The panic is back
The global financial crisis continues to dominate the European press this morning. Some newspaper reported speculatively that the Paulson rescue plan had succeeded to calm financial markets, but that judgement is now totally reversed. Last night, the panic returned in a big way, as the financial markets started to have second thoughts about the package, about its long-term economic effects on the US, and because the bill was gridlocked in Congress yesterday. The markets reacted violently last night, with the S&P down 3.8%, and the dollar up 2.8% against the euro at $1.48.
But the real shocker was the 24.3% rise in the oil price, the largest since crude began trading on the New York Mercantile Exchange in 1984. The FT reports that short-sellers had to close their short positions ahead of the expiry of the current benchmark futures contract. Furthermore, the latest data showed weaker supplies from Mexico, Nigeria, Saudi Arabia, and rising imports in China.
Another very alarming piece of news is an estimated $200bn net outflow from money market accounts in the US last week, as investors no longer regard a money market account as a safe bet. And in London, there are news reports that hedge funds could see an unprecedented level of cash pulled out by investors this quarter, as they faced huge losses from last week’s crash. Morgan Stanley, meanwhile, is turning to Japan for new equity capital.
The G7, meanwhile, expressed sympathy and support, but made it clear that the US is essentially alone. Neither France nor Germany intend to create toxic asset fund on lines of Mr Paulson’s plan. The FT writes that there may be a joint Franco-German statement or initiative coming soon, following a meeting of officials.
Meanwhile, senate banking chairman Chris Dodd has offered a vastly different rescue plan that the Bush administration, in which the government would take an equity stake, equivalent to the purchase price of the assets bought. And Paulson will be kept on a significantly shorter leech than in his own proposals, where he could essentially do whatever he wanted. See Naked Capitalism for more details.
Paul Krugman says the Dodd is a big improvement over Paulson’s original plan. He says the key point is the equity participation (there were reports that Paulson apparently accepts this now). He said Paulson overreached, he had been too arrogant and totally failed to explain how this plan should work.
Equity is now the big issue in this debate. Charles Calomiris writes in Vox that instead of buying the toxic assets, the US government should buy preferred stock capital in ailing banks that could raise matching private sector equity. This would avoid the intractable problems of how the government should value the toxic assets and directly address the banks immediate problem – a lack of bank capital.
Strauss-Kahn on what needs to be done now
Dominique Strauss Kahn makes a similar point in the FT. He writes policy makers need to do essentially three things. Provide sufficient liquidity, purchase distressed assets, and inject capital into the financial institutions. He also said the impact on Europe is significant, and will last well into next year.
Now we are really worried: Moodies confirms US AAA-rating
Moody’s yesterday confirmed the US AAA-rating citing the country’s “economic and financial resilience, flexible and competent policy-making, and a high level of balance-sheet flexibility.” Isn’t this what they used to say about subprime mortgage debt? The Wall Street Journal economics blog has an entry that manages the remarkable feat to tell this story without any sarcasm whatsoever.
New York to regulate CDS
The state of New York has decided that credit default swaps are insurance after all, and wants to bring the market under the control of its insurance regulators. The move has provoked an outcry by the International Swaps and Derivative Association, who say that this is potentially dangerous, as regulation might destabilise the $62 trillion market.
David Walker on parallels between subprime and US debt
David Walker, a former Comptroller General of the US, makes comparisons between the subprime crisis and the state of US public finances. Writing in the FT, he says one of those parallels relates to the disconnect between those who benefit from imprudent practices and those who pay the price. That is the same with the rise in US indebtedness, whose costs are born by future taxpayers. He does not mention the Paulson plan, but the implication is obvious.
Jean Quatremer on Belgian politics
Jean Quatremer has a very good analysis in his blog about Belgium politics, following the decision by the separatist NV-A party to leave the government, thereby depriving PM Yves Letermes of a majority. The main point Quatremer makes is that the decision may actually strengthen Leterme, and ironically weaken the Francophone. With regional elections only nine months away, there is now a prospect of a hard core Flemish independence majority, unless the Francophones were to agree to a deal with Leterme on a confederation. Leterme advocates a solution under which most policy areas are devolved to the two regions, including social policy. The separatists are looking for a far more extreme separation.
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