You don't need to be an economist to understand what's going on..

So the first order of business is to do away with any feelings of intellectual intimidation you might have.., it's really not that difficult.., and you're more than capable of understanding it just as well as people in economics and finance do..

Here is what our economy looks like:



Disgusting isn't it? But don't be intimidated by it.., it just looks complicated.. It's designed that way so anyone who doesn't study economics says "fcuk this sh*t.., it looks so hard.., I don't get it.., I don't understand it".., and pays economists a lot of money to explain a rather simple flow diagram..

All that's going on here is seeing how money flows.. This is the economy! When people are talking about "the economy".., this is what they're all talking about!

Pick a starting point.., households or firms.. I personally like to start with households..

1. Households sell their labor to firms in return for money
2. Firms give money to households in return for their labor.., firms use the labor to produce goods and services and collect income from other households or firms
3. Income is taxed and a portion goes to government
4. Households.., firms and government save their current assets in financial institutions so that they can defer consumption or investment spending for a later time in the future..
5. Financial institutions lend funds out to anyone who requires financing.., and essentially.., the process starts all over again..

Throughout a year.., (365 days).. each dollar in the American economy would have completed a full cycle an average of 5 times! What does this mean for you?

It improves your standard of living..



The amount of money in the economy.., times the velocity of money (how fast it circulates through the economy over a period of time).., is equal to the price level of goods and services produced that year.., times the quantity of goods and services produced that year.. (sounds familiar? that sounds awfully close to the definition of GDP!)

How critical is the savings and loan industry? How important are financial institutions? Why should you really care about the health of the credit markets and major banks?

Look back to the circular flow diagram of money.., the macroeconomic model that is basically a snap-shot of this thing we call "the economy".. Notice what feeds the cycle.. notice what makes sure money keeps moving.., velocity remains steady.. Yeah.., financial institutions..

You start off with a school or university for example:

1. Collects tuition $5,000,000
2. Pays faculty $1,000,000
3. Pays staff workers $500,000
4. Pays maintenance staff $1,000,000
5. Pays for major projects & improvements $2,000,000
6. Now they all respectively have their expense for the year (consumption).., and choose to defer their consumption for a future time.. (investment).. They choose to save the rest..
7. That's $500,000 from the university.., $100,000 from the faculty.., $50,000 from the staff workers.., $100,000 from the maintenance staff.., and $200,000 from the construction companies.. ($950,000)..
8. This money is given to banks.., when then lend it out to let's say farmer Joe..
9. Who buys a new tractor.., seeds and pesticides.., cows and all-natural organic growth hormones for his cows.., etc.. ($950,000)..
10. Farmer Joe is then able to make income for the year in excess of what he borrowed.., pays back the amount borrowed in time.., and continues to save.. adding to the savings and loan market..
11. The suppliers of farmer Joe have done the same.., also adding to the savings and loan market..
12. Banks receive new savings and lend them out to a young entrepreneur who aspires to open up a gentleman's entertainment club.. He makes more than enough money throughout the year to pay the bank back.., and saves plenty more to add to the S&L market.. and the process keeps repeating itself.., over and over and over again..

In the span of one year.., financial institutions allow for an economy to increase its economic activity almost five-fold.. They transfer financial assets from those who wish to invest them and defer consumption for a later time (lenders).., to those who wish to accelerate their consumption and are in need of financial assets now (borrowers).. This market allows for people who need money.., to have money.., when they need it! Be it for purchasing a new home.., starting a new business.., meeting short-term obligations such as payroll expenses.., or having money to further their education.. The credit market is the oil that allows our entire economic engine to race at 100,000 rpm..

Continued..

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If you can't stop the Wind, then you can't stop the Storm.

What follows is that when people where living with a standard of living based on a $2 trillion / population economy.., they have now adjusted to a standard of living based on a $14 trillion / population economy..

Everyone has their television.., their apartment or home.., their car.., their computer.., their education.., their skincare products.., their nice clothes.., their organic health foods.., their "essentials".., and all their pretty things that make them feel special..

They do forget that it's incredibly easy to shake the entire system.., and something so much as a sneeze (tsunami.., earthquake.., drought.., pandemic.., war.., volcanic activity.., etc) can affect supply of input goods.., which can ripple through every sector of the economy.., and slow down the velocity at which money circulates.. (a good example is oil)..

But just as easily as the economy can be affected by external influences.., it can be controlled through internal ones.. Namely.., the thing next to velocity in that equation.., money supply!

Whoever controls the money supply.., effectively controls the entire economy.. That can be a good thing or a bad thing.. If you leave it up to a politician or someone who has no understanding of economics.., it's easy to keep printing money and cause hyperinflation.., making your money worth sh*t.., and effectively inducing a very low standard of living..

Leave it up to economists.., and even acts of g-d are not enough to shake a nation's economy..

Money.., what makes the world go round.. And putting it into the system or out of the system can affect several things.., the most important of which is "interest"..



Interest.., "interest rate" is the cost a borrower must incur to accelerate consumption (expenses) or investment (assets) spending right now!

The higher the cost.., the less consumption or investment you'll have.., which means this is money that will stay still.., not moving.., not representing income for anyone.., less economic activity.., translating to a lower standard of living for everyone..

The lower the cost.., the more consumption or investment you'll have.., which means this is money that is flowing.., moving.., representing more income.., more economic activity.., translating to a higher standard of living for everyone..

(Question: So why not keep the interest rate low all the time?)

(Answer: Because you have to consider what level of economic activity is "sustainable".. If you let the economy overheat.., prices will eventually fall down to their long-run equilibrium.., and when that happens.., it may be a rough transition for people to get readjusted to.., so the goal is always "sustainable" growth and economic activity)

So now the exciting part! (How this all ties together)

This is the economy in a simplistic mathematical snap-shot:



GDP is Consumption spending as a function of (Income - Taxes) "disposable income".., plus Investment spending as a function of the interest rate.., plus government spending.. (note: in an open economy.., it's nice to consider our net trade deficit.., just to make matters worse.., in case they weren't bad enough)

This means.., you can directly affect the standard of living and economic activity of a country just by having the power to influence interest rates..

With a healthy financial market.., when credit is vast and fluid.., people who want the money.., who want to consume and invest now.., will have the financing.., and that will lead to an increased GDP..

With a financial market that cannot offer credit to anyone.., when credit is tight.., people want to consume and invest now.., they see opportunities and require financing to realize them.., but there is no financing available to them.., which causes GDP to drop..

The only tool the Federal Reserve Bank has at its disposal.., are open market operations.. The ability to poor money into the economy (be buying bonds.., effectively dumping cash into the economy).. or by taking money out of the economy (by selling bonds.., effectively pulling money out of the economy and leaving it with bonds).. This change in the money supply will affect the interest rate.., which will then affect investment spending..

However.. when the financial institutions that are in place to execute credit and financing functions can no longer function properly (if at all).., then these tools are nearly useless.. What good is a lower interest rate.., if you can't find a bank to lend you credit or financing?

Continued..

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If you can't stop the Wind, then you can't stop the Storm.

The answer is.., it's completely useless.. The entire financial system is at a standstill.., which unfortunately.., brings the entire economic system at a standstill..

"Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist"

- John Maynard Keynes

But the problem isn't going to solve itself by casting blame and pointing fingers.., there's an imminent need for an immediate solution.., the phrase "time is of the essence" couldn't have been more fitting..

This gives rise to a new question.. What is causing the problem?

Imagine the credit market and financial institutions as one big bank (for the purposes of simplicity)

Let's be creative and use our imagination to come up with a name for what we would call such a bank.. Hmm.., let's call it.. Citigroup.. (hey.., I didn't major in art or creative writing.., so give me a break)

Let's go back to when this company was first created..

Assets: $1,000,000
Liabilities: $0
Equity: $1,000,000

Some people got together and said.. "psst.., hey guys.., let's make a bank.., We'll put some money down and start a business"..

Assets: $3,000,000,000,000
Liabilities: $2,000,000,000,000
Equity: $1,000,000,000,000

Then the company went public.., had more investors.., and also took on deposits which represent liabilities to the bank.. This was used to lend out money.., the bank converted one asset (cash) to an other asset (loans - account receivable).., the promise to receive payments in the future..

As I mentioned in an other thread.., people stop making payments.., these assets are not worth anything..

Assets: $2,100,000,000,000
Liabilities: $1,900,000,000,000
Equity $200,000,000,000

The more you discover that these promises to pay are worthless.., the less your assets become.., the less your equity becomes.., and you become financially insolvent (no longer able to meet obligations or function as a business).. In an effort to prevent this situation.., banks are hesitant to make any additional loans.. Wishing to keep assets in the form of (cash) as opposed to (loans).. (since now they cannot even sell them off to secondary markets by issuing mortgage backed securities)..

The political ideological debates that follow are:

Democrat: We should help out our economy.., we don't want to deal with the long-term consequences..
Republican: Government should not get involved.., let the market fix itself..

The latter argument doesn't really make much logical sense.., (and when your can't make an argument by appeal to logic.., you result to appeal to emotion).. so what you do see is an emotional appeal that many people fall for.. it sounds something like this:

"We're not going to force our honest & good American citizens with children and families to take care of to bail out fat cat CEOs down on Wall Street! We will not support a plan that makes taxpayers pay for the bad choices and poor management of giant and greedy corporations!"

It's very appealing.., I have to give it to them..

It's so much fun.., I had to give my own version a try..

If you don't do "something".. The entire financial system will be at a standstill.. Which may not mean much for a senator or congressman who's healthcare and food is paid by taxpayers and who makes a very generous salary each year with little worry about their job security.. But it does mean something to the average people who have to worry about their job salary and security.., it does mean something to people who have to worry about paying for their food and healthcare.., who don't know how to finance their child's education.. or get by to the next month and maintain even half the lifestyle they used to enjoy before this "recession" takes place..

(Isn't it ironic a well constructed emotional appeal can make people vote against their own interest by a 10:1 ratio?)

Anyway.., the rational appeal goes something like this..

If you don't give $700,000,000,000 in liquidity to these banks.., and buy their bad loans.., because nobody else will.., and give them the cash to be able to lend out to lower risk places.. Then you're going to see the economy shrink to 1/5th of what it is right now.. Which means you'll have to live with 1/5th of what you live on right now.. Which will just make it nearly impossible for people to make payments on outstanding debt.., making these assets worthless.., forcing these banks into bankruptcy.., making financing impossible.. If your idea of letting the market take care of itself is watching the re-birth of financial institutions and the credit markets in this country.. Then you must agree that a $700 billion bailout right now makes for a slightly better plan..

So you can take your head out of your ass.., and put your ideological emotional appeal bullsh*t on the side for a second.., and at least take your narrow-minded blinders off long enough to consider where you stand.., and where you're going to be standing just months from now if you fail to take immediate action..

Months ago.., the amount required to bailout bad debts was less than $450 billion.. This week it was estimated at $700 billion.. I hope this simple pattern is at least a bit obvious to lawmakers.., the more you let the credit market bleed.., the harder it will be to heal and mend it..

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If you can't stop the Wind, then you can't stop the Storm.

So Grk, you seem to think that they should have passed that bill today? Or am I misreading?

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"Sometimes the appropriate response to reality is to go insane." --Philip K. Dick

It'll suck for a while I'm sure, but we'll survive.

I mean.

I'll survive.

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Heil Frasbee

I think it should have been passed today.., Goose thinks it should have been passed last week.., my uncle who works at Citigroup thinks it should have been passed months ago as the real estate bubble burst.. (because the moment it burst and there were defaults.., it created the tumble-down-domino effect through the entire system that lead us to where we are today.., and for the moment.., there are still some dominoes standing.., for the moment..)

My friend Tony is very casual and relaxed about it.. The way he sees it.., he preforms and plays shows.. So he has nothing to do with the financial crisis.. I love people like that..

Little does he realize that the very people who employ him by requesting his services will be affected.., which makes it his problem too.., and he will be affected.. He won't just feel it on the income side of his budget.., but his expenses will jump up too.. You can expect a rent increase to adjust for the projected increase in inflation.. along with food and energy costs.., which will mean that every other "good" will be a little rougher on the ole' wallet..

Maybe it's not fair of me to say that he lives in his own little bubble of bliss.., maybe I'm just cheap and being overly conservative about personal budgeting.. But even if he doesn't like to plan for the worse.., the fact of the matter is that at the end of the day.., he can expect his income to drop and his expenses to go up.. He'll start to feel the crunch and realize that he's not immune to the very system he's a part of..

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If you can't stop the Wind, then you can't stop the Storm.

wow, that is a fantastic explanation. you studies economics?

Sooo

Out of curiosity, how will this affect property owners?

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My Demon revokes any prayer
He's grown contempt for love and hope
He betrays trust, twists truth and fair
Indifference is his way to cope
Engulfing sound of sensations
He quells with voices of despair
And muse of short lived inspirations
Flees at the sight of his cold stare
~Moy Demon - Mihayeel Lermontov~

What economic reporters are saying is that people aren't going to be able to get loans, so ultimately home owners aren't going to sell their houses because they won't be able to find buyers.

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"Sometimes the appropriate response to reality is to go insane." --Philip K. Dick

Scorp said it himself, and it's what my girlfriend and I have been saying forever.

People live well beyond their means.

Maybe now this will reset all of that.

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Heil Frasbee

Does that mean property prices will plummet due to fall in demand making them worthless and most banks will be out of business as more of their customers default on their loans for now too overpriced properties?

What happens if banks are out of business, does that mean the people they lent the money to in the first place no longer have to pay their loans? (if there is no bank to pay back to)



P.S. Is it the time yet to take the money out of the banks and hide it under the mattress?

__________________
My Demon revokes any prayer
He's grown contempt for love and hope
He betrays trust, twists truth and fair
Indifference is his way to cope
Engulfing sound of sensations
He quells with voices of despair
And muse of short lived inspirations
Flees at the sight of his cold stare
~Moy Demon - Mihayeel Lermontov~

it's a good thing i know how to live poor.

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love flowers best in openness and freedom. -edward abbey desert solitaire.

Give us tips? Pretty please? Pretty please with sugar on top? Or no, not sugar, too expensive. But still.

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This is a cross between a spoon and a fork. No more false choice between the left utensil and the right utensil. This is not an ideological choice. This is a choice in the middle and a choice for the future. This is a big, new idea—the spork.

It won't make property worthless, it will reset it to what the consumer can afford. I'm guessing we will see about a 25% drop in RE prices in my area.

I happen to think its a good time to purchase RE. A lot of ppl made $$$ off of the soaring interest rates in