In thin holiday markets, The Crunch hasn’t stolen Christmas, just given a mixed blessing: Mortgages fell from 6.25 percent to 6 percent in one week as fear of credit default returned and money raced to quality for safety.
Expectation of economic slowdown has spread during December, now nearly unanimous, modified by disagreement about extent and duration, and total chaos at the subject of what to do about it. Inflation worriers say the Fed should stay put, just ride it out, joined by believers in Mr. Market. The interveners are mostly backward-looking: in the lead, how to prevent foreclosures. Too late for that.
The worst idea came from my rapidly aging hero, former Fed Chairman Alan Greenspan: just give money to the foreclosed households. Pardon? How would you separate the unlucky and imprudent from the deserving — and from the proud souls still making payments they cannot afford? Other ideas that won’t work: a tax cut, or further cuts in the Fed’s rate. They will soften the landing, but not stop the fall.
I promised last week a Happy Holiday fix for The Crunch. It begins by stating the problem. We do not have a traditional problem with aggregate demand, as in a recession following a Fed-whacking of an overheated economy. We also do not have one of the intractable problems of Christmases Past: the horrifying, 20-year ramp up in inflation that took another 20 years of suppressed growth and two recessions to fix.
Instead we have a wreck in the belly of the financial system: Credit losses are so large that if recognized — written off — would bankrupt the whole show. That is very good news because we have been in this pickle before, large- and small-scale; have all the knowledge and tools developed in prior pickles; and the tools can work overnight.
The only impediment: embarrassment. And some frustrated anger. Fix as follows:
1. The best way to reduce the foreclosures ahead is to secure an adequate supply of mortgage credit. The Treasury Secretary should stride to a microphone to say: “The Treasury stands behind Fannie Mae and Freddie Mac in any amounts necessary, as the economy needs their services for the original purpose at Fannie’s founding in the Depression. They will not grow their portfolios, will act as guarantors for fee, and will apply traditionally tough underwriting standards. They may guarantee regionally appropriate loan balances not to exceed one million.”
2. The bailout: a Chrysler/S&L Resolution Trust hybrid. This is the hard part, but only politically. “We (nouveau RTC) will take bad assets (crippled, opaque and illiquid; CDOs, SIVs, ABCP…) and in exchange will take equity positions in those institutions commensurate with bad-asset relief. We will manage these assets for a period of years to prevent fire sale and to maximize return to the institutions and the taxpayer. Given time and recovered markets, as we recover value we will gradually return equity to the institutions involved. If recovery is insufficient to retire all equity, we will sell the equity assets in the open market in the best interests of the taxpayer.”
We need these institutions to start making new loans right now, and bailout beats selling them to China, Abu Dhabi and Singapore.
What are the chances for effective intervention? Yesterday, President Bush was asked about financial problems, and said (White House transcript): “My attitude is, is that Wall Street needs to put all their — put it all out there for everybody to see. They need to have the — off-balance sheet this and put out there for investors to take a look at. And if there’s some write-downs to be done, they need to do it now.”
I have some hope that Bush has a better handle on accounting than on geography and non-Texas cultures. However, if he says that write-downs should proceed, he either has not been briefed, has not been briefed honestly, or didn’t quite get the briefing.
From here, it’s up to the briefers and the briefee. If we’re lucky, some financial accident will cattle-prod ’em into action before the recession.
Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at firstname.lastname@example.org.