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Thread: Is America too big to fail?

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    Default Is America too big to fail?

    http://www.iht.com/articles/2008/07/...ail.php?page=1

    What is your scenario of the events the day foreigners stop loaning us money?!

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    Default Re: Is America too big to fail?

    For something to be too big to fail, there needs to be someone bigger willing to bail them out...

    However, sticking with the first page of the article, I fear that Freddie and Fannie will prove to be ultimatly too big to save effectively.

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    Default Re: Is America too big to fail?

    That article pulls together an array of issues that have been recently discussed here in Dollar Den. From the article's second page ...

    (snip)"Using public money to spare Fannie and Freddie would increase the public debt, which now exceeds $9.4 trillion. The United States has been financing itself by leaning heavily on foreigners, particularly China, Japan and the oil-rich nations of the Persian Gulf. Were they to become worried that the United States might not be able to pay up, that would force the Treasury to offer higher rates of interest for its next tranche of bonds. And that would increase the interest rates that Americans must pay for houses and cars, putting a drag on economic growth.

    Meanwhile, as American debts swell and foreigners hold more of it, nervousness grows that, someday, this arrangement will end badly. The dollar has been declining in value against other currencies. Some foreigners have begun to hedge their bets by buying more euros.

    "Obviously, this is going to come to an end," Schiff said. "Foreigners are not charitable organizations, and they're going to demand that we pay them back."

    No single country owning large amounts of dollar-based investments is inclined to dump them abruptly; nobody aims to start a panic. But fears have begun to grow that one day a country may get spooked that another is about to dump its dollars - and that could trigger pre-emptive panic selling.

    "Foreigners could decide it's just not worth the risk and sell," says Andrew Tilton, an economist at Goldman Sachs. "The really dire scenarios have become a lot more likely than they were a year or two ago."

    Still, as Tilton and others are aware, one fundamental reality continues to offer assurances that foreigners will still buy American debt: In the global economy of the moment, the United States itself is too big to fail.

    The logic for that assurance goes like this: The American consumer has for decades served as the engine of world commerce, using borrowed cash to snap up the accouterments of modern living - clothes and computers and cars now manufactured, in whole or in part, in factories from Asia to Latin America. Eliminate the American wherewithal to shop, and the pain would ripple out to multiple shores."(snip)


    As far as a scenario for the day when foreigners finally decide to stop loaning America more money, the 'tin foil hat' crowd will tell you that there are really two very different possibilities. The first possibility would resemble Argentina of a few years ago, i.e. if America can't come up with enough money via taxes and productivity to both keep Americans fed and 'warm', and at the same time make good on it's interest / debt repayments to foreign owners of US Treasury / GSE bonds, then to hell with the foreign creditors ! Under this logic, if the foreigners won't lend to us anymore then there isn't much additional downside if we stop paying them back. Instead of borrowing more money abroad, the US FED can simply print up as much as is needed. However, like Argentina, this approach tends to wipe out the savings / standard of living of the 'middle class', leading to a 3rd world-esque nation of the rich and powerful (who are able to protect their savings / standard of living via international diversification), and the 'working poor' (many of whom were formerly 'middle class').

    The second, and totally different, option would be to re-establish an official linkage between the American currency and gold / silver ... which will provide foreign investors with rock solid confidence that future investments in America won't be inflated into losses thus re-establishing America's international credit rating and re-establishing America's ability to borrow money internationally. I say American currency rather than the US dollar, because there could very well be a currency change / replacement as part of this process. This approach would result in a mountain of personal and business bankruptcies, as a result of existing debts no longer 'devaluing' because the currency would no longer devalue. This approach would encourage Americans to again become savers, thus slowly rebuilding domestic capital reserves and reducing America's future dependence on foreign lenders.

    However, this approach would also require some 'hard choices' in regard to gov't spending priorities, since the total amount of gov't spending would be constrained by the actual productivity of the US economy and the percentage of taxes that the gov't could sustainably extract from businesses and individuals (as opposed to simply printing additional money, or borrowing it from foreigners, or allowing inflation to enact tax increases without politicians having to vote them into effect). And this approach would also require some additional ' hard choices' in terms of both the US gov't mandates that make the costs of doing business much higher in America than in many other countries, and also in terms of gov't trade policies regarding other countries who domestically subsidize their export industries (and/or allow those export industries to run amuck re worker safety / environmental etc. to reduce their production costs of export products ).

    Unfortunately, in both cases the standard of living in America will decline ... and will probably decline significantly for the 'middle class' and the unemployed 'poor'. However this is to be expected, since the standard of living of America's 'middle class' and unemployed 'poor' have been subsidized by borrowed money for the last 20 years ... privately borrowed money in the case of the 'middle class' i.e. cash-out refi's and home equity loans used to fund consumption, and money borrowed by the US gov't from foreign sources (via the sale of US Treasury and agency bonds) and used to pay for social welfare benefits in the case of the unemployed 'poor'.

    Also, in both cases, the probability of a major war will be greatly increased. This will be the result of unrest developing in the major exporting countries as American consumers stop buying their exports, which in turn will lead to super-high unemployment in those export industries. This will also be the result of major cutbacks by the US gov't on military / defense spending, opening the door for despotic leaders around the world to again try to 'help themselves' to their neighbor's wealth ... or attempt the extermination / domination of their neighbors for ideological reasons ... with little fear that the US military or primarily US financed UN military will intervene !

    In the way of personal opinion, there IS one huge fundamental difference between the two approaches. The first approach takes Moral Hazard to the extreme ... because it will be arguable that no matter how hard you work, no matter how frugally you try to be in your personal finances, etc. you are still going to be a member of the working 'poor' tomorrow, next week, next year ! Any extra money that you do manage to earn or save will be stripped of its purchasing power by rampant inflation and/or stripped by the gov't via higher taxes. Thus you might as well work less hard, and spend all the money you have, because a year from now you're still going to be 'poor' and struggling no matter what you do.

    In contrast, the second approach would re-establish an actual financial reward for extra work, for being frugal etc. If the currency you are working for and saving today is 'guaranteed' to be worth just as much next year, and the interest rate that your saved money will earn actually exceeds the rate of price inflation, then a strong motivation is created to make that extra effort and build a better financial future. And it's no coincidence that the increased savings that would begin to accumulate under this approach would provide the necessary 'domestic' capital to allow US businesses and industries to develop / expand WITHOUT the necessity of borrowing money from foreigners to do so !

    ~
    Last edited by Melonie; 07-21-2008 at 09:37 AM.

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    Default Re: Is America too big to fail?

    here's some speculation on this subject from a 'professional'



    (snip)"It feels like the summer of 1931. The world's two biggest financial institutions have had a heart attack. The global currency system is breaking down. The policy doctrines that got us into this mess are bankrupt. No world leader seems able to discern the problem, let alone forge a solution.

    The International Monetary Fund has abdicated into schizophrenia. It has upgraded its 2008 world forecast from 3.7pc to 4.1pc growth, whilst warning of a "chance of a global recession". Plainly, the IMF cannot or will not offer any useful insights.

    Its "mean-reversion" model misses the entire point of this crisis, which is that central banks have pushed debt to fatal levels by holding interest too low for a generation, and now the chickens have come home to roost. True "mean-reversion" would imply debt deflation on such a scale that would, if abrupt, threaten democracy.

    The risk is that these same central banks will commit a fresh error, this time overreacting to the oil spike. The European Central Bank has raised rates, warning of a 1970s wage-price spiral. Fixated on the rear-view mirror, it is not looking through the windscreen.

    The eurozone is falling into recession before the US itself. Its level of credit stress is worse, if measured by Euribor or the iTraxx bond indexes. Core inflation has fallen over the last year from 1.9pc to 1.8pc.

    The US may soon tip into a second leg of this crisis as the fiscal package runs out and Americans lose jobs in earnest. US bank credit has contracted for three months. Real US wages fell at almost 10pc (annualised) over May and June. This is a ferocious squeeze for an economy already in the grip of the property and debt crunch.

    No doubt the rescue of Fannie Mae and Freddie Mac - $5.3 trillion pillars of America's mortgage market - stinks of moral hazard. The Treasury is to buy shares: the Fed has opened its window yet wider. Risks have been socialised. Any rewards will go to capitalists.

    Alas, no Scandinavian discipline for Wall Street. When Norway's banks fell below critical capital levels in the early 1990s, the Storting authorised seizure. Shareholders were stiffed.

    But Nordic purism in the vast universe of US credit would court fate. The Californian lender IndyMac was indeed seized after depositors panicked on the streets of Encino. The police had to restore order. This was America's Northern Rock moment.

    IndyMac will deplete a tenth of the $53bn reserve of the Federal Deposit Insurance Corporation. The FDIC has some 90 "troubled" lenders on watch. IndyMac was not one of them.

    The awful reality is that Washington has its back to the wall. Fed chief Ben Bernanke thought the US could always get out of trouble by monetary stimulus "à l'outrance", and letting the dollar slide. He has learned that the world is a more complicated place.

    Oil has queered the pitch. So has America's fatal reliance on foreign debt. The Fannie/Freddie rescue, incidentally, has just lifted the US national debt from German 'AAA' levels to Italian 'AA-' levels.

    China, Russia, petro-powers and other foreign states own $985bn of US agency debt, besides holdings of US Treasuries. Purchases of Fannie/Freddie debt covered a third of the US current account deficit of $700bn over the last year. Alex Patelis from Merrill Lynch says America faces the risk of a "financing crisis" within months. Foreigners have a veto over US policy.

    Japan did not have this problem during its Lost Decade. As the world's supplier of credit, it could let the yen slide. It also had a savings rate of 15pc. Albert Edwards from Société Générale says this has fallen to 3pc today. It has cushioned the slump. Americans are under water before they start.

    My view is that a dollar crash will be averted as it becomes clearer that contagion has spread worldwide. But we are now at the point of maximum danger. Britain, Japan, and the Antipodes are stalling. Denmark is in recession. Germany contracted in the second quarter. May industrial output fell 6pc in Holland and 5.5pc in Sweden.

    The coalitions in Belgium and Austria have just collapsed. Germany's left-right team is fraying. One German banker told me that the doctrines of "left Nazism" (Otto Strasser's group, purged by Hitler) had captured the rising Die Linke party. The Social Democrats are picking up its themes to protect their flank.

    This is the healthy part of Europe. Further south, we are not far away from civic protest. BNP Paribas has just issued a hurricane alert for Spain.

    Finance minister Pedro Solbes said Spain is facing the "most complex" economic crisis in its history. Actually, it is very simple. The country was lulled into a trap by giveaway interest rates of 2pc under EMU, leading to a current account deficit of 10pc of GDP.

    A manic property bubble was funded by foreigners buying covered bonds and securities. This market has dried up. Monetary policy is now being tightened into the crunch by the ECB, hence the bankruptcy last week of Martinsa-Fadesa (€5.1bn). With Franco-era labour markets (70pc of wages are inflation-linked), the adjustment will occur through closure of the job marts.

    China, India, East Europe and emerging Asia have all stolen growth from the future by condoning credit excess. To varying degrees, they are now being forced to pay back their own "inter-temporal overdrafts".

    If we are lucky, America will start to stabilise before Asia goes down. Should our leaders mismanage affairs, almost every part of the global system will go down together."(snip)

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    Default Re: Is America too big to fail?

    "The Average American Owes Average Chinese $4000" http://agonist.org/sean_paul_kelley/...e_chinese_4000

    Pay up!
    Once again, the conservative, sandwich-heavy portfolio pays off for the hungry investor
    - Dr John Zoidberg

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    Default Re: Is America too big to fail?

    ^^^ yesm but ... the problem is that 50% of Americans don't actually pay income taxes ... thus this really means that 'middle class' taxpayers each owe $8000 to the Chinese to cover their neighbors' Chinese 'debt' as well as their own !

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    Default Re: Is America too big to fail?

    the titanic was the "unsinkable" ship.

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    Default Re: Is America too big to fail?

    No link but I read a somewhat funny comment on the web about the total worth of all United States possesions and properties; between 160 and 200 trillion at that time. Then the writer asked when we would have a national park or a large
    section of our highway systems taken over by the Chinese, or another creditor and how they would administer it to recoup some of their loans to us. A little farfetched given our military strength but any hint of default could definitely bring on a quick stop to our foreign credit spree especially if we are no longer the world's best and most spendthrift customer.

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