Rates are up, decisively: mortgages are 6.375 percent, taken by the 10-year T-note blowout from five weeks in the four-sixties to 4.77 percent, very much at risk for further increases.

The end of the standoff between the recession-coming and all-OK camps was a three-act play, beginning with an exchange between former Fed Chair Alan Greenspan and Bill Gross, PIMCO’s bond impresario. Gross confessed that he had been wrong as a recession camper, and Greenspan described the three-year interest-rate outlook: “higher.”

Act II was a whispering affair, a conference of central bankers devoted to new-age financial-market risks. The net result of kabuki speeches: central bankers everywhere are aware that there is an ocean of cash sloshing around the world, creating mini-bubbles and suppressing reasonable assessment of risk in markets. These pinstripers cannot determine any better than the rest of us whether the cash is the result of the world getting rich on multilateral trade, or nouveau financial gadgets blinding everyone to real risk — but either way, there is no chance that the Fed will cut its rate while the system is already awash in liquidity.

Act III was yesterday’s news of a sustained drop in new applications for unemployment insurance to a 14-month low. Whatever damage housing is doing to the economy is still contained.

This whole psychology has changed very fast. I get the sense from the central bankers that they are uneasy, feeling behind — not behind some old-fashioned inflation curve, but that financial innovation has diminished central bank command of the financial system. The global economy displays every sign of unprecedented health, which does reduce many risks, but simultaneously introduces new ones, contraction giving way to exuberance. The near-total absence of risk premia — for time, credit, liquidity or correction — cannot last, yet Gross, the biggest bond manager extant, has publicly acknowledged his exhaustion with betting on restored premia.

Does that mean that risk just fell another notch, or increased?

We’re still learning about Fed Chair Ben Bernanke, and it’s a slow process because he doesn’t say much. So, listen harder.

Bernanke spoke on Tuesday about the issue of risk, and the kids’ fooling around with the financial chemistry set. His adopted rhetorical style is to list all the issues — in this case, all the potentially troublesome explosives — to let us know that he is paying attention, but offered not a single phrase of conclusion.

He was more forthcoming in his speech yesterday on subprime mortgages. He made it clear that he has no interest in a regulatory effort to intercept future abuses: “… Disclosure is the first line of defense. …” He is wrong, of course: disclosure won’t do a thing to stop my clients yesterday, who, despite two excellent government-sector jobs, are drowning in debt, have withdrawn and blown their retirement funds, and are absolutely determined to buy with nothing down a house that they cannot afford. Only tough-minded, regulation-based underwriting will defend that line.

He did not mention the Fed’s blood-and-thunder, formal supervisory guidance of September 2006, tightening standards for interest-only and negative-amortization loans, nor the fact that no entity anywhere has come into compliance. Withdrawn? Suspended? Forgotten?

Offensive to me, on page four of the subprime remarks Bernanke adopted the Wall Street line that mortgage misbehavior was the work of originating firms. Sure. Those poor, innocent investment bankers had no idea what they were buying. He is right that markets are “self-correcting” now, and it will be a while before the IBs and the rating agencies again conspire to ignore suicidal mortgage risk just because they can re-sell freshly painted derivative trash at fat prices.

However, if Bernanke does not grasp the role of Street suction in this mortgage episode — runaway IB demand for bad product — then I have very little faith that he has correctly measured other risks inherent to the nouveau sausage machines.

Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at lbarnes@boulderwest.com.


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