26 September, 2008

Financial Crisis Pt 2

Now we are up into relatively modern times. I remember when Jimmy Carter was elected and I remember Ronald Reagan coming on the scene to supposedly clean up the mess(he tried, but failed).

Fannie Mae was also a quasi public entity(private stockholders with some government control) created in 1938 to help Americans buy homes. Basically a bank would loan someone the money to buy a house, then the bank would sell the loan to Fannie Mae and the interest and payments went to Fannie Mae until the loan was paid off. Freddie Mac was created for more of the same in 1970. As long as home values were going up(due to inflation) and people paid on their mortgages everything looked rosy.

Then under the Clinton administration new banking regulations were put in place that made non discrimination a part of the loan process. Banks had to have a certain percentage of loans to minorities. But since inflation was the rising tide that raises all boats the banks got away with this for a while. They loosened their lending standards and created things like "interest only loans" and "subprime mortgages"(low interest for a short period with a large gotcha at the end) so people with no income or ability to pay a mortgage could still buy a house. Then those notes were sold to Fannie Mae and Freddie Mac so they bank was off the hook. Another part of the trap was in place.

Because of many years of stability the US dollar had been the world's currency for many years. Because of this the Treasury could sell Treasury notes to the world to create the money the Fed loaned to banks(remember the banks loan out the same money 10 times). But in the last few years the Euro has gained strength against the dollar(because of the dollar's inflation) and is a threat to become the world's currency. This put even more pressure on the Fed to stop printing money and act responsibly. But like an alcoholic that goes back for one more drink, the couldn't stop printing.

Today the weak dollar with a deteriorating US economy(due largely to regulating and taxing business so much that costs are increased) has put us in a situation that can't continue. The banks have loaned out Billions of dollars 10 times over for property that isn't even worth what they loaned out on it. So if a bank has loans worth $10 million, but the property is only worth $8 Million they have lost $2 Million. But wait, remember they loaned out that same money 10 times, so they have lost $20 million. And once the panic starts, prices drop even more and starts the vicious cycle.

This is where we are today. Hopefully I have explained it well enough so that you see it is a direct result of improper(illegal and unconstitutional) government actions. Years of these actions for the benefit of extremely powerful and politically connected people have created a problem. So what is our government's solution. Give these rich people$700 Billion(today's estimate which works out to about $2500 for every man, woman, and child in the US)(what are the chances this government program will take more money that expected(over 100%))of US taxpayers money to keep them from taking a loss. This is a failure of socialism with more socialism prescribed as the cure.

So what should be done? The government should allow these companies to fail if they cannot pay their notes. Those failures will definitely hurt our economy and make life difficult for a while. But much of the burden will be on the rich and powerful who legislated the problem. Get the government out of the business of regulating banks and such and let the true free market work. Government regulation keeps out competition for the rich and powerful and enables them to outcompete the little guys for a while. Ultimately we should get back to the gold standard where we have a money that is worth something and can't be manipulated for the benefit of the rich and powerful. This goes along with returning our government to its constitutionally defined limits before it strangle the US.

What can you do to protect yourself? Well, hopefully you started years ago getting out of debt. It is real hard to accomplish much now, but get to work on it. Owning gold helps protect your value, but is difficult and impractical for many. The only things that truly hold their value in inflation are "hard" assets(real estate, precious metals, etc). Be at least somewhat self sufficient. Have cash reserves, both in the bank and real cash on hand. Pray that GOD protects you and guides you through this mess. It has the potential to get very ugly.

For more studies

Shadow Stats shows the US money supply over time and demonstrates what inflation really is and how bad it has been.

The Ludwig von Mises institute can educate you about how economics really works

Dave Ramsey can teach you how to get out of debt. I love his work, but some of his advice was only good in the past and I don't think is the best option in the future.

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