is services based (including financial services). Many of these services are sensitive to a weak dollar as they depend upon foreign capital investment. As the dollar weakens, the motivation to buy into the US financial market weakens too. Of course, foreign investment in US stocks becomes more interesting because they are "cheap" relative to the investors' currency.

Let's not forget the energy market in particular oil which is traded in "petro-dollars". As the dollar remains weak, the motivation to trade in, say, "petro-euros" goes up. At some point (perhaps soon), we will see this shift occur. And if it does, expect the US energy costs to go way up.

Finally, the Fed is afraid of a recession and cut rates to avoid it. Let's hope this is enough. I doubt it though. The housing market has yet to reach to reach its nadir and we will be seeing more badness in that sector over the next few years.

I agree and looking at the market today we can see the that the move by the Fed and all it implies along with oil hitting $95 HAS hurt confidence. But imo the economy, with the exception of housing right now, is very strong and will stay that way. The tax cuts Bush put in place have more than proved the old adage.

My real worry is that oil will continue to rise. If we pull out of Iraq and chaos breaks out oil will skyrocket - it will not take much – Iran holding oil off the market (backed up perhaps by Chavez) could have the same effect. And this WILL send us into recession. Se this site –

http://postcarboncities.net/node/1770

This is of course, as Greenspan said, one reason Iraq and the ME are so important to this country.

I always seemed pressed for time, which means I will only throw out a few observations. Eeyore has summed up perfectly the reason for the housing bubble, although the wide availability of money initiated by the Federal Reserve shares part of the blame.

The economy right now, at the very least, will tangibly slow down. A significant slowdown is likely, and a recession is certainly not out of the question. The most recent economic report looks fairly benign, with GDP still gaining, but the housing market is still a ways from rock bottom. Housing is an essential part of the economy, and can be credited for a lot of the growth experienced in recent years. People cashed in on their ethereal housing gains through second mortgages, or reduced their savings, which boosted consumer spending.

Oil is hitting record highs primarily because of the rate cuts and the sinking value of the dollar. Supply hasn't decreased, though I have heard through the internet grapevine that it leveled off.
Oil:Dollar

In addition, the increase in exports due to a declining dollar is a double edge sword. As interest rates fall here, there is motivation to move out of dollars and into currencies that have greater interest rates. Also, a falling exchange rate means all of us holding onto dollars can buy less goods abroad, essentially making us poorer as a result. Thats not exactly the way I'd like to get out of a recession!

Luckily, our biggest foreign investor, China, still seems interested in buying US debt. But with the value of their dollars investments falling, its certainly an unsustainable situation. If the other shoe drops in the near future, say because of an unstable stock market collapsing, the odds of a recession are much higher.

I think you should have a real worry about the housing market. In particular, the subprime loan market primarily backed by hedge funds looks really bad. Bear Stearns recently "bailed-out" their two hedge funds to the tune of $3.2 billion. Note that this is completely unprecedented. We will see some bad stuff over the next year. And it will effect the economy.

I don't want to get into a debate over tax cuts since I believe they are only effective if government curbs spending/borrowing as well (which it didn't).


A sudden rise in energy costs alone would not tumble us into recession (but we've been over this before, Ted).

As far as ME oil is concerned, take a look here. Look at the top 5 countries we import oil from:
2007 Avg: 1000s of Barrels per Day
CANADA ............ 1,853
SAUDI ARABIA ... 1,427
MEXICO ............. 1,448
VENEZUELA ........ 1,120
NIGERIA ............ 1,025

These countries represent the bulk of US oil imports and only one is a ME nation.

While it is good to be concerned about energy prices and dependency on the world oil market, there are much more significant things deserving your concern with our economy. Things like: our trade deficit, our national debt with Japan and China holding a vast amount of it, our deficit as well as the aforementioned subprime market.

Our problem with the deficit and the national debt is we can’t see it. The current deficit began with Ronald Reagan. Reagan had Alzheimer's disease, which dementia precluded him from seeing the effects of deficit spending. Reagan’s Republican followers couldn't see it either because they didn’t want to see it (i.e., if it didn't fit within the “Trickle-Down” doctrine, it wasn't true); and, for them, seeing was not believing. Eventually, the national debt became so large that no one could see it, it virtually disappeared. This economic dyslexia continued until Bill Clinton was elected and pointed out that we were up to our eyeballs in debt. This made Republicans angry, and they blamed it all on him; but at least Clinton reversed the trend. Now, history is repeating itself; but we’re still in denial, because we just can’t see. President Bush says we all have to have faith: things are really getting better - you’ll see.

Once again Ted, you are defending Bush and the economy, something which I'm not critcizing, nor am I implying that Bush's policies have in any way, created the housing and subprime problems which could lead us into a recession. To me, this isn't that political in all reality, it's all cyclical isn't it? I am not one who is desperate to portray the economy as being bad. If you look at my sources, they are all from business news outlets and 100% of the time, quote the leaders of companies, market analysts, not to mention other titans of commerce. They aren't exactly the kind of people who want a recession, or who would benefit in any way from it. They are sober realists and are paid to be such.

Once again, a recession isn't an immediate thing and there will be good news too among the general downturn. A great example of this has been the latest jobs report which will be a good dose for the economy, and may help us stay out of recession. Once again, the topic isn't Bush's record on the economy, it's whether or not this "blip" is just a "blip" or if we are heading into a recession. The 4th quarter faces a possible $10 billion write-down and the Citigroup executive board will be holding a weekend emergency meeting to discuss getting rid of their head man in light of a $6.5 billion write-down. The Fed rate cut hasn't made everyone happy, which is an interesting perspective to look at. You are on to something about oil being a potential problem, at least a few analysts agree with you on that.

Perhaps we don't have to sit on the ledge, the soup line is more fitting given the latest good news.

IMO the economy can weather the housing downturn and I agree it is a cycle – the bubble of which was fostered by stupid lending practices. Many banks are putting together a 100 billion to put themselves and their associates out of the mess – lol.

As for the future imo we may see a slowdown but not a recession unless and until a Dem comes in and does what they do best TAX and spend. The key would be the TAX part as this will slam the breaks on the economy.

It really depends on what you mean by "weather". The so-called housing downturn will be far larger in scope than the S&L crisis of the 1980s. The credit market will become really tight: so tight, in fact, that it will stifle economic growth as businesses will find it very difficult to borrow. The consumer market will be hit pretty hard as people will be far less willing (or find it difficult) to borrow on credit. You'll see this when the numbers come out post-Christmas (it will be a bad season for retail).


We will be in a recession in early 2008 before any change in government. I'm sure though that you will continue to deny it even if the facts happen to counter your ideology.

Keep in mind though that it isn't taxation that got us into this mess but borrowing. A fiscal conservative (such as myself) would recognize that borrowing against unsecured assets (such as hyper-inflated housing) and loaning to high risk borrowers (such as the subprime market) is economic suicide.

I believe that you are correct in this assessment. I came home and saw that this thread had some new posts, I then clicked on the news, and boy, was there a ton of relevant information! Unfortunately, none of it was for the good. The Dow took a 350 point dive. The housing market also took a beating with Fannie Mae and Freedie Mac shares taking a severe beating upon news of an investigation. Not to mention that 25 key housing markets will be will be falling fast.

Sorry Ted, democrats have nothing to do with this-our titans of business gave out loans to every bum out there and now it's come back to haunt them. Ditto the folks who created a fake market through "flipping" houses.




Exactly, which is why presidential politics hasn't played a role in this, nor will it.

I think the magnitude of what a housing downturn can do hasn't really hit home. Perhaps this quote can enlighten:

Housing

Thats how important housing is.

And remember, this is probably going to be the biggest housing downturn in history. So if there is a connection, which we safely assume there is empirically and logically, its going to end up creating a significant drag. If we don't get into an actual recession, we're going to be in near recession conditions.

That is in fact what the UCLA Business school is predicting: UCLA Anderson Forecast: U.S. Economy “A Near Recession Experience”.

The other shoe might drop as well, which would definitely be frightening:
Canada

This is why we have the Fed and this is why they just lowered the rate. They can and will pump all the money the economy and business needs into the economy.



I will bet you a quarter (my max) that it does not happen in early 08.

It is lower taxes that got us out of the recession of 2000 and if Dems come in and raise taxes it will have the opposite effect.

Ted, I assume that you do know how the Federal Reserve lowers interest rates. If the big banks don't have enough capital on hand to get the interest rate lower, the Federal Reserve prints out enough money to steer the banks into the target rate.

Another thing is that the official interest rate is only the rate that banks set when they loan money to each other. Whether pumping more money into the system will put a plug on the foreclosure crisis is questionable. What is not questionable is that pumping billions of extra dollars into the system will have the effect of devalueing our currency. It remains to be seen how far the dollar will fall, and whether that will help our manufacturers while causing minimal effect on the consumer, or cause an inflation crisis making the American economy too expensive to continue functioning.

If lower interest rates were the magic bullet to solve our coming economic woes, the Fed would have lowered them even more than they already have. The problem with lowering rates is that it is inversely proportional to the rate of inflation. The dollar is already weak against every major currency AND the domestic economy is still shaky. The Fed can only lower rates so much. In other words, there's only so much the Fed can do.

High risk loans secured with (criminally) hyper-inflated housing valuations is not something the Fed can solve. This will have to play out on its own. Though you can bet that the SEC will step in to make hedge funds have more governance: something which in principal I disagree with but I see no other way out right now.


Well, we may be in a recession now or before '08. So if you're willing to bet that we won't be in a recession by early '08, I'll take you up on it. Should I start a PayPal account or something?


I don't agree with this assessment at all. Lower taxes does not account for the credit market at all which is where a lot of our economic "growth" has derived.

Bernanke definitely says inflation is peeking in. BecomingHuman's commentary on the important of housing is very much on tack with what the experts believe. I have yet to see anything that suggests the housing market is just not that significant to worry about.

Actually what the Fed does is to lower the Federal Funds Rate which is their price for money. So banks then can “buy” money at a lower rate and, if they choose – and they usually do, lend it at a lower rate. This generally make money more available.





Devalued currency is good in many ways. Export business is way up as a result.

The Fed Chairman said this week he felt that the housing issue would slow the economy somewhat but not cause a recession. I think he is correct.

Keep in mind that a Fed chairman will never, ever declare that we will go into a recession. Just the fact that he declared a "slowing" economy was enough to tank the stock market. I think though that investors can read between the lines.

Excellent point, there is only so much that rate cuts can do. What happens when we get to the point where rate cuts no longer cut it? Heck, Bernanke appears to be a bit reticent when the topic of further rate cuts pops up.

Another day, another indicator that the credit situation is worsening.

I think the credit crisis is significant, but I also think that many people highlight indicators or data as negative when in reality it can also be a positive or often even be an indicator of other forces and conditions.

The dollar has not lowered against every currency lately because the Asian markets can't let it go too low in their region. Not to mention the dollar devalue helps encourage more exports and buying of American products which I include American holidays and properties. Not that I think a recession can be avoided by exports alone, but it will help and it is a safe bet.
Soooooo a lowering of interest rates will inevitably lower the currency value and will cause a export rise. Perhaps lowering interest rates is to encourage a lower dollar, maybe that is the point. I don't think the two go hand in hand as the messengers of doom as many of you here like to portray them as and no one here as addressed this point.

Personally my own worries and concerns economically are more focused on free trade and the current trade disputes still ongoing, mostly between the US and the EU. IF the Bush admin could do just one thing right that would be a good place to do it. But the EU has already stressed their discomfort at our currency devalue as they feel it places us at an unfair advantage. Sarkozy's visit was not all warm and fuzzy. It certainly is not a guaranteed agreement.

I would also like to add a more personal experience to this debate about the dollar, I have made money abroad, in the UK and it has just now all been finalized. Bringing it over to the US right now with the dollar at such a low value to the GBP will be a huge benefit for me and I will be at a great financial advantage. The exchange rate rocks in my favor. I am just a wee little peon in this world so I can't believe it is always and forever a negative for everyone and everything. The best explanation I have seen is recessions are more likely to be narrow not wide.

Interesting. How is anything about the credit crisis positive? Note that a weak dollar isn't really directly related.


The dollar has lowered against all the major Asian currencies (even China but not by very much). Japan and China hold a lot of the US debt so their currencies won't increase as precipitously as, say, the Euro. Nevertheless, they are stronger against the dollar.


Yes, this is true. We have seen our trade deficit decrease. The problem is that our trade deficit should be a trade surplus by now given how long we've had a weak currency. If the dollar stays weak for long enough, then we will eventually see an improvement in out export market (which is good). It will come at the cost of our major debt holders (Japan and China) cashing in their T-bills and so on (which would be bad).


Free trade may entail petro-euros. You can bet that shift would have an effect on the US economy.

I had a good laugh this black friday, as Matt Drudge had a big article and picture about the $20 billion spent today and how the stock market rebounded. Interesting that he left out some interesting points:


New York Times article

In other notable news, credit worries are still on the table, not to mention Greenspan's commentary that the housing market has yet to bottom out completely. U.S. banks are also asking other banks to pony up to help create a superfund to stave off the banking troubles. A leading economist also believes that we are in store for a year end credit crunch. It is also predicted that the worst is yet to come for consumers.

Do I look like a prophet or what?

Recession fears grow.

Stocks end ugly week

One more 'shock" and it's recession time.

Wall Street traders at the soup line.

Jim Cramer-the Fed will take us into recession.

Here is a good breakdown of all of the recession indicators. It's a blog, but the charts are real.

Would you like a concert hall to toot your own horn there nebraska?

I'm sure you had your pom-poms out yesterday cheering the stock market down as well.

This only fuels my belief that there are some that really want bad things to happen to this country while their party is out of power.

Besides the sub prime housing market, I think one of the main reasons for our economic downturn is the constant negative attitude we have been bombarded with from the opposing party(read democrats). It's almost akin to verbal abuse. If you tell your child or spouse they are worthless enough, they will start to believe it.

Despite Nebraska's prognostication (or lack thereof) there has not been a recession since he started this thread six months ago. Yesterday, the White House insisted that there will not be a recession.

White House not forecasting recession



I believe the Fed overreacted the other day with the 0.75% rate cut. Such a large move could signal to the market that the Fed does not have confidence that the economy can correct itself. So much of the stock market and business is expectations and following the pack that these moves are tricky.


source

We need to get our terms straight. Slower growth is NOT a recession. Recession is negative growth for the economy as a whole, not for one segment or another. The indicators point to a small rate of positive growth. This isn't good, certainly, but it isn't a recession.

It completely stuns me that someone would believe anything that comes out of this administration.

I really didn't know who to believe or what to believe, but if the Bushy administration says there will not be a recession, that means there will be one.

Stay the course! There will be no recession! <insert a picture of Baghdad Bob here>

From what I hear on CNBC, the classic definition of recession -2 quarters of negative growth - is being revised. I doubt the White House would say anything other than what it said. I don't believe anything Bush tells us.



I agree.


There is a large psychological element in recession. While we may not be in recession under the classic definition, I think the psychological elements are in place to produce one.

One such psychological element would be if or when consumers feel the need to curtail discretionary spending. The daily carmel non-fat latte may be the first to go.

Yes but words have meanings and if we dilute them to emphasize out point of view they become useless.

This isn't a recession. We're not terribly likely to go into a recession. As such it's vital to stop using the word recession to talk about a slower (saner) economy. Orwell's 1984 and all that.

I agree BA. What you said is what I mean by "recessionary psychology." This element is in play even among sophisiticated money types who appear on CNBC. We could "think" our way into recession. If the consumer curtails spending the odds of a recesion go up.

At this point, I think both views - we will have a recession; we will not have recession - are valid. We just don't know and meanwhile the uncertainty drives the stock indexes lower.

What we're really looking at here is psychological. I personally don't care if the DOW hits 0 or blasts out to a million. I don't work for any of those outfits that make up the DOW. Interest rates are only lightly tied to the Fed rate and depend more on the bond market (learned that from a mortgage guy). GNP might drop down, but am I linked to GNP? I'm not sure anyone really sees me anymore except the IRS through 1099s.

So all this means is that the rich get richer slower, the ranks of the poor grow and the middle class shrinks. Well those last two have been going on steadily for years now. The rich getting richer slower must hurt about 1% of the tax-paying population. What's that, the yacht blues? Got to feeling so low down and mean that you threw your martini glass into the Caribbean?

I do think though that working people worry a lot when a recession or whatever one wants to call it comes around. I used to when I worked for corporations. Yah start watching the heads roll out the door. Very disenheartening. Not good for sales you know.

The move was almost certainly a response to global equity markets melting overnight. The Shanghai stock exchange lost 8% on Tuesday (monday for us) after having lost 5% the day before. The Hang Seng tumbled 10%. The Indian SENSEX drop 11% immediately after trading started; a drop so bad authorities froze the exchange.

Before the market opened on Tuesday, Dow future contracts were indicating about a 5% drop in the DOW.

I also believe that the Fed should not have cut rates, but only because the mandate from congress does not give them the authority to preserve the stock market. Times are bad, even the most bullish of bulls have turned bear. A recession right now is almost a certainty.

This was the conventional wisdom a month or two ago. As I posted, the UCLA business school predicted just a near recession. That was before the titanic leap in unemployment (from 4.7 to 5%), the anemic consumer spending in December as evidenced by dismal earnings from major retailers, and the realization that the sub-prime gunk is larger and more widespread than we ever thought (considering huge write downs by Citigroup, exposure we didn't even know they had due to off-balance sheet accounts. Also, the recent admission by Bank of China about its sub prime investments).

I have my bet firmly on recession.

While I tend to agree that 3/4% cut in the prime rate was a bad move, I don't believe it was an overreaction. The credit market meltdown has not completed its melting: there will be many more write-downs (and bankruptcies) this year. There's a loss in confidence amongst financial institutions between themselves. This is almost as bad as a loss in confidence in an entire national economy which I would argue is exactly what's being reflected via the weak US dollar.

I often hear/read the refrain but it's all "psychological", that if people weren't negative then the economy would be doing better. Economics is ultimately "psychological". You can't decouple human behavior from the market: the market *is* human behavior. Does the state of the economy drive national confidence or does national confidence drive the state of the economy? This question presupposes that you can decouple the economy from the national zeitgeist. You can't -- they are one in the same.

The Fed looks down the road over the next year and sees some bad stuff coming. They don't have a lot of tools in their tool chest. When they drop the prime rate, they make money "cheaper". Cheaper money moves faster which is good when economic growth is stagnating. As more money moves around, the greater the likelihood that money will be spent on efforts that grow the economy.

But, cheaper money has a downside: inflation. It may be that more money doesn't grow the economy but instead just makes it so everyone can "afford" higher prices for goods and services. Sometimes inflation derives from speculation which brings anticipated future values into the present: oil futures are a good example. And let's not kid ourselves the ultimate driving force of modern society is energy (and particularly fossil fuels).

So, the Fed must weigh two opposing forces when making their decisions: growth vs. inflation. Sometimes, there's no good choice. Raise rates and slow growth. Lower rates and speed inflation. This is where the Fed is now. They are trying to "thread the needle": that is, pick the least bad of both worlds.

That said, I believe the Fed made an incorrect decision. What's different from the credit market meltdown from all other recessionary events (except the Great Depression) is the loss in confidence of financial institutions between each other. Money is just not moving like it used to. This is not because money is "expensive" -- quite to the contrary, even before the Fed cut, the 4.5% rate was low by historical standards -- it's because financial institutions are reluctant to lend to each other.

Here's a good example. A couple months back, the Fed offered to lend "new" money to 80 or so primary financial institutions: the Fed did this by auction. Many of these financial institutions participated. I believe the Fed started the auction at below the prime rate of 4.5%. After all the bidding was said and done, the rate for this "new" money was set at 4.65%. Why is that important? Because the financial institutions could have borrowed from each other at 4.5%. In other words, they purchased money from the Fed at a higher rate because they have more confidence in the Fed than in each other.

The loss in confidence between financial institutions is directly related to the credit market meltdown. They know there's more to come. How do they know this? Because, every financial institution is probably at risk. And this risk is difficult to assess as the housing market was inflated *because* of the ease of credit over the past 6 or so years.

So, back to the incorrect decision to lower rates... I believe the risk for inflation is very high. Because we have energy costs are at all time highs, goods which depend on energy (most) will cost more. Moreover, a weak US currency means that foreign goods & services cost more: a large sector of the US economy consumes foreign goods & services. Lowering rates may, I repeat, may improve the fluidity of the monetary supply but it will also increase the pressure on inflation.

So, even *if* we aren't in a recession or won't be in one (I believe we already are in one...), it is clear that slight or no growth will not mitigate the risk of inflation. We have term for this: stagflation. Now, given a choice between recession and stagflation, I'll take recession any day.

It looks close to official now:


Bloomberg

I told you so.

Sorry - I just needed to get this out. This administration is incapable of being honest. The scary part is, is Bush finally admitted the economy is in trouble. But he's also saying the foundation is solid. Given his inability to be truthful and lead the country, this looks like it will get much, much worse. And no doubt, he will point fingers at the democrats to turn it into a political opportunity.

Larry Kudlow had an article on NRO a week or two ago about how the next president would need to strengthen the dollar. I emailed Larry and asked why this president couldn't do that? Obviously, I received no reply.

The last recession started under Clinton's watch, so Bush inherited that recession. 9/11 was a big hit to the economy and made it worse. Fair enough. So, Bush implemented tax cuts that could have helped us out of that recession. But how strong did the economy really get? What did Bush do to create jobs that were being lost overseas? What did Bush do - while he had 6 years of a republican house and senate - to bring down the cost of gas? What did he do about the dollar's downward spiral? What did he do about out of control spending? Did he drop his veto pen under his desk and just like WMD in Iraq, fail to find it?

Many of us called foul when he didn't get the second resolution that actually would have gotten NATO to help in Iraq because we would have to foot the bill ourselves. And we were called RINO's and traitors. So, on top of all of Bush inactions, his blunders staggered our economy because he just printed more money to pay for those mistakes.

So, out of 8 years, it looks like Bush will have presided over two recessions over half of his term. Two recessions in two terms. Is that some kind of record?

In church yesterday, I was informed that we are in a depression. Apparently, my preacher isn't waiting for there to be a recession, he's skipping right to depression. Amen.

I love how the definition of recession (two quarters of negative economic growth) has been redefined, along with everything else, in honor of Bush being president, just to stick him with bookend recessions. Fantastic.

When we are actually in a recession, maybe we can discuss how bad it is. Until then, let's keep our wits.

I think the saying goes that if your neighbor is out of a job, it's a recession. If you're out of a job, it's a depression.

My tiny company got the phone call this morning that all of our work for this year has been put on indefinite hold. We're in trouble.

From today, March 17, 2008.


http://www.whitehouse.gov/news/releases/20...20080317-1.html

If you are George W. Bush, I guess you can make people feel better by lying about what’s going on.