Bailout goes full circle
Treasury secretary Paulson has addressed the credit crunch yet again, this time he is calling for the Fed and the Treasury to be allowed to buy illiquid bank assets. Not much more was stated, just that the future plan would involve the Fed and the Treasury to buy bank assets and cut through the credit crisis. This is a buyout in every sense of the word, bailout with inflation and tax dollars to save the largest financial institutions and the rapidly unwinding derivatives market.
Central banks across the world are also acting to inflate local currencies to prop up the credit markets. Currently banks are hoarding cash and charging higher interest rates to recoup losses on other loans. With an agreement in place to create more credit around the world, the banking companies can be pumped up without devaluing any one currency against another. If each currency is inflated equally, the problem will be spread out against many different governments and economies.
If the Treasury is granted the right to buy bank assets, we’re likely to see hundreds of billions flowing out of the Treasury and into the bad assets of large banks. The best assets will be sold privately, while the government will absorb the debt that cannot be quickly liquidated. If debts are left to stagnate on the open market, its going to create downward pressure on the US dollar as the price of dollar denominated assets will continue to drop. The Treasury has an interest in keeping US dollar selling pressure lower, to prevent a run on the currency markets while providing stability.
The next few months are going to pan out on a day to day basis. For now, cash is king until we see how the market responds to government action. Today it was good, but tomorrow could yield a different story. So far the stock market has shed about $4 Trillion worth of value, from $19.1 Trillion in October 2007 to a total valuation of 15.1 Trillion as of September 12th.
