Financial markets have quieted, more from exhaustion than resolution of the underlying credit panic. Agency mortgages never made it below 6.5 percent and are rising slightly now, and vanilla jumbos are still above 7 percent but easily available.
Economy-watching is frozen by time lag. We won’t get the first August data for another 10 days, and it’s hard to believe that credit-crunch damage will show in employment data so quickly. August home-sales are closing on contracts written June-July, and a substantial decline in activity won’t appear until September sales are reported in October. Given calm markets, and absent a weak-side surprise in August data, the Fed won’t do any rate-cutting before its Sept. 18 meeting.
The discount-window circus has been embarrassing.
Federal Reserve Chairman Ben Bernanke in ringmaster’s red coat and top hat, whip in one hand and pistol in the other, stood next to the flaming hoop and ordered the beasts to jump through. The crowd gasped in anticipation … and nothing moved. Again the order, snap of whip … no lions, no tigers, no bears. Again … still nothing. Not even a Chihuahua.
Finally, yesterday, four bored elephants ambled through the hoop to spare the impresario further laughter from the hyenas in the bond market.
The discount window is open only to AAA collateral. No one in the banking system has had any trouble selling or borrowing against these securities. The four big banks that borrowed $2 billion yesterday did not need the money and acted to cover the ridiculous outcome of the grand gesture: prior discount-window borrowings this week had been at the low end of normal, which itself is low.
The troubled assets out there are credit derivative “tranches.” The collateralized debt obligation (CDO), each an aggregation of some good-quality IOUs and some floor-sweepings, was the darling of finance in 2000-07. In a mathematical miracle, the tranches of each CDO were worth greatly more than the sum of the IOU parts. Today, their market value and credit is greatly less than the sum.
If you attempt to present to the Fed’s discount-window Tranche #13-b from Acme Immensely Prudent Can’t Miss Series Eleven, you are out of luck. All of this talk about “liquidity trouble” is misplaced: the banking system is as awash in liquidity as the guy in the drunk-driving commercial who rolls down his window and releases a flood of gin and olives. The CDO tranches are illiquid because nobody knows what they’re worth; this is a credit problem, not a liquidity problem.
Somehow, some way, these tranches, all $5 trillion- or $10 trillion-worth, must be re-underwritten, re-rated, or evaluated and guaranteed in some form. Until then, the owners and the owners’ bankers are impaired or imperiled, and worse — much worse — cannot buy new IOUs, the cause of our current mortgage starvation.
Big talk, huh? How are you gonna do that? A bailout?
It’s been done before. In my ill-spent youth, I and many others were sent to S&Ls in 1985-87 by regulators to value loan portfolios. One senior consultant, two staff, a billion-dollar S&L, no great precision, just “get close” — in three weeks, we knew.
Before deploying a new army like that one, we have to find the deals. All of them: their hidden and scattered status is part of this problem. To do that, wake up the Fed. I don’t know if we need electrodes or explosives to get Bernanke into the real world, but once he’s here this job is a snap. In the old days, one of the most feared events on Wall Street was an “information call” from the Fed.
Don’t want to talk? Stonewall with privacy concerns and legalisms? This was the logjam breaker: “If you will not assist us, we will advise our member banks that your firm presents a hazard to the system, and your access to the system will close. Today.”
The investment banks and rating agencies have the records of the derivatives. They are not the White House, after all. Google has the phone numbers. This credit crunch is a flat-out emergency, and it’s time the authorities acted accordingly.
Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at email@example.com.