Dean, I agree with you that the MSM (NYT) is not doing a very good job of educating people on the real problem(s).

I also agree with your previous posts that the current "crisis" is being politicized -- e.g. there really isn't a crisis if a condition on CEO pay could be a "deal breaker" or "poison pill", etc.

However, there appears to be a real problem. When the 3-month Treasury bills trade at negative yield, even for a few minutes, something is going on. (It's called panic!) Banks are unwilling to lend to each other, and the interest rates (e.g. Libor) have been quite high, occasionally.

I believe there is a credit problem out there. And I'd like you to talk me down from that belief, if I'm mistaken.

I'd like to hear your take on the seriousness of the problem. I've read several books (written c. 2001 to 2004) predicting that there will ultimately be a financial collapse. Each of these approach the problem from a different angle -- demographics, reversion to the mean, chart theory, and the true size of the US debt (based on company-style accounting rather than special government acccounting). All reach the same conclusion -- iceburg, dead ahead.

So what say you? Is there really a problem? Can we "fix" the current problem with a patch (even a $700B patch)?? Or are we headed, inevitably, for The End of the World As We Know It, financially???

Thanks!

-- ARG

2nd try -- sorry if this is a duplicate post.

Well, the notion of a credit freeze really comes from the people trying to sell Paulson's Wall Street Giveaway, like President Bush who threatened that people with good credit won't be able to borrow to buy cars if this idiotic proposal isn't quickly passed.

This is all propaganda meant to sway a public that is looking at this proposal and saying "No way we should hand $700 billion to Wall Street."

They are trying to scare the public into swallowing this.

And to add more evidence of The Times' befuddlement, we have this assertion from today's editorial page:

. . . millions more are watching their equity being wiped out as foreclosures provoke price declines.

No, editors. Prices are declining, because they were bubble prices and far above reasonable relationship with the incomes that must support those prices.

Now, those prices are deflating, because the air is coming out of the bubble -- as it must.

You have a PhD in Economics?

While one may disagree about bailout methodologies, it is irresponsible even to imply that nothing needs to be done to restore confidence within the financial system. Stress in short-term funding markets is at an unprecedented level. The ATMs and credit cards that companies use to finance day-to-day operations have been shut down since last Wednesday. If this continues, the likely result is rolling waves of corporate defaults and bankruptcies and a severe disruption of real economic activity with unknown consequences.

http://www.nakedcapitalism.com/2008/09/credit-market-predictably-not-happy.html

This is not a ginned-up phony WMD crisis.

commercial paper markets and interbank lending.

sure.

the volume of the commercial paper market has shrunk $110b in the last two weeks. because companies are terrified of lending to one another virtually all issuance is taking place at 1-4 day maturities at 2.50% to 3.50% above benchmark rates. in May of 2007 it was easy to issue 1-year paper at .20% above the benchmark. similar things are happening in direct interbank financing and the short-term financing markets used by municipalities and governments.

the longer this goes on, the more financial institutions fail and the more the velocity of money flowing through the system slows. depending on who your employer is and how they finance payroll, the first problem you might see would be with your paycheck.

the primary causes of the Great Depression were a slowdown in financial transactions/money velocity and people and institutions pulling money out of the system in fear. there are many differences with our current situation, but there are also similarities. I don't even think the bailout as contemplated is going to solve the problems it is trying to solve. I do believe it will alleviate some of the stress in short-term funding markets. Allowing this stress to continue at current levels would have unknowable and potentially catastrophic consequences.

MV = PQ

“M” is the money supply, “V” is the velocity of money (how fast each dollar in the money supply gets spent and respent or lent and relent), “P” is the level of prices and “Q” is the quantity of real economic activity. “P” is a proxy for inflation, “Q” is a proxy for real Gross Domestic Product and PQ is a proxy for nominal GDP.

this is the quantity theory of money which was sketched out by John Stuart Mill and most famously elaborated by Irving Fisher. it is probably what Paulson trotted out to answer Ms. Kaptur, and he was right to do so. this theory is one of the few I can think of in economics which actually does a nearly perfect job in explaining reality and it is crucial to understanding what is going on right now.

if "M" and "V" drop, which is what we are looking at, with commercial paper being one large manifestation of the phenomenon, than PQ must also drop. "P"--inflation--is rather sticky. many prices are not set by conditions in the U.S. economy and companies are reluctant to drop prices and forego profits until they have no choice. thus what gives first is "Q"--real economic growth. "P" gives later.

with MV down, less lending is taking place, which is in turn financing less real economic activity. also, less money is available to make any particular transaction at any particular time. you aren't going to see this at your ATM, although you will see the occasional bank run. important nodes in the financial system--say, a bank, a mortgage lender, or a payroll processor--and also "normal" companies now have a dwindling ability to match up their assets to their liabilities. options to finance are less flexible, more expensive, less available, or not available at all. the longer and deeper the drop in MV, the more critical this problem can become for any particular company. when a company is unable to match up its assets to its liabilities, it fails. we have seen two such failures since last Wednesday: Pilgrim's Pride (a chicken producer) and Washington Mutual (the largest thrift failure in U.S. history). these failures increase fear, further reducing lending and further incenting companies to hoard cash, and this in turn depresses MV and thus "Q" and economic growth still more. the autocatalysis of this fear => less MV => shrinking GDP reaction is what produced the Great Depression. each stage of the reaction feeds the others.

that is the mechanics of the threatened meltdown.

thus when an economic policymaker who knows his or her stuff sees something like what has been going on in short-term funding markets for the last week and a half, they get scared. Bernanke and Paulson are not bullshitting. if you don't solve the problem, your best-case scenario is a serious disruption of economic activity and a nasty recession. you may have a 1990s Japan "lost decade" of deflation and virtually no economic growth. or, you could have a full-blown depression.