'It's Really Quite Frightening'

It's not often that you hear an economist admit that conditions in financial markets are "frightening" and "really, really scary." Or suggest that neither he nor those who are charged with ensuring that markets function properly know what to do when they don't.

Ironically, perhaps that is one reason why so many people, including me, look forward to reading Paul Krugman's insights. In "What Is to Be Done?" Krugman details some unsettling thoughts on the current crisis in his New York Times blog, The Conscience of a Liberal.

I’ve been reading Tim Geithner’s talk on the financial situation, via Mark Thoma. Lay readers may not know this, but Geithner, as the president of the New York Fed, is at the center of the hurricane: when markets go blooey, it’s generally the New York Fed — which is where the markets are — rather than officials in DC that’s trying to manage the chaos.

Geithner talks in central bankerese, so you have to do some translation, but it’s really quite frightening:

The current episode has a basic dynamic in common with all past crises. As market participants have moved to reduce exposure to further losses, to step on the brake, the brake became the accelerator, amplifying the shock. Measured risk has increased more quickly than many institutions have been able reduce it, and attempts to reduce it have added to volatility and downward pressure on prices, further increasing measured exposure to risk … The rational actions taken by even the strongest financial institutions to reduce exposure to future losses have caused significant collateral damage to market functioning. This, in turn, has intensified the liquidity problems for a wide range of bank and nonbank financial institutions.

That’s pretty close to saying that the financial markets are melting down.

Geithner then goes on to describe the policy measures being taken. And here’s the thing: I don’t think it’s just me, the actions sound trivial compared with the problem. He more or less admits that credit markets are worsening faster than the Fed can cut rates, so that money is effectively getting more expensive, not cheaper; the other measures he describes sound minor. Rearranging deck chairs — that may be too strong, but it’s pretty unreassuring.

So what should be done? I’m not sure (and I’m thinking about it, hard.) For now, I’d just say that this is really, really scary.

Comments

[roger pasa]

I have a lot of respect for PAUL Krugman but I am of the opinion that depressions are unavoidable,back in the 60's when i bought my first home with a 30 year mortgage I worried about the coming depression,I was lucky it took much longer than i expected

[Richie Conway]

Of course the current situation is scary. Very, very scary! When was it ever not?

We are witnessing the meltdown of the global financial and banking system. It accelerated late last year, when the final vestiges of confidence evaporated and people, in the know, started running for the fire exits.

The major banks and financial institutions are effectively insolvent; drowning in a sea of worthless, innovative financial products (CDO's, MBS's, CDS's). All worthless, leveraged, financial garbage! All off the books! A vast mountain of unpayable debt re-classified, by the ratings agencies, as assets. Balance sheets turned backwards for godsake!

We are about to lose the banking system to absolute and utter insolvency. What does this mean for a system that is based on the incredibly fragile dependency on this banking system to pay for all aspects of our daily lives?

What does a society look like when the banking system is removed?

It stops.

What does a global financial crash look like? I don't know, because we have never experienced one before. I have no answer to that question and neither do the central bankers because we are entering uncharted waters.

We only know one thing. Our societies have become structured in such a way that, without a banking system, nothing moves. Goods are not produced, services are not provided and the distribution system grinds to a halt.

What does a society look like when the supermarkets are empty? When the "just in time" philosophy is shown to be an "emperor with no clothes"?

Without outside intervention, we are stuck in a situation where not only economic breakdown occurs but also the breakdown of our society.

Our dependency culture is very, very scary in the current economic disaster scenario.

However, I don't know which is more scary. The economic and societal breakdown or the outside intervention when, or if, it happens. Because that "help" will carry a price ticket which we might not want to pay.

[Edward Charles Ponzi Jr.]

Good comment by Mr Conway.

I guess the question really is whether or not the FED *can* reflate enough of the banking system to allow the real economy to function -- they are certainly going to try -- and while I don't think we are going to get to the point where you go to an ATM and it does not have any $20 bills for you -- we will get to the point where the credit driven economy is just plain dead.

The other tough guess is timing....

[BarbaraAnn]

"We" may not have experienced a global collapse, but we certainly can learn from the experience of citizens in the former USSR and from our grandparents who survived the last republican great depression.

We will need to re-focus on community, local and home-based agriculture, barter and helping each other. It's time to dis-credit the corrupt Corporate Consumer culture that brought us this disaster. By the way, greed is NOT good.