The Real Credit Contraction, or, Sticks and Stones Can Break My Bones, but Names Can Never Harm Me
Fri, 08/24/2007 - 14:02 — moneysageThere are facts, and there are words. Let us look at the somewhat unpalatable facts.
Before we proceed, however, we wish to issue this cautionary note. It was the late American philosopher, George Santayana, who aptly noted: "There are three kinds of liars. There are liars, there are damned liars, and there are statistics."
Bearing this undeniable truth in mind, we must nevertheless have recourse to statistics: in this case, we think that they do convey an accurate message.
The statistics we have in mind relate to the actual contraction of the commercial credit market which has ALREADY occurred. According to reports we cannot verify, but presume to be roughly accurate, commercial paper outstanding has fallen by more than $180 billion in less than 2 weeks. This represents more than 8% of the total.
What this means, in plain English, is that any number of corporate borrowers are net short the credit many of them need to survive. While some borrowers have other borrowing options, or can liquidate assets to fund their working capital needs, others do not.
Looking at this situation in its totality, $180 billion of needed credit has now vanished. If, for the sake of argument, the banks were to make up this entire deficit, the net position of the entire system would not be improved. The $180 billion the banks would lend to those who cannot roll over their paper WOULD NO LONGER BE AVAILABLE TO THE BANKS' OWN CUSTOMERS, WHO REQUIRE THAT THEIR OWN BANK LOANS BE ROLLED OVER. In other words, the financial stress would simply shift its locus.
Four questions arise:
(1)Will the gross supply of credit contract FURTHER, or have we seen the peak?
(2)Will the inevitable business and corporate failures CASCADE throught the economy like falling dominoes?
(3)How significant an impact on the overall economy would such a cascade have, after the NORMAL LAGS (which the Fed is indolently awaiting)? Will it be sufficient to produce recession? depression? or simply what is euphemistically termed a "slowdown"?
(4)Will the FED create enough liquidity to offset, partially or in full, the credit contraction we have already seen, or are yet to see?
We cannot answer any of these questions at this time. What we can say is that, throughout the course of American economic history, every economic depression has been preceded -- indeed catalyzed -- by a shortage of credit, generally produced by a market panic.
The central question therefore is: this time, are things "different?"
Those of you who read this blog will recall that in the past we have advised: any time you hear the words, "this time it's different," the soundest course of action is to HEAD FOR THE HILLS, PRONTO.
No, this time things are NOT different. They never are. Although, in every crisis, we here the same idiotic formula intoned with mucho gravitas.
The abysmal failure of the FED's actions to date are demonstrated by two FACTS:
(a)Bank borrowings at the discount window are essentially nil;
(b)The freeze in the credit markets has barely thawed, even at the margins.
