A Credit Hostage Crisis

By Dr. Duru written for One-Twenty

September 29, 2008

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Either credit is holding us hostage, or we are holding credit hostage. Either way, the surprise failure to pass the mega-bailout in the House of Representatives has increased panic levels in the financial markets to a fevered pitch.

Clearly, I was too early in expressing high confidence in the ability of our democracy to pass a mega-bailout bill in a timely fashion. It seems that we still need to apply maximum pain before all the gears get unstuck. I am frustrated by the early political commentary I have seen and read. I see politicians being as partisan as can be while claiming to be non-partisan. I understand that this President is "the most unpopular president in modern American history," but this sure seems like an inopportune time for Congress to take full advantage of it (of course, Congress as a whole also has very low approval ratings!). However, allowing the democratic process to run its course is still a much better alternative than handing over blank checks and absolute power to any one branch of the government. This was the scenario that was in play when the mega-bailout drama began with Treasury secretary Paulson making his initial demands. I am encouraged to see the citizenry getting active and pressuring our representatives to do the right thing. I am encouraged to see the checks and balances in the Constitution working. But for anyone who believes that gridlock in Washington is a good thing, you are witnessing one of the huge disadvantages of partisan paralysis.

There are other things holding us hostage. Our distrust holds us hostage. A lot of us are so tired of Washington that we do not trust giving the government any more power or any more license to dispose of our tax dollars on our behalf. The people who need to fix this mess are many of the same ones who either got us here or allowed us to get here. Our fears hold us hostage. The $700 billion potential pricetag is so big that we demand certainty of outcomes when few can be delivered. This uncertainty feeds our fear. Our rage holds us hostage. We sense that Wall Street has fleeced the public yet again, and our righteous rage demands justice. Our distrust, fear, and rage all insist on achieving satisfaction. Unfortunately, we have allowed the financial rot in America to run so deep that we do not have time to feed these monsters at this moment. We must take a breath, think clearly, and do the best we can. We can still make sure that the current legislation does not preclude us from addressing the longer-term issues once we are back on the path of financial stabilization.

So here we are. The cold feet of 12 members of the House today cost us $1.2 trillion in stock market value while we haggle over potentially losing another $700 billion. Monday morning, the Federal Reserve jammed hundreds of billions of dollars more of liquidity into the system and still the credit markets continue to grind down. Folks, we are literally burning money. It is no wonder our banks continue to fail one by one.

After it is all said and done, this is still not a time to let panic hold us hostage. I realize it is hard not to do so. During the crash of 1987 (click here for a rebroadcast of Nightly Business Report on that day), the credit markets also seized up. Alan Greenspan was new on the job, and he rushed to pump liquidity into the system. Unfortunately, this time, we are at the dark end of almost a year's worth of efforts to pump liquidity into this system. After the 1929 stock market crash, the government was slow to come to the aid of the financial system, and the economy plunged into the Great Depression. This time, we have a government that has already been very active in trying to prop up the financial system. It feels like we have just about run out of options; we have postponed our day of reckoning one too many times. We are reminded of the old adage "an ounce of prevention sure beats a pound of cure." But I am compelled to note that the technicals say we are once again deeply oversold at historic proportions. The volatility (or fear) index is scratching 50, taking us to the pinnacles of fear in past crises. The percentage of stocks trading under their 40-day moving average, the good ol' T2108 indicator, is at 9% and right back to the historic levels we had at the July lows. This is a time to remain vigilant for opportunity. Sure, few of us will qualify for the kind of sweetheart, low-risk deal that Buffet received investing in Goldman Sachs (GS), but we must still look for our spots. (My cautions about the next likely phases of our economic stagnation still apply!)

Stay alert, give your loved ones an extra hug or two, and be careful out there!

Full disclosure: No related positions. For other disclaimers click here.

DR. DURU®, 2008