National Post

Washington puts the world on the ledge

Posted: September 29, 2008, 5:21 PM by Diane Francis

Greed, Canadian Politics, U.S. Politics, dysfunction

America’s political dysfunction and its economic crisis intersected catastrophically today in the House of Representatives which failed to pass a bailout for Wall Street’s mess.

At issue is President Bush’s lack of credibility. As commander in chief he exaggerated the threats in Iraq in order to launch a needless trillion-dollar invasion. Now, as America’s CEO, nobody’s listening to his description of the situation as "dire" and "dangerous" as he pulls the fire alarm over Wall Street’s mess.

To many, it’s a case of fool us once, shame on you. Fool us twice, Bush, shame on us.

Unfortunately, this time he may be right and a rescue is needed.

The contagion is, and will, spread. Five banks had to be propped up over the weekend and in Toronto financial sources tell me that three high-profile condo projects have had their financing pulled. The leveraged buyout of BCE and others are likely casualties. Trump’s empire is for sale.

A frightening warning came from Jim Cramer of CNBC’s "Mad Money" who set aside his usual manic tones and talked calmly about "the nuclear winter of the financial system" if nothing is done and possibly "20% to 30% unemployment".

The world is very nervous and should be. After all, 25% of the global GDP cannot be repaired or even managed due to the rigamordis in the American political system.

This morning five-year first mortgages in Canada jumped to nearly 8% while longer-term U.S. Treasury spreads fell to half the rate of inflation. Both signal stampedes to safety - lenders charging more for loans and investors fleeing into Treasuries no matter how puny the spreads.

At the same time, oil sands stocks were drubbed, due to an anticipated drop in oil demand in the looming recession as well as due to higher capital costs.

Bets by not necessarily smart money

In other words, bets are being placed based on fear, uncertainty and the likelihood of a recession. As mortgage rates go up and lenders pull in their horns, real estate values and other capital-intensive activities are damaged. And as money streams into the safe arms of U.S. Treasuries, driving down yields, the world economy is deprived of cash.

More huge commercial banking bailouts are rumored. There’s an estimated $42 trillion in toxic derivatives to be written down worldwide, about the size of the annual global GDP.

The possibility of a bailout fix in Washington appears unlikely, given that the vast majority face re-election in five weeks and spent nearly a week only to fail to agree. It’s even more unlikely given that both Presidential hopefuls agreed the bailout should be enacted.

Fortunately, there are other measures that can and will be undertaken:

Panic won’t happen if governments extend deposit insurance up to $2 million.

Central banks still have much they can do and they are trying to liquefy the system.

If this doesn’t work (Fed increased size of swaps with other central banks to $620 billion

from $290 billion), central banks will use moral suasion to get commercial banks to lend to one another.

Central banks can also chop rates in concert to stop the deflationary death spiral.

Main street’s best bet

Wise investors have stayed on the sidelines. My guess is that cash, gold and solid blue chips (not financials) will be okay but nothing will be pretty for many months.

And don’t panic. Remember the United States and other countries will act as "lenders of last resort" and pockets are unfathomably deep.

Politically, the only salvation will be if the ever-courteous Obama can convince the nasty, self-righteous McCain to really put "country first" and help work out another acceptable bipartisan compromise.

But don’t count on it.

by Diane Francis

Sep 29 2008

The moral of our times: Even when liars tell the truth, they are never believed. The liar will lie once, twice, and then perish when he tells the truth.

Who’s Afraid of a Big, Bad Bailout?

by John Mauldin

September 26, 2008

Who’s Afraid of a Big, Bad Bailout?

It’s the End of the World As We Know It

The TED Spread Flashes Trouble

The Transmission Mechanism

Let’s Make a Deal

Colorado, California, London, and Sweden

A tournament, a tournament, a tournament of lies.

Offer me solutions, offer me alternatives and I decline.

It’s the end of the world as we know it and I feel fine.

(It’s time I had some time alone.)

- Lyrics from R.E.M., 1987

Flying last Tuesday, overnight from Cape Town in South Africa to London, I read in the Financial Times that Republican Congressman Joe Barton of Texas was quoted as saying (this is from memory, so it is not exact) that he had difficulty voting for a bailout plan when none of his constituents could understand the need to bail out Wall Street, didn’t understand the problem, and were against spending $700 billion of taxpayer money to solve a crisis for a bunch of (rich) people who took a lot of risk and created the crisis. That is a sentiment that many of the Republican members of the House share.

As it happens, I know Joe. My office is in his congressional district. I sat on the Executive Committee for the Texas Republican Party representing much of the same district for eight years. This week, Thoughts from the Frontline will be an open letter to Joe, and through him to Congress, telling him what the real financial problem is and how it affects his district, helping explain the problem to his constituents , and explaining why he has to hold his nose with one hand and vote for a bailout with the other.

Just for the record, Joe has been in Congress for 24 years. He is the ranking Republican on the Energy and Commerce Committee, which is one of the three most important committees and is usually considered in the top five of Republican House leadership. He is quite conservative and has been a very good and effective congressman. I have known Joe for a long time and consider him a friend. He has been my Congressman at times, depending on where they draw the line. I called his senior aide and asked him how the phone calls were going. It is at least ten to one against supporting this bill, and that is probably typical of the phones all across this country. People are angry, and with real justification. And watching the debates, it reminds us that one should never look at how sausages and laws are made. It is a very messy process.

by Dothemath

Sep 29 2008

5:33 PM "There’s an estimated $42 trillion in toxic derivatives to be written down worldwide"

We need to clear up the outstanding derivatives and change the way they are accounted for but you need to remember that derivatives are a zero sum game: if one side loses a dollar the other side to the transaction gains a dollar.