Whatever Happened to Gridlock?

The bubble has arrived at government, and the excess liquidity is greasing government wheels.

The budget gets larger and larger. The more government spends in proportion, the more it feels that its actions relate to the real world, when in fact government actions continue to be irrelevant to the problems at hand.

cont.

There is a problem, however. They opened the floodgates: everywhere, especially in Europe, financial institutions and big enterprises are demanding bailouts and most governments are ready to comply or are already complying. In comparison with Katrina, Bush has nothing to fear this time–he’s already gone.
Post 11/4 questions: (a) if the sun doesn’t rise, what will the old bunch of doom-saying economists do? Most likely, they will join the chorus of pundits playing the race card. In addition, they will demand a free lunch for everybody.
(b) if the sun does rise, will a new bunch of doom-saying economists emerge? Yes, but it will last only a few months–until they realize that the new Emperor does not have any cloth.

The statistics from the Minneapolis Fed didn’t show that there is no problem.

It showed that the problem isn’t that banks have stopped lending to households and nonfinancial firms. And the problem isn’t that banks have stopped lending to all other banks. The problem isn’t that no one is buying no commerical paper. The problem isnt’ that credit markets are frozen.

It also shows that lending by the banking system has expanded tremendously, at least partially offsetting reductions in lending from other sectors.

With interest rate targetting, the Fed has automatically expanded reserves as needed to allow for this expansion. They lowered the Federal funds rate as well. However, actual federal funds transactions continue to run _below_ target.

Even if banks do increase their demand to hold reserves, the Federal Reserve “automatically” accomdates that demand when it targets interest rates. It automatically acts as lender of last resort to the banking system.

The banks aren’t lending to other banks story, is really, that money center banks are having trouble borrowing from other banks–particularly at interest rates that befits their exalted status as the most credit worthy institutions in the world (aside from the U.S. government.)

Looking at the volume figures on the Federal Funds market as well as the interest rates, it appears that puny weak banks (perhaps with plenty of FDIC insured deposits) are able to borrow at much lower rates than the big players. How could it be that First Federal of Charleston can borrow from other banks at a lower interest rate than the Citibank? Or perhaps that they are lending there money to some other puny, nobody bank from nowhere at a lower interest rate than they would charge Citibank. Or worse, they just tell Citibank–sorry, but now, we cannot accomodate your needs at this time.

The “credit markets” are frozen story, is that credit markets outside of the banks have shrunk in volume and the interest rates for the more risky loans are much higher than before.

There was been a huge increase in asset backed commercial paper, persumably due to Fed actions to support commercial paper markets. Daily new issues rapidly dropped from 55 billion a day to 40 billion a day early in the crisis. (This rapid drop being exaggrated, I presume, to be a drop to zero and hence, a “freeze.” Then, it recovered in a few days back to 55 bilion a day. Late in September, the new issues more or less doubled to 110 billion a day. However, by late October, it was dropping again back to close to 65 billion each day. The size of this market swamps the AA nonfinancial, AB nonfinancial, and even the financial commerical paper markets.

One paradoxical element of the Minneapolis Fed paper is that their point that most credit is provided outside the banking system is off target. While true, what we are seeing is a move from outside the banking system to the bamking system.

If there is “secret knowlege” that isn’t being shared, it would have to be that many banks are just as weak (insolvent) as those that have failed. While failure to honestly report their financial situations allows them to pretend to meet capital requirements, they really can’t. Expanding bank lending requires that they lie even harder.

The sound banks (if any) cannot expand fast enough to make up for the loss of the failed banks, much less the move from direct credit to bank credit. FDIC can’t reorganize banks fast enough to create “new” banks that are sound and that can expand.

Why the secret? Because admitting that all of these banks are failing to meet their capital requirements (and perhaps are insolvent) means that one must stop them from expanding lending, and actually, demand that they lend less. (If the law is to be enforced.)

It is my understanding that after the S&L crisis, forbearance was prohibited to regulators. If they are doing it anyway, wouldn’t that be a reason to panic?

I too would like to see more gridlock only because we cannot seem to elect a responsible government. I used to be a republican because I thought they were the more responsible of the two parties, but when they held the presidency and both houses of congress, they proved to be way too irresponsible and spent us into a hole that we may not be able to climb out of. Now we are about to throw the republicans out, as they deserve, but the democrats have a reputation of being far less responsible. It is enough to scare me and make me yearn for the good old days of gridlock.

You would think that a constitution that has a primary objective of limiting government would be enough, but it is obviously not. It takes rational voters that recognize and vote for true leaders, and as your book pointed out there are too few of these. We need to use the constitution and education to bring the size of government back to its proper level. Unfortunately, the way things are going, this will happen as a crisis rather than as a planned change. It will be like some of the other unsustainable bubbles that have burst recently, only this one will make the housing bubble look pretty tame.

Gridlock is only desired during times of prosperity. Unity is desired during times of crisis. Gridlock will make a comeback but it will take some time given the disaster of the last eight years.