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Yesterday I asked for links to any articles explaining how bad things could get if the $700 billion bailout doesn't happen. The best one I saw was this:

http://www.nytimes.com/2008/10/01/business/economy/01leonhardt.html?_r=1&oref=slogin


I like the clarity of that explanation, but it seems incomplete. For one thing, there is no discussion of the positive aspects of a financial calamity, for example:

- Rent gets cheaper when housing prices fall. That's a redistribution of wealth from the rich to the poor.

- While it will be harder to get a mortgage for an $800K house, that house is only worth $500K now. That should make it a lot easier to qualify.

- Gas at $4 per gallon is a necessary condition for creating the next economic boom: renewable energy and green technology.

- A good recession now and then is necessary to purge the economy of things that need purging.

- College students are starting to choose technology majors over finance majors, probably because of the financial headlines, and this bodes well for the future.

I also wonder if the Internet will take some of the steam out of a credit problem. The problem is a lack of credit, not a lack of people who want to borrow, or a lack of money to lend. When lending is constrained by geography, you might find that your local bank is unwilling to help you. But with the Internet, it seems we could always find a match between a lender and a borrower, at some interest rate. The people who have money to lend aren't going to be keen on the stock market or real estate for awhile, so there should be plenty of capital for private lending at attractive rates. Arguably, banks are an anachronism anyway. This might speed up the inevitable.

I own some real estate (an empty lot) I have been trying to sell. Every recent offer on the property has included a component of seller financing. I expect to see a lot more of that if bank lending dries up.

And allow me to leave you with a pinch of optimism, just because I can. I call it Adams' Rule of Obvious Calamities. It states that any calamity that is foreseeable by the public at large won't turn out so bad after all. The best recent example was the Y2K problem, where computers worldwide were expected to fail. It seemed impossible that those issues could be resolved in time, but they were.

The problems that hit hardest are the ones that sneak up on you. Our current financial problem is big, but I expect a recession to be mild and even useful, precisely because so much human energy and attention is being focused on the fix.

 
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Oct 19, 2008
Marriner S. Eccles, was the Chairman of the Federal Reserve from 1934 1948

In his 1951 memoir Beckoning Frontiers, Eccles detailed what he believed caused the Great Depression.
Our current situation is eerily similar.

Eccles wrote:

"As mass production has to be accompanied by mass consumption, mass consumption, in turn, implies a distribution of wealth — not of existing wealth, but of wealth as it is currently produced — to provide men with buying power equal to the amount of goods and services offered by the nations economic machinery.

Instead of achieving that kind of distribution, a giant suction pump had by 1929-30 drawn into a few hands an increasing portion of currently produced wealth. This served them as capital accumulations. But by taking purchasing power out of the hands of mass consumers, the savers denied to themselves the kind of effective demand for their products that would justify a reinvestment of their capital accumulations in new plants. In consequence, as in a poker game where the chips were concentrated in fewer and fewer hands, the other fellows could stay in the game only by borrowing. When their credit ran out, the game stopped.
 
 
Oct 13, 2008
credit problems are not the big, real problem. ever see one of those car sales where somebodys famous car sell for a holly mackerel sum. well some of the time no real money passes from hand to hand. rings pass the cars around raising the value. then they sell it to some dentist looking for a investment. that's whats been going on at wall st. for many years. at the end it just a old car. and that's its real value. the bigger fool has always been the key on wall st.
 
 
Oct 13, 2008
credit problems are not the big, real problem. ever see one of those car sales where somebodys famous car sell for a holly mackerel sum. well some of the time no real money passes from hand to hand. rings pass the cars around raising the value. then they sell it to some dentist looking for a investment. that's whats been going on at wall st. for many years. at the end it just a old car. and that's its real value. the bigger fool has always been the key on wall st.
 
 
Oct 10, 2008
Your Law of Obvious Calamities is supported by a statement Jason Zwieg made in a recent article about the likelihood of a depression. He said "Depressions start not when lots of people are worried about them, as we have today, but when no one is worried about them, as in 1929."

 
 
Oct 2, 2008
"And allow me to leave you with a pinch of optimism, just because I can. I call it Adams' Rule of Obvious Calamities. It states that any calamity that is foreseeable by the public at large won't turn out so bad after all. The best recent example was the Y2K problem, where computers worldwide were expected to fail. It seemed impossible that those issues could be resolved in time, but they were." - or as my Grandfather used to say:

"Things you worry about most never happen". It's amazing how often that's right.
 
 
Oct 2, 2008
Well, it sounds like they will pass the bailout bill, so it's all moot.

But I can't help thinking that when I really boil this down, it amounts to "let's borrow more money to make sure the good times keep rolling". We are borrowing this money against our kid's future, nobody should kid themselves about that reality.

I'm convinced that we'll look back to this point-in-time with shame, down the road, with additional years and decades of debt spending and having never fundamentally changed our ways as a society, and our kids will be furious for an inheritance of crippling debt.

History will show this as a point where we could have re-assessed things, and make real behavioral changes, and chose not to.

I know that's an oversimplification, but it's the nagging feeling I'm left with. Credit *shouldn't* be so easy. People with $40K/yr jobs *shouldn't* be driving new $30K cars. People *shouldn't* be able to be walk into $500K houses with $5K down payments. Small businesses *shouldn't* have access to credit lines amounting to many times their annual revenue. Students *shouldn't* be able (or expected) to assume $40-80K in school debt to pay for outrageously overpriced college tuitions. People *shouldn't* be able to get credit cards for 10s of thousands of unsecured credit by mailing back out a 30 line application. We've come to simply accept this.

A friend made the point that we shouldn't have been able to buy our own houses, way back when, with so little down - and I recalled how surprised I was when I bought my first house how easy it was to buy a house for so much money, with so little in my pocket. And I remembered my mild surprise how easy it was to spend $30K for my first new car.

My fear for this bailout is that it lets the good times continue (for now), or at least lessens the pain, pushes the pain into the future, and we learn very little.

By the way, I don't kid myself that either presidential candidate will have any lasting influence making change to our collective irresponsible behavior. I feel like this is an opportunity lost. History will not be kind to our generation of Americans.
 
 
Oct 2, 2008
Here is the only way to fix the credit crisis, if these instructions aren't followed exactly, the problem won't be fixed:

1. Anyone who currently owes more than 80% of the value of their house as of 10/1/2008, is eligable for a new loan from the government for the full amount they owe.
2. The government will buy these entire loans at discount from the bank and reset them to 0.00% loans... yes that's right, zero percent.
3. Homeowners will make one payment... far less than their original payment... to the government for the full value they owe at 0% until their balance reaches 80% of their home's value as of 10/1/2008. At that time, they would resume their normal amoritization schedule with their original loan terms.
4. When you sell one of the houses that has taken advantage of this type of loan, you may be required to pay a tax on the profit only to help recover some costs.

Why this works? The main problem is the decline in housing prices coupled with the increase in monthly payments. Suddenly many people owe thousands of dollars more than they could even hope to sell their home for, so they take the easy way out and simply forclose, go bankrupt, and they don't have to pay ever increasing payments for an asset that is essentially of negative value to them. This will bring down the financed value of these properties to the sane level of 80%. Struggling homeowners will see a dramatic decrease in payment size and would be crazy not to take part in 0.00 rates, which is 100% principle payments. This will suck up some of the excess inventory on the market as well. Then, these loans will presumeably reach 80% equity all at different times, thus avoiding a sudden influx of homes on the market at once.

This kind of approach goes directly to the people, and helps them out while giving a chance for banks to get these troubled loans off of their books. The real problem is not the sub-prime loans, but in reality loans in which there is no equity in the home, and thus it is a liability for anyone who owns it, not an asset. This is a way to allow homeowners to gain equity in their homes... subprime or not. But of course Washington is run by lobbyists and campaing contributors, so this kind of approach will never happen.
 
 
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Oct 2, 2008
To rdbarton@gmail.com: that's what happens when you become a boring old fart like me ;-) But I wasn't responding to Scott's words - I don't know anything about economics or other relevant stuff, but I guess it'll blow over. There'll still be banks, there'll still be investment people, and there'll still be people who get huge bonuses for bad management, bad business decisions, and greed. I was responding (albeit off-topic, but Scott did introduce it) to the posters who seemed to be saying that the Y2K problem was a hoax. If they think that, then why should I have any faith in their knowledge of economics?

By the way, Scott - please keep up the excellent work. It makes me laugh, which is always a good deal :-)
 
 
Oct 2, 2008
I suggest you invest in bikes. Giant sold 460,000 bikes last month alone, including one to me. It's the way forward.
 
 
Oct 1, 2008
Scott, you have a point that if we see something coming, it will not be as bad. A dip in the stock market or a recession in of itself is a temporary problem, just as winter causes bears to hibernate and squirrells to store up nuts.

Unfortunately, we have the exact same economic and social conditions as Germany had in the Weimar Republic after World War I. A deeply divided democracy, huge debt, hyperinflation that ate up savings and a willingness to elect a person based on looks, speaking ability and ethnicity.

The internet has the ability to spread the word about oppression and tyrrany at about the same speed as the telegraph and the radio did in ages back. The internet is basically the ability to upload and download html documents for anyone who can write in html language. I am not sure if it is our savior.
 
 
Oct 1, 2008
My, as a society we are all so reactive, aren't we? One really rotten day on Wall Street and we're begging Congress to do the right thing and fix the bailout so we can stand to swallow. The markets correct and we all think, hey - this isn't the calamity they said it would be - I think we'll be allright.
Trouble is, the gov't. is getting ready to loot the American taxpayer over and over again to give the money to the foreign !$%*!$%* that bought into our ponzi scheme and are now so pissed that they won't lend us another dime if we don't give them their money back. True, we're too far out on the limb to let that happen.
And this bailout isn't for 700B, it's for whatever amount the gov't. wants to take whenever they want to take it, forever more, so they can give it to the investment !$%*!$%* whenever its required to keep its nose above water. And somehow, we're all acting like it's okay.
Isn't that the definition of fascism? Isn't this such a fundamental change to our government that we should all be rioting in the streets to protect the rights of our kids to grow up in a republic?
Guess I'm just overreacting, eh? Phew. Because otherwise, everyone would be much more upset.
 
 
Oct 1, 2008
To lejosi, yes, thank you for all you did to save us from Y2K and for your three boring posts letting us know that you saved us.

If you have forgotten what the article said, "The best recent example was the Y2K problem, where computers worldwide were expected to fail. It seemed impossible that those issues could be resolved in time, but they were."

Computers were going to fail, but the issues were resolved. We all understand what the issue was and how big of a deal it could have been. But it was fixed. Mr. Adams' point was that people literally though they were going to die during Y2K, that food sources would go away, and society would fall apart, but it ended up being a nonissue. It was a nonissue because we (you) worked hard to resolve the problem. Now, we have a big problem in front of us, but in the end it will likely turn out well (or at least not as bad as we are expecting it to be).
 
 
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Oct 1, 2008
The problem that occurs without the bailout plan is that the government spends even more. It's already committed to funding failed banks via the FDIC. Paulson wants the right to spend money in order to avert bank failures that might be even more expensive.

http://news.yahoo.com/s/time/withoutabailoutplanwhatwillthecostbe
 
 
Oct 1, 2008
Scott,
Are you familiar with Prosper.com? This is exactly the type of "internet" loans you are talking about. Prosper.com is US-only, but there are similar ones in the UK as well. The idea is simple. Loans are put up for bid, and lenders bid some portion of the amount at a given interest rate, auction style, so that the lowest interest rate bids win. For example, a request for $5000 might get 120 bids of $50 from 120 different people at different rates, perhaps ranging from 16 to 22 percent. The lowest 100 bids would be added up to form the $5000 balance, Prosper.com takes their cut, and sends the balance to the borrower. Each month's repayment would then be split into 100 pieces and paid to each lender. Of course, just like lending to your friends and family, there is no guarantee the borrowers will pay it back, so there is a chance of losing money as well, just like a real bank.
-- Tony
 
 
Oct 1, 2008
I could easily have misunderstood, but there seemed to be two odd statements in Scott's post.

My recent reading on the fiscal system made it seem to me that it's essentially impossible for a bank to not have "money to lend", because the bank invents the money at the moment of the creation of the loan. So that is never going to be the problem. The problem is the rather abstract chain of events that happens when banks do this in a way that causes more than the necessary foreclosure rate.

So banks are utterly vital to the system as it stands, and can't really be called an anachronism. They are the source of new money. This whole debacle does highlight the crazy aspects of our fiscal system, however. Maybe the whole thing is an anachronism.
 
 
Oct 1, 2008
You are right. It is not as bad as people think. A great deal of the current financial disruption today is overblown by a sensationalist media who are more interested in spreading doom and gloom. This keeps their viewership and readership up so that they can sell more advertising. You think they would have enough with the long overblown election coverage.

Sure there is a mess in the mortgage sector because of the greed of Wall Street, bankers, lenders, speculators other modern day robber barons. These miscreants are always with us. But the sky is not falling.

Most of middle class Americas are living the good life, much better than their parents ever were. Baby boomers approaching retirement with substantial safe assets and are living large. If there is financial hurt in the bulk of the middle class it is that they will have to delay spending on more goodies they can not for now afford. Their kids and grandkids will have to go to a junior college for the first two years rather than State University or prestigeus private school.

They will have to hold off awhile buying that new Beemer or big RV and/or taking a 30 day cruise to Europe. They will have to cut back on remodeling the beach or mountain second home. Sure there are those that will be severely affected financially because of the current shenanigans but this country is no where near a great depression or financial panic of the 30s.

This current financial boondoggle is all part of a self-generating cycle that has been going on in this country since the American Revolution. The new President will be blindsided with their own new crises from the first days in office.

The beat goes on.


 
 
Oct 1, 2008
Scott, you say...

- Rent gets cheaper when housing prices fall. That's a redistribution of wealth from the rich to the poor.

How is that a redistribution of wealth? Owners assume risk as well as reward. Renters pay as they go. The value of properties fall, and renters pay according to value. (Not that the market will work quite that smoothly).

Oh yeah, and the inferred premise that rental property owners are wealthy and renters are poor is invalid. Sure, that happens often, but not so much that the remainder can be dismissed as statistically insignificant.
 
 
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Oct 1, 2008
and one more: your control system (for the building's lifts, the supertanker, the nuclear power plant) was last serviced on 02 December 1999. It's now 02 January 2000. Difference in time 99 years. Stop the system.
 
 
Oct 1, 2008
We already have direct lending.

http://uk.zopa.com/ZopaWeb/
 
 
Oct 1, 2008
With any good law there is an exception. You said "And allow me to leave you with a pinch of optimism, just because I can. I call it Adams' Rule of Obvious Calamities. It states that any calamity that is foreseeable by the public at large won't turn out so bad after all. The best recent example was the Y2K problem, where computers worldwide were expected to fail. It seemed impossible that those issues could be resolved in time, but they were."

Check out this 1999 article from the NY Times predicting the present calamity:

Fannie Mae Eases Credit To Aid Mortgage Lending
By STEVEN A. HOLMES
Published: September 30, 1999

In a move that could help increase home ownership rates among minorities and low-income consumers, the Fannie Mae Corporation is easing the credit requirements on loans that it will purchase from banks and other lenders.

The action, which will begin as a pilot program involving 24 banks in 15 markets -- including the New York metropolitan region -- will encourage those banks to extend home mortgages to individuals whose credit is generally not good enough to qualify for conventional loans. Fannie Mae officials say they hope to make it a nationwide program by next spring.

Fannie Mae, the nation's biggest underwriter of home mortgages, has been under increasing pressure from the Clinton Administration to expand mortgage loans among low and moderate income people and felt pressure from stock holders to maintain its phenomenal growth in profits.

In addition, banks, thrift institutions and mortgage companies have been pressing Fannie Mae to help them make more loans to so-called subprime borrowers. These borrowers whose incomes, credit ratings and savings are not good enough to qualify for conventional loans, can only get loans from finance companies that charge much higher interest rates -- anywhere from three to four percentage points higher than conventional loans.

''Fannie Mae has expanded home ownership for millions of families in the 1990's by reducing down payment requirements,'' said Franklin D. Raines, Fannie Mae's chairman and chief executive officer. ''Yet there remain too many borrowers whose credit is just a notch below what our underwriting has required who have been relegated to paying significantly higher mortgage rates in the so-called subprime market.''

Demographic information on these borrowers is sketchy. But at least one study indicates that 18 percent of the loans in the subprime market went to black borrowers, compared to 5 per cent of loans in the conventional loan market.

In moving, even tentatively, into this new area of lending, Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980's.

''From the perspective of many people, including me, this is another thrift industry growing up around us,'' said Peter Wallison a resident fellow at the American Enterprise Institute. ''If they fail, the government will have to step up and bail them out the way it stepped up and bailed out the thrift industry.''

Under Fannie Mae's pilot program, consumers who qualify can secure a mortgage with an interest rate one percentage point above that of a conventional, 30-year fixed rate mortgage of less than $240,000 -- a rate that currently averages about 7.76 per cent. If the borrower makes his or her monthly payments on time for two years, the one percentage point premium is dropped.

Fannie Mae, the nation's biggest underwriter of home mortgages, does not lend money directly to consumers. Instead, it purchases loans that banks make on what is called the secondary market. By expanding the type of loans that it will buy, Fannie Mae is hoping to spur banks to make more loans to people with less-than-stellar credit ratings.

Fannie Mae officials stress that the new mortgages will be extended to all potential borrowers who can qualify for a mortgage. But they add that the move is intended in part to increase the number of minority and low income home owners who tend to have worse credit ratings than non-Hispanic whites.

Home ownership has, in fact, exploded among minorities during the economic boom of the 1990's. The number of mortgages extended to Hispanic applicants jumped by 87.2 per cent from 1993 to 1998, according to Harvard University's Joint Center for Housing Studies. During that same period the number of African Americans who got mortgages to buy a home increased by 71.9 per cent and the number of Asian Americans by 46.3 per cent.

In contrast, the number of non-Hispanic whites who received loans for homes increased by 31.2 per cent.

Despite these gains, home ownership rates for minorities continue to lag behind non-Hispanic whites, in part because blacks and Hispanics in particular tend to have on average worse credit ratings.

In July, the Department of Housing and Urban Development proposed that by the year 2001, 50 percent of Fannie Mae's and Freddie Mac's portfolio be made up of loans to low and moderate-income borrowers. Last year, 44 percent of the loans Fannie Mae purchased were from these groups.

The change in policy also comes at the same time that HUD is investigating allegations of racial discrimination in the automated underwriting systems used by Fannie Mae and Freddie Mac to determine the credit-worthiness of credit applicants.

http://query.nytimes.com/gst/fullpage.html?res=9C0DE7DB153EF933A0575AC0A96F958260&sec=&spon=&pagewanted=1
 
 
 
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