The superball effect – mark my words!
I have been thinking a lot about the economy and what has been happening on the financial markets. For my few devoted readers, you may recall my post two weeks ago related to FAS 157 and why we are in a financial death spiral (READ IT HERE).
With that said, I want to go on the record early on my “superball effect” theory. The SE theory really is the inverse of the FAS 157 death spiral. Since my hypothesis on the economy is FAS 157 and “Mark to Market” is the principal cause of the current banking crisis, it stands to reason that once the financial market start to improve, the same dynamics that caused the downturn will fuel an upturn.
Downturn: Economy Slows -> Bank Assets Devalued -> Banks Write Down -> Financial Markets Slow -> Bank Assets Devalued -> Banks Write Down -> ad naseum
Upturn: Bailout -> Markets Recover Somewhat -> Bank Assets Raise in Value -> Banks Suddenly have more available funds to invest -> Market Improves -> Bank Assets Raise in Value -> Banks Suddenly have MORE available funds to invest.
Unless the incoming President really screws up the economy, I predict a complete recovery to pre-crash 2008 levels by October of 2010. Regardless of who wins, this will happen. When the encumbant President is taking credit for the dramatic turn around on the economy, remember, you heard the real reason here first!
We will see — of course this does not solve the housing crisis which is part of the banking crisis.
The banks should not have been giving loans to people who did not have the money to repay them
Right, but even if 10% of the sub-prime loans foreclose, the other 90% of the value will be returned to the market. Once the paper issue is resolved, we can then focus on keeping sub-prime loans from occurring (and go after the payday loan people (that is a rant for a different day)).
I think it is going to be closer to 50% of the sub prime mortgages will foreclose.
It will be interesting no matter who gets into office to see what they do for the homeowners. Even people like me who are paying their mortgage’s have lost a lot of value and I am upside down on my mortgage. My home has lost 120-150K of its value and is probably worth less than I paid for it 5 years ago.
I personally think what you describe in your Superball effect is the normal and indeed natural boom and bust cycle that all economies experience (though the state intervention in the banking sector is unique of course).
Over here and I assume in the States the problem is getting banks to lend again be it to each other or to businesses and home buyers.
Interest rates are the remedy as far as I can see, if they were slashed dramatically (rather than the 0.5% that was done on both sides of the Atlantic in unison in the last week)that would help both business and homeowners. Let’s worry about inflation when things are back in some sort of state of normality.
Without wanting to sound too mercenary about it I would think sometime after Christmas would be a good time to invest in property, would you agree?
While it would be “normal” for a boom and bust cycle, I think my point was, we are really not in a bust, however FAS 157 is making it so. In a normal boom and bust cycle, the bust is usually more “real” (not just a new accounting rule) and the recovery to boom is more “real”.
My main reason for the post was to get out in front of all of the political claims of “Look, with party X leadership, the economy recovered and exploded!” it simply will not be true.
Because of Tier 1 and Tier 2 capital requirements, much of the interbank lending and commercial/consumer lending is not allowed with the write downs FAS157 has created. As the first $250 Billion is injected in to the banking system, we should see the interbank lending resume, I doubt there will be much flexibility on consumer or commercial lending for awhile. However, if you are credit worthy, banks are still lending lots of money to consumers and businesses.
3 weeks ago, I would have disagreed with you on lowering the rates, today I am not sure. Here is the States, we have had some significant inflationary pressures, primarily tied to price of fuel and the price of food.
Today, fuel prices have plummeted to ~$2.40 per gallon (Down almost 50%), leaving just food prices going up (tied primarily to the new (stupid) Ethanol policy and the price of fuel). However, if the rate is lowered too much, it causes banks to lose money, since they are lending money with lower interest rates than they are paying the depositors. This is called an inverse yield curve, and it is bad for banks. We need to find the balance on rates that allow the economy to grow without financially upsetting the banks (for now). The banks need to be very focused on becoming profitable and flowing the up to $750 billion back the to government.