Wednesday, October 1, 2008

...The Senate Votes Tonight

In an unusual sequence of events, the U.S. Senate will vote on a revised Emergency Economic Stabilization Act of 2008 before the House of Representatives gets its second chance to pass it. The vote is set to commence around 7:00 - 7:30 pm EDT.

The equity markets have been gyrating wildly the last few days. The S & P 500 lost 8.81% on Monday, gained 5.27% yesterday and is currently down 1.37%. Although the most visible of the capital markets, the stock market is not the only source of information regarding the strains on our economy. Debt markets (loans, bonds, mortgages) have suffered significant contraction in the last 12 months, the last 5 months have been particularly painful.

Lenders are uncertain about the losses that their bad loans and bond holdings will deliver, so they have decided to lend to virtually nobody. This information is communicated by relative price differences for money. Since interest rates can be interpreted as the price of money, different interest rates are charged by lenders depending on the credit quality of the borrower, length of term, type of collateral, etc. Interbank lending has basically ceased because interest rates in this market have increased dramatically, suggesting a massive amount of distrust between institutions.

This is what the Paulson Plan is attempting to address. Debt deflation was arguably the cause of the Great Depression. I do not think the plan will accomplish its goal. I will not comment further on the merits of the plan because I have not come up with a solution........but I am working on some alternative ideas. Stay tuned.

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