The US financial system shows signs of imploding

 

Bear Stearns was sold to JP Morgan in an all stock transaction valuation at a pitiful $2 a share (having traded at $30 on Friday) - a scenario that spooked global market early this morning, with Asian markets hitting a two-months low. The Nikkei was down 4.2%, as the US financial systems shows concrete signs of imploding.

 

The Fed made the most dramatic expansion of its lending facilities yet, when it extended its liquidity provisions to securities dealers, i.e. non-banks, while simultaneously cutting the emergency discount rate from 3.5% to 3.25%. There will be an emergency meeting in the White House with Bush, Bernanke and Paulson in attendance later today. This week, possibly today, a Fed rate cut of up 100bp is expected. The consensus among economists is now that monetary policy is largely ineffective in influencing this crisis, or in providing a cushion to the real economy. The real question is now not whether the government is going to bail out the financial system, but on, and on which terms.

 

There was also frenzied speculation about which investment bank will be next to go under, which much frenzied speculation surrounding Lehman Brothers, despite the fact that the managed to secure an $2bn lifeline in terms of short-term credit last week.

 

On the macro side, a worrying piece of news is that 2016 oil futures are selling now over $100, which means that the market has shifted its expectations about the long-term price of oil. Previously the rise in the oil price was always regarded as a temporary aberration. For details on this story, see Naked Capitalism. The FT has an interesting story this morning quoting Morgan Stanley's Joachim Fels who says that the Fed will this week start the next inflationary credit cycle. Mr Fels is very bullish on the prospects for economic growth and asset prices in 2009, with a significant rise in inflation.

 

 

Carmen Reinhart on the subprime crisis

Carmen Reinhart has an excellent post on Vox, in which she says that we only just started to feel the pain. Asset price drops – including housing – are common markers in all the big banking crises over the past 30 years. GDP declines after such crises were both large (-2% on average) and protracted (2 years to return to trend); in the 5 biggest crises, the numbers were -5% and 3 years. Her column, based a testimony to the Congress, picks through the causes and consequences. It argues that when it comes to ‘cures,’ it would be far better to get the job done right than get the job done quickly.

 

 

 

Why monetary policy won't work

Paul Krugman had an excellent in the New York Times on Friday, explaining in layman's terms that monetary policy, which normally works like magic, can achieve very little in this particular crisis. He says the Fed is trying a whole series of unorthodox recipes, but it may soon come to the end of that line. So this crisis will play out. He concludes that the political priority for the next president will have to decide which parts of the financial system to bail out, and how to explain this to an angry crowd.

 

 

US Blog Watch

The best way to keep abreast of the US side of the credit crisis and the impact of the US economy are a handful of excellent American blogs. Among our favourites are Yves Smith's Naked Capitalism, Calculated Risk, Barry Ritholtz' The Big Picture, James Hamilton's Econbrowser, Paul Krugman's Blog, and Steve Waldman's Inferfluidity - from all of which we have been posting some highlights in recent weeks. There is tons of analysis on Bear Stearns, why it went belly-up, and why the Fed was wrong to rescue the bank. (The bloggers are mostly critical of the Fed and the US administration). Worth reading this morning Econbrowser's account that Martin Feldstein of Harvard and president of NBER, said the US was already in recession, that this could be the worst recession since the second world war, and that monetary policy is going to make no difference (this is now becoming a consensus). Just how personal blog scene can become was in evidence when Paul Krugman posted a short entry: "Do not send the man who declared, back in April 2007, that the housing correction had reached bottom and that the subprime problem was “largely contained” to all the Sunday talk shows to declare that “our financial institutions, our banks and investments banks are very strong. It just feeds the panic." He was referring to John Lipsky of the IMF.

 

 

The only thing going for us

It is sometimes nice to see a familiar story told by somebody else from a completely different perspective. If you thought the strong euro was a bad thing that required urgent policy intervention on the global scale, you should read Paul Krugman's latest entry. He says the dollar at $1.55 to the euro is the only thing "we've got going for us". Well, congratulations!

 

 

A reminder for Sarkozy

Sarkozy’s governing majority suffered some heavy losses on Sunday’s second round of local election. Socialists maintained or regained the majority of larger cities, reports Le Monde. Socialists won traditional strongholds for the right such as Toulouse, Reims, Caen or Metz, made a comeback in Strasbourg and defeated education minister Xavier Darcos in Perigueux. The UMP reconquered only one city – Calais- and saved the second largest city in France – Marseille. Even the centrist Francois Bayrou lost out to a Socialist. CSF Polls suggest that 49.5% voted for the left and 47.5% for the right. Francois Fillon said that it would be inappropriate to deduct any lessons for national policy but Socialists already call on the government to reorient its politics

 

Wolfgang Munchau on Sarkozy

In his FT column, Wolfgang Munchau says Sarkozy screwed up his economic reform agenda, and he has effectively one last chance left to reform it. First of all he needs to ditch the ludicrous Attali Commission report, with its 316 proposals, focusing on anything form Charles de Gaulle Airport to taxi liberalisation, and start to prioritise on labour market, and product markets, which remain hopelessly overregulated, thanks large to protectionism inside Mr Sarkozy's own party.

 

 

A metric for measuring change in Italian politics

Paolo Balduzzi and Massimo Bordignon, writing in Lavoce took the age of MPs and the distribution of sexesa as a metric to measure whether the two large party's cry for change has any credibility. Judging from the candidates for the next Parliament, they calculate that there will more women, in particular in the unlikely event of a win by Veltroni's Democrats. But there is no real movement in terms of age on average, despite the arrival of more young deputies, balanced out by a likely increase in older deputies.

 

 

What does the FT poll on the European presidency tell us?

The FT has carried out a poll in big European states, which suggests that there is no sufficient support for Jean-Claude Juncker and Anders Fogh Rasmussen, apparently the two frontrunners for the job of European president. In this poll, they receive the support of only some 1 or 2 per cent of those asked, while Tony Blair and Angela Merkel received a multiplicity of the number of votes. The FT concludes that from this poll it is evident that Europeans want a big-hitter politician, and not some non-entity. But we wonder what these numbers are really telling us. Since Mr Rasmussen is largely unknown outside Denmark, it would be surprising if Germans and Frenchmen supported him if confronted cold-turkey by an opinion pollster. In other words, this poll may tell us that famous people are more famous than not-so-famous people.

 

 

Finnish Inflation watch

Finnish consumer prices rose by 3.7% in February, after 3.8% in January, reports Newsroom Finland. "Consumer prices were pushed up most in the year by risen cost of housing: housing loan interest rates, prices of owner-occupied dwellings and real estate, as well as rents and the price of electricity went up,"

 

 

 

 

Spain's coming economic and financial crisis

Edward Hugh has a long and very succinct analysis in a Fistful of Euros about the coming economic and finanicial crisis in Spain. He discusses Wolfgang Munchau's recent FT Oped on the same subject, broadly agreeing awith the principal conclusion that the country is facing very hard times, but going beyond Munchau's analysis by focusing on the fragility of the financial sector, to the extent that this might not only be a problem for the country itself, but the euro area as a whole. Excellent, and very detailed analysis.

 

 

 

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