Sunday, October 5, 2008

What's Next?

I do not believe that the Emergency Economic Stabilization Act of 2008 will fix what ails our economy. Buying assets for which there is no market COULD help the price discovery mechanism, but there is no guarantee that it will. There is also no guarantee that a financial institution will allocate the funds received from the sale to underwriting new loans.

There is a major, structural cause for this problem: banks were running out of debtors. I touch on this on a past post (Why? is the title of the post). Our system is built on confidence. Once brought down, it is difficult to repair. Although Japan's issues are not identical to ours, they have suffered a similar lack of confidence in their banking system. Decades passed before they shuttered unsound institutions and economic activity began to awake from its slumber. Their equity markets are still well below their 1980's peak. The Nikkei 225 closed at 38,915.87 on 12/29/89. It dropped to:

21,000 in 9/1990

14,500 in 6/1995

7,800 in 4/2003

The index closed at 10,938.14 on Friday, a 72% drop from that peak 19 years ago.

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