Why Fed Meddling is Only Prolonging the Financial Crisis

Here’s the story:

The Irish caved in. Apparently, they negotiated a deal. They’re going to go for a bailout.

This was all it took to bring stock market investors relief from their bout with temporary sanity. They sent the Dow up 173 points.

The New York Times tells the tale:

Stocks in the United States rose Thursday as expectations grew that Ireland would receive billions of euros from international lenders to rescue its banks, easing concerns about the health of Europe’s financial system.

Shares of General Motors began trading after the company’s initial public offering, the largest in United States history. The shares surged nearly 8 percent after the market opened, and in late trading fell back to $34.07 on the New York Stock Exchange. The stock had been priced at $33 on Wednesday evening.

Ireland has moved more aggressively than many countries to address problems brought on by the financial crisis, but investors have been losing confidence in its banks in recent months, and a Greek-style rescue now appears imminent. On Wednesday, the British government signaled that it could offer Ireland direct financial aid as well.

What are investors thinking? A Greek-style rescue? How about a Titanic-style sea voyage? How about a Little Big Horn-style pony trek?

Greece is still going broke. It is just a matter of time. And now this Irish bailout does the same thing. It postpones the real problem – and makes it worse.

Investors are probably thinking – “everything is under control”…“no need to worry”…“the authorities know what they are doing.”

Well, we’ve got news. The authorities have no idea what they are doing. If the Irish authorities had seen the problem coming they would have forced the banks to straighten up long before 2007. And then, if they had any idea what they were up to, they never would have written the banks a blank check when they got into trouble.

They are just muddling along from one crisis to the next. If the Irish had just let their banks go bust in the first place, they wouldn’t be in this mess, in other words. And if the Europeans would just let Ireland go bust, well…we don’t know what would happen…but we’d like to watch!

Meanwhile, in the US, the municipal bond market seems to be on the edge of chaos lately. It is probably only a matter of time until the Fed starts buying muni bonds as well as US Treasury bonds. Why not? Neither one is good for the money.

State and local governments made promises during the fat years. Now that the lean years are here, they’re having a hard time keeping them. Just like the feds. Just like the Irish. Just like the Greeks.

To their credit the Irish, Greeks, Brits – and others – have begun to make cuts. Even government employees are having their hours or their salaries trimmed.

Not so in America. The process of cutting has barely begun. (About which…more on Monday…)

Meanwhile, a news report tells us that many rust-belt cities are demolishing buildings. Owners aren’t paying property taxes and the buildings are not worth the maintenance it takes to keep them standing.

And here’s Bloomberg with more news from the homing sector:

Foreclosures on prime fixed-rate mortgages in the US jumped to a record in the third quarter as unemployment strained household budgets of the most creditworthy borrowers.

The inventory of homes in foreclosure financed by prime fixed-rate loans rose to 2.45 percent from 2.36 percent in the previous three months, the Mortgage Bankers Association said in a report today. New foreclosures rose to 0.93 percent from 0.71 percent. Both numbers were the highest in the 12 years since the Washington-based trade group started tracking the categories.

“The increase in these plain-vanilla type of loans to the highest numbers ever show us it really is being driven by the economic environment,” [Michael] Fratantoni, [the Mortgage Bankers Association’s vice president of research and economics], said in a telephone interview. “It’s not going to turn around until we get more significant job growth.”

New foreclosures against all types of mortgages, which also include subprime, rose to 1.34 percent, the highest level in a year, according to the report.

Bill Bonner
for The Daily Reckoning

The Daily Reckoning