Nice combo

From the WSJ late Sunday.

Fear drenched statements:

Hopes are fading fast that the U.S. economy was suffering from a thirst for liquidity that standard Fed remedies could quench. Former Treasury Secretary Lawrence Summers, speaking in Washington yesterday, said he sees "an increasing risk that the principal policy tool on which we have relied -- the Federal Reserve lending to banks in one form or another" -- is like "fighting a virus with antibiotics."

Crisis of confidence (faith) in the US:

Bob Eisenbeis, a former executive vice president of the Federal Reserve Bank of Atlanta, says the problem is more than an inability to find ready buyers for assets. "It is time to step back and recognize that the current situation isn't a liquidity issue and hasn't been for some time now," said Mr. Eisenbeis, the chief monetary economist for Cumberland Advisers. "Rather, there is uncertainty about the underlying quality of assets -- which is a solvency issue, driven by a breakdown in highly leveraged positions."

Hooverism:

President Bush, speaking in New York and in a television interview yesterday, showed little appetite for further action. Detailing the steps the administration has already taken, the president in a speech knocked a couple of pending proposals. "Government policy," he said, "is like a person trying to drive a car on a rough patch. If you ever get stuck in a situation like that, you know full well it's important not to overcorrect -- because when you overcorrect you end up in the ditch."

The difference between this and a standard stock market crash is a lack of trusted information. In a stock market crash, like 1987, nobody questioned the underlying information about the firms behind the stock, rather, the question was what the price of that stock should be. In this crisis, information about the underlying assets is too uncertain and too complex to understand. FUD (fear, uncertainty, and doubt) abounds and nobody trusts anybody else anymore. That is a recipe for a global financial meltdown.

Comments

[Tangurena]

The issue are the Level 3 Assets. Page 28 of FASB 157 (40 of the pdf) describes what level 3 assets are.
http://www.fasb.org/pdf/fas157.pdf

Level 1 assets are "mark to market" assets. There is a market price one can look up and see. Stocks are like this.

Level 2 assets are "mark to model" assets. There are observable inputs (like stock prices or LIBOR) and a formula to produce a value. Many derivatives are here.

Level 3 assets are the "mark to make believe" assets. These are the ones with no observable inputs. Many other derivatives are here. CDOs, SIVs and conduits are here.

I'd say it is less about FUD or uncertainty. There is no way to price them other than to believe what the seller wants to believe them. This is what hit the fan last year, and this was behind the 2 Bear Stearns funds being liquidated last year. In a market when no one can tell good assets from bad assets, the only smart thing to do is stay out of the market.

A significant amount of corporate profits in the last 2 years came from level 3. Make believe profits from make believe "assets" that never existed except other than to give an excuse for executive bonuses.

We're a lot more leveraged than in 87. That makes today's downside a lot greater than that time.

[Walter]

There's some mild (very mild) panic in the stock markets today, with financials getting hammered as expected, but I think it's possible there should be MORE panic than there is. Reason? The banks aren't buying it:

Financial trading and interbank lending almost ground to a halt on Monday as banks grew fearful of dealing with each other following Friday's near collapse of U.S. investment firm Bear Stearns

...banks' access to unsecured borrowing from other banks fell to a relative trickle and...analysts said any bank that had not already secured funding further than a week or so would struggle to raise cash at all.

"Bear's near-collapse and takeover accelerates the liquidity crunch and the money market crisis...Banks' risk aversion and sensitivity to counterparty risk should rise even further, leading to more pressure on hedge funds."

http://www.reuters.com/article/ousivMolt/idUSL1710220420080317

[zenpundit]

Herbert Hoover wasn't a Laissez-Faire free-marketeer (ok-neither is Bush but Bush is also not nearly as smart as Herbert Hoover) and had repeatedly attacked stock market speculation. Hoover was actually more in favor of the government bailing out corporations, due to oligopolistic market structure making industries susceptible to collapse, and letting them form private cartels to weather the crisis.

Hoover's bottom line was that liquidation - a course favored by Mellon - would result in a revolution but a welfare state would change America permanently for the worse. He sought a tenuous midle ground and failed.