A big run to Treasurys has pulled mortgage rates down to 6.25 percent, but the spread to the 3.58 percent 10-year T-note remains immense.

Three forces have knocked all Treasury yields down a quarter percent in four days. First, money scrambling to get out of commodities and the euro has to go somewhere, and the first preference of the foreign investor is Treasurys.

A big run to Treasurys has pulled mortgage rates down to 6.25 percent, but the spread to the 3.58 percent 10-year T-note remains immense.

Three forces have knocked all Treasury yields down a quarter percent in four days. First, money scrambling to get out of commodities and the euro has to buy some dollar-denominated security, and the first preference of the foreign investor is Treasurys. Second, the oil-commodity reversal and onset of global recession will obviously break inflation — different places, different timing, but inflation as fear No. 1 has been replaced by asset deflation. Which leads to force three: plain, panicked flight to quality.

The economic data were tertiary to the market moves themselves, above, and to a pair of speeches. Today’s double-the-forecast loss of 142,000 jobs in August (including revisions), yesterday’s news of weekly unemployment claims at a sustained 445,000, sub-breakeven purchasing managers’ surveys, another 15.5 percent clunk in car sales … more confirmation than news.

If, two months ago, you asked any stock-market cheerleader what the Dow would do if oil suddenly dropped to $106, natural gas to $7, the euro to $1.42, sterling to $1.76, you’d have gotten, "To infinity, and beyond!" Instead, in the best marker of our deepening predicament, stocks are testing their lows of the year and this cycle. Break Dow 11,000/S&P 1,220 and the run to Treasurys will stampede — maybe, just maybe enough to pull mortgages into the fives.

The speeches. On Wednesday, Eric Rosengren, president of the Boston Fed (copy and great charts at www.bos.frb.org), delivered a market-moving beauty.

In any difficult economic moment misunderstanding is easy, compounded by desires to settle old scores. In the last year, an especially unfortunate group of regional Fed presidents and their boards have chosen to ignore the credit crunch afflicting big banks but not their country colleagues, and to overweight the inflation fight, no matter what the consequences. The rogue’s gallery: Fisher at Dallas, Plosser at Philadelphia, Lacker at Richmond, Hoenig at Kansas City, Bullard at St. Louis, Lockhart at Atlanta. At the Aug. 5 Fed meeting, three regionals demanded a hike in the discount rate, trying to force a Fed funds rise, or a commitment to do so soon.

Country bankers are funded by retail deposits, not Libor-based wholesale. Country banks have none of the explosive "structured-finance" devices that have ruined the big guys. Sure, some dance with the development-loan devil, but most country bankers think an exciting loan is 50 percent loan-to-value on a fully leased medical building. All country bankers want to get even with the New York Gucci brigade.

Rosengren, supported by Yellen at San Francisco, blew to smithereens the fantasy of the country stiffs. Others have made the points, but not from a Fed podium: The crunch has cancelled the Fed’s rate cuts. The crunch did not take full form until this summer, and the crunch is deteriorating in a reinforcing spiral. Most striking, the speech has a dead end: not the slightest suggestion of what might be done, indicating to me that the Fed is out of options.

On Thursday, Bill Gross’s flowery version of the same song (www.pimco.com) contributed a couple of hundred points to the Dow dive. Gross added one stanza: Get the Treasury involved, or else.

He is right, of course, but how should the Treasury deploy? And the Congress and taxpayer? Paulson and Bush are silent, but bailout proposals will shortly be a free-fire zone, election or no — the duck to Crawford, Texas, intercepted by events.

Lefties will want stimulus, job and infrastructure cash-hosing. Righties will want moral hazard, market solutions, and beneficial suffering. Wrong and wrong. The skilled and alert professional fire brigade (Feldstein, Summers … dozens) is confused and scattered, unsure how to deploy full force. The longer this goes, the less room for error. We cannot tolerate another clean miss like the housing bill.

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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