Analysis - US government bailout ? is this the start of the recovery?

[HEXUS]

American taxpayer to mop up billions of dollars of bad debts, global stock markets rise steeply on the news.

Read more.

[tensim]

Personally, I find this absolutely ridiculous... these institutions have been posting record profits for god knows how long based purely (it seems) on fudged numbers and 'virtual' money. Now, when the reality arrives and this funny money becomes real and hits their balance sheets properly, the taxpayer has to come along and bail them out... whatever the pain, these companies should be subject to the consequences of their actions, end of story.

It's this knowledge that should keep traders honest, but because they know (or at least believe) that their company will be bailed out when the going gets tough, they've taken unacceptable risks in the pursuit of a profit... Turning the markets into a glorified Casino indeed.

I'm sure this is a simplistic view based purely on the old fashioned belief of accepting the consequences of your actions, I'm sure a MBA educated multi-million pound earning Banker or Economist would be able to tell me why I'm wrong, but it's all $%#&&* BULLS**T I say... yes, I am angry!

[Rave]

Too right Tensim- if I were an American taxpayer I would be about to emigrate, because I wouldn't want to spend the next 20 years paying through the nose for other people's stupid mistakes.

Oh, and I don't believe for a minute that this is the start of the recovery- it's more likely to be the start of the really serious pain IMO. Once people realise how much money will have to be printed to finance this, the dollar will go into freefall.

[SiM]

Why didn't they do this earlier?!?!?

At the end of the day it is the American taxpayers who are defaulting on their mortgages anyway - that is why most of these mortgage backed securities are "toxic"

[manwithnoname]

Wonder if it would have been worth it if the US government had imposed a 'Don't mess with the economy' tax on the US public a good few years ago, the money paid directly as bonus to the city bankers/investors on the strict understanding that they don't do any to mess with the economy.

[tensim]

It isn't just the US bailing Big Business out... it's all the Central Banks around the world... UK, Australia, Japan... you name it, all the Feds are pumping TAXPAYERS money into the 'financial' system to try and keep it running... I suspect it might be a wasted exercise, because all it means is that the short sighted, profit focused Bankers will use this money to try and make some more profit.. which they will, until it all goes pear shaped again... and then there won't be anyone to bail it out... Watch out for China, India, the Arab States... they're waiting with bated breath to pounce and buy EVERYTHING at a firesale rate... start learning Mandarin Comrades, or maybe Hindi...

[SiM]

They aren't giving money away tensim, they are lending it out - providing short term liquidity, which would otherwise be unavailable because money is harder to borrow now

[shaffaaf27]

umm enlighten me here, but if its lending money, wont it have to be payed back?

isnt borowing the problem in the first place?

[SiM]

Yup it will be paid back. Short term financing is a big problem in the markets at the moment, which is why the central banks are trying to help out

[shaffaaf27]

so if i was a layman, how did this credit crunch start ,and what does one need to do to stop it?

[SiM]

Just going to quote because I can't explain it better than this:

Credit crunch is a term used to describe a sudden reduction in the general availability of loans (or "credit"), or a sudden increase in the cost of obtaining loans from the banks.

A credit crunch is often caused by a sustained period of careless and inappropriate lending which results in losses for lending institutions and investors in debt when the loans turn sour and the full extent of bad debts becomes known.[1] These institutions may then reduce the availability of credit, and increase the cost of accessing credit by raising interest rates. In some cases lenders may be unable to lend further, even if they wish, as a result of earlier losses.

[shaffaaf27]

so why cant people pay their mortgage any more?

[shadowmaster]

Read this, not completely relavant to your question but its a good read nevertheless

For anyone looking for clarrification on this I just got forwarded this succinct email at work (n.b. I am not the author):

30 Second Idiot's Guide to "What happened at Bear Stearns & Lehmans" (Ex-Lehman author)

It's complicated, but here's the 30-second version of what happened
with Bear Stearns and Lehman:
People went to traditional banks and mortgage brokers and bought
mortgages. All of these mortgages carry different amounts (e.g.
$100,000 mortgage vs. a $500,000 mortgage) and different risk levels.
The ones that are more likely to default have a higher interest rate,
so the bank stands to gain more money...but at a greater risk of the
home owner defaulting on the mortgage.
The problem with this is it is very difficult to balance your risk-
reward ratio. So they created an investment vehicle called a mortgage-
backed security (MBS). This is referred to as a "derivative" because
it is based off of the mortgage. The way it works is the banks
chopped up all these different mortgages into different securities
that were worth different amounts and different risk levels. They
then sold these to other banks and investments firms. The firms who
bought these MBS then received a payment based off of the mortgages.
For the banks selling MBS, it helped them pool risk and generate
capital, and for the firms who bought the MBS, it provided a source of
cash flow with what was thought to be a very safe, secure underlying
commodity: real estate.
Since real estate was so "safe," these banks used huge amounts of
leverage (borrowed money to buy the securities) because they didn't
think they were that risky. Some firms, like Lehman, were leveraged
30:1, meaning that for every $30 they borrowed, they had $1 of
underlying assets. That would be like you making $1000 a year but
taking out a loan of $30,000.
While all this is going on, people are buying up adjustable interest
rate mortgages (ARMs). They offer a cheap introductory rate, but then
skyrocket. So all of a sudden, all these people discovered they
couldn't make their monthly payments. The default rate shot through
the roof. The firms that had purchased MBS did so based on certain
calculations of default. In other words, X number of people could
default on their mortgages, but they could still make a profit and
have a positive cash-flow. However, when the default rate shot up,
this threw all of their calculations off.
Now the firms faced a real problem. They had HUGE amounts of debt on
their balance sheets, and the assets that were supposed to balance
that debt were becoming worth less and less because of the rising
default rate and the drop in housing prices. These are the "write-
downs" that you hear about. The firms had to pay interest on that
debt, but they did not have the corresponding cash flow to be able to
pay the debt. Lehman, for example, had $5.4B of debt obligations last
quarter, but only had $2.3B in income.
When you can't pay your debt obligations, that's called being
insolvent. Many people think that bankruptcy is caused by having more
liabilities than assets, but that's not true. It's caused when you
can't make good on your debts, so the repo man comes and claims your
assets in order to make up for it. When that happens, you have to
file for bankruptcy in order to make sure that people get paid in the
correct order because otherwise different creditors are going to be
suing you to make sure they get what you owe them.
So that's where we are now with Lehman. They couldn't pay their
debts, so they had to file for bankruptcy.
Make sense?

I'm inclined to believe with tensim on this issue,

[tensim]

They aren't giving money away tensim, they are lending it out - providing short term liquidity, which would otherwise be unavailable because money is harder to borrow now

I'm not sure that it does have to be paid back you know... I think the US 'rescue plan' is to purchase all these 'toxic debts' into one organisation and then have that entity liquidated (though I don't quite understand what they're going to raise from this liquidation, who'se going to buy these assets again??)... As far as I can see, they're just going to write this off and be done with it?

Sure, there is short-term lending to keep things moving, but that's different to this US plan...

[SiM]

it's all the Central Banks around the world... UK, Australia, Japan... you name it, all the Feds Feds are pumping TAXPAYERS money into the 'financial' system

"Pumping" money usually refers to what I described.... I was replying to this post

The purchasing of toxic debt is a bailout at taxpayer's expense... but with most of these securities the taxpayers will only lose money in this if they default on their own mortgages - the bad debt, is money they owe

[TheAnimus]

Also, just remeber that during these last few years of boom, quite how much tax gets paid.

In the same way a cleaner on minimum wage in any civalised country is able to get benefits if they find themself out of work, but often they won't of contributed any tax. Then someone who's been contributing £500,000 a year, will be offered the same benefit. So its not as if the risk is been paid for by everyday hardworking joes.

Also remeber there isn't a bailout culture, Enron for instance went down, taking thousands of peoples pensions etc with it. No bailout there. Same goes with lehmans which was largerly owned by employees and former employees.

Fanny Mae and Mac are special, AiG would create massive problems if it collapses as people would be left without any protection.