主题：【讨论】美国7000亿救市计划的缺陷和这次金融危机的深化 -- 厚积薄发

[/COLOR]最后说说我翻译这些文章的动机。我不想讳言自己的理想：无论中国是何种政治体制，这个体制一定要让人民真正地参与到国家的管理与决策中来；无论中国采取何种经济体制，一定要能让勤奋聪明、诚实劳动的人脱颖而出。[COLOR=red]

这是我们这个民族的希望和脊梁!

HOME (Home Owners’ Mortgage Enterprise): A 10 Step Plan to Resolve the Financial Crisis

Nouriel Roubini | Sep 24, 2008

Even if the Treasury TARP plan is implemented fairly and efficiently the US will not avoid a severe U-shaped18-month recession and a severe financial and banking crisis: the recession train has already left the station in Q1 and the financial/banking crisis will be severe regardless of what the Treasury and the Fed do from now on. What a proper rescue plan can do is to avoid having the US experience a multi-year L-shaped recession and extreme financial crisis like the one that led to a decade long stagnation in Japan in the 1990s after the bursting of their real estate and equity bubbles.

I have also argued that, in order to resolve this financial crisis it is not enough to take the bad/toxic assets off the balance sheet of the financial institutions (a new RTC); it is also necessary and fundamental to reduce the debt overhang of millions of insolvent households via a significant debt reduction on their mortgages (an HOLC program like the one that was implement during the Great Depression); and also recapitalize undercapitalized banks with public capital in the form of preferred shares (as the RFC did with 4000 banks during the Great Depression). An RTC scheme without an HOLC and RFC component would not resolve two fundamental problems: millions of households are insolvent and unable to service their mortgages; the financial system is vastly undercapitalized and needs capital to avoid an ugly credit crunch and to foster new credit creation that is needed for future growth.

That is why I proposed the creation of a HOME (Home Owners’ Mortgage Enterprise) that would be a combination of an RTC, a HOLC and a RFC. Let me flesh out this proposal and its key elements and compare it to the Treasury TARP proposal that in its current form has many flaws.

There are 10 steps in this HOME proposal to resolve this most severe financial crisis. Here they are:

First, like in the Treasury TARP plan you need to buy illiquid/toxic assets and take them off the balance sheet of banks and financial institutions to reliquify them and allow new credit creation. The biggest problem here – as the debate between Bernanke and senators yesterday is one of the proper valuation and the proper price at which the government should buy these assets (the RTC did not have this problem as it was working out assets of failed S&Ls): if the government buys the asset at at price that is too high (too small of discount relative to face value) the fiscal cost will be huge and you massively subsidize reckless bankers and their shareholders. If you buy at a discount that is too high you minimize the fiscal cost in the short run but many banks could go bust and the eventual fiscal cost of bailing out the depositors of failed banks could be large. You can debate endlessly whether such assets should be bought at current market price or at prices closer to hold to maturity values (as Bernanke suggested). Given that these assets are impaired pricing the long run value of them is mission impossible. Thus, there is only one solution to this fundamental uncertainty: avoid the government overpaying by having the government having some of the positive benefits of an upside gain in case the banks’ values recover after the bailout. I.e. you need for the government to have some equity in the banks whose assets are purchased by the government. This leads to step 2 of the proposal.

Second, in exchange for the purchase of illiquid asset (at whatever price it is agreed) the government gets preferred shares in the financial institutions that senior to existing common and preferred shares and that are convertible into common shares to allow government to participate into any future upside.

Third, even if the government gets preferred shares as in step 2, the banks will need more capital if they are undercapitalized and they have not fully reserved/provisioned for the losses coming from writing down the asset being sold to the government. So you will need to inject further actual public capital in the form of preferred shares in the financial institutions ( this is what the RFC did during the Great Depression).

Fourth, given the risk to the government deriving from the public injection of capital in the financial system the existing shareholders of the banks need to take a first-tier loss to minimize the risks for the government share. How to do that? First, you need to suspend dividend payments on common share and possibly even existing preferred shared; you also need to force to partially match the public capital injection with new Tier 1 capital.

Fifth, public and private recapitalization of financial institutions unfairly benefits unsecured creditors (all creditors but insured depositors) of such institutions. So, you also need to convert some of this unsecured debt (the sub debt and other debt unsecured debt) into equity (a debt for equity swap). Such swap further reduce the leverage of the financial system (leading to a lower debt to equity ratio for financial institutions).

Sixth, after this crisis is resolved the banking and financial system may need lower capital than before this crisis so as to avoid new asset and credit bubbles; and if you recapitalize some banks that will be able to lend more (still with lower leverage ratios) you still need to let other insolvent banks and financial institutions to go bust and disappear. Only healthier institution should survive. So you need to a systematic triage between banks that are distressed, undercapitalized and illiquid but solvent once the private and public recapitalization occurs from those that are fundamentally insolvent and that need to be shut down. You need to destroy the bad apples to let the good ones or the sick but curable ones survive and thrive.

Seventh, as in the case of the RTC the assets of the banks that are bankrupt and are allowed to fail go to the HOME for workout (debt restructuring/reduction).

• 【讨论】美国7000亿救市计划的缺陷和这次金融危机的深化

Eighth, you need an HOLC-like program for debt reduction of the household sector. Households in the US have too much debt (subprime, near prime, prime mortgages, home equity loans, credit cards, auto loans and student loans) while their assets (values of their homes and stocks) are plunging leading to a sharp fall in their net worth. And households are getting buried under this mountain of mounting debt and rising debt servicing burdens. Thus, a fraction of the household sector – as well as a fraction of the financial sector and a fraction of the corporate sector and of the local government sector – is insolvent and needs debt relief. When a country (say Russia, Ecuador or Argentina) has too much debt and is insolvent it defaults and gets debt reduction and is then able to resume fast growth; when a firm is distressed with excessive debt it goes into bankruptcy court and gets debt relief that allows it to resume investment, production and growth; when a household is financially distressed it also needs debt relief to be able to have more discretionary income to spend. So any unsustainable debt problem requires debt reduction. The lack of debt relief to the distressed households is the reason why this financial crisis is becoming more severe and the economic recession - with a sharp fall now in real consumption spending – now worsening. The fiscal actions taken so far (income relief to households via tax rebates) and bailouts of distressed financial institutions (Bear Stearns creditors’ bailout, Fannie and Freddie and AIG) do not resolve the fundamental debt problem for two reasons. First, you cannot grow yourself out of a debt problem: when debt to disposable income is too high increasing the denominator with tax rebates is ineffective and only temporary; i.e. you need to reduce the nominator (the debt). Second, rescuing distressed institutions without reducing the debt problem of the borrowers does not resolve the fundamental insolvency of the debtor that limits its ability to consume and spend and thus drags the economy into a more severe economic contraction. So of the five possible uses of fiscal policy – income relief to households (the 2008 tax rebate), rescue/bailout of financial institutions (Bears Stearns, Fannie and Freddie, AIG), purchase of assets of failed institutions (an RTC-like institution), recapitalization of undercapitalized financial institutions (an RFC-like institution), government purchase of distressed mortgages to provide debt relief to households (an HOLC-like institution) – the last option is the most important and effective to resolve this severe financial and economic crisis. During the Great Depression the Home Owners’ Loan Corporation was create to buy mortgages from bank at a discount price, reduce further the face value of such mortgages and refinance distressed homeowners into new mortgages with lower face value and lower fixed rate mortgage rates. This massive program allowed millions of households to avoid losing their homes and ending up in foreclosure. The HOLC bought mortgages for two year and managed such assets for 18 years at a relatively low fiscal cost (as the assets were bought at a discount and reducing the face value of the mortgages allowed home owners to avoid defaulting on the refinanced mortgages). A new HOLC will be the macro equivalent of creating a large “bad bank” where the bad assets of financial institutions are taken off their balance sheets and restructured/reduced.

Ninth, we need to avoid a situation where the recapitalization of the banks and the resolution of this financial crisis leads to another credit and asset bubble. Many things need to be done to avoid this risk but a rapid change of the Basel II capital adequacy ratios to reduce their the pro-cyclicality would be essential.

Tenth, start implementing rapidly a reform of the system of regulation and supervision of financial institutions in a world of financial globalization. With the collapse of most of the shadow banking system most of these shadow banks are now being folded in the traditional banks and will be regulated like banks. Indeed all institutions of large size and that are systemically important (commercial banks, investment banks, non-bank mortgage lenders, hedge funds, private equity funds, etc.) should be supervised and regulated in a similar way. To make the financial system more stable over time and avoid severe financial crises like the current one will require that both banks and former shadow banks be regulated and supervised better than they have been in the last decade. After all traditional banks have performed as poorly – and some more poorly – and have lost more money than shadow banks during this severe financial crisis. So both the poor regulation and supervision of banks (as regulators were asleep at the wheel while the laissez fair ideology and voodoo-cult of self-regulation and market discipline and internal risk management became dominant) and the lack of sensible regulation of shadow banks lies behind the current financial disaster. Thus, folding shadow banks back into the traditional banking system will make the overall financial system more stable only if the proper reform of the regulation and supervision of financial institutions in a world of financial globalization will be undertaken. This important matter is the subject of the chapter (titled “Financial Crises, Financial Stability, and Reform: Supervision and Regulation of the Financial System in a World of Financial Globalization”) that I have written for the recently published World Economic Forum’s Financial Development Report.

This chapter analyzes in detail the episodes of financial crisis in emerging market economies and advanced economy; discusses the causes and consequences of such crisis; measures the economic and fiscal costs of such crises; discusses the debate on whether monetary and credit policy should target asset prices and asset bubbles; studies the weaknesses of financial regulation and supervision in advanced economies financial systems that led to the recent crises; and finally considers eleven separate key issues in the reform of the regulation and supervision of financial institutions in a world of financial globalization that are necessary to prevent future crisis and make them less virulent. These eleven issues that are key in reforming financial regulation and supervision are: the distorted compensation system of bankers/traders and the related agency problems between financial institutions shareholders and their managers; the flaws of the originate and distribute securitization model; regulatory arbitrage and the instability of the shadow banking system given its reliance on short term liquid financing, high leverage and long term illiquid lending; the weaknesses of self-regulation and market discipline and the need of greater rules-based regulation; pro-cyclical capital requirements and other issues with the Basel II capital requirements; the distorted incentives of credit rating agencies; asset valuation and fair value accounting in a world where assets can be highly illiquid and hard to price; the lack of transparency in financial markets; the inadequate regulatory regime; the lack of international coordination of regulatory policies; and the issue of who will regulate the regulators, i.e. how to avoid the regulatory capture by the financial industry of the regulators and supervisors of financial institutions.

So now that the shadow banking system is being folded in the formal banking system it is high time to rethink how both banks and the former non-bank financial institutions should be properly regulated and supervised.

这几天经常看鲁比尼的文章，感觉受益良多。在此谢过了。

The unraveling of the Shadow Banking System moves to hedge funds as Schmalpha replaces Alpha

Nouriel Roubini | Sep 23, 2008

In my column in the FT yesterday I described the unraveling and demise of the shadow banking system that started with non-bank mortgage lenders, SIVs and conduits, major independent monoline broker dealers and money market funds.

I then argued that the next leg of this unraveling would be hedge funds and private equity firms and their reckless LBOs:

“The next stage will be a run on thousands of highly leveraged hedge funds. After a brief lock-up period, investors in such funds can redeem their investments on a quarterly basis; thus a bank-like run on hedge funds is highly possible. Hundreds of smaller, younger funds that have taken excessive risks with high leverage and are poorly managed may collapse. A massive shake-out of the bloated hedge fund industry is likely in the next two years.”

And indeed, faster than I can type it, this run on part of the hedge fund industry has already started. As reported by the Independent under the headline “Hedge Funds Suffer Mass Redemptions”:

Hedge funds could have an unprecedented level of cash pulled out by investors this quarter, according to insiders, just as they faced millions of pounds of losses from last week's shock regulation of short selling. It has been a tough year for the industry with high-profile funds blowing up, clients increasing redemptions, as well as public fury over short selling and increased threats of regulation.

One hedge fund expert pointed to The Hedge Fund Implode-O-Meter (HFI) as how he judges the state of the industry. The HFI was set up online in the wake of the credit crunch "to track as hedge funds learn the double-edged-sword nature of the often extreme leverage they use".

The group's "imploded funds" list has hit 51 companies since the sub-prime mortgage crisis in the United States kicked off a widespread downturn. That compares with its historical list, stretching back more than a decade to the end of 2006, of just 14, including the collapse of Long-Term Capital Management and Amaranth.

This year, big names including Peloton Capital Partners, Carlyle Capital Corporation and Dillon Read Capital Management are just some of the half century to collapse. "We think hedge funds have largely lost their way," HFI said. "Notably, most have abandoned capital-preservation for the goal of aggressive accumulation of capital gains, with the benefit of lax regulation and extreme leverage available to exploit."

It has 34 stocks on its "ailing/watch list" of those that have suffered significant value declines or temporarily halted redemptions. According to EuroHedge, a hedge fund data provider, 272 individual funds strategies were launched during the first six months of 2008, the lowest for nine years. In the same time, 243 funds have been liquidated, the highest in a six-month period.

Nouriel Roubini, the New York University economics professor, says worse is to come. He believes there will be an increase in client withdrawals and a shake-up of how funds are regulated.

The redemptions seem to have started in earnest, although currently the evidence is mainly anecdotal. One UK hedge fund manager confided that last week had the highest number of investors rushing to withdraw funds that he has known. The industry will know for sure whether it is a drip or a deluge when the data providers release their statistics for the third quarter, next month. One market analyst said: "I know even the good hedge funds have been suffering withdrawals recently. Investors are very nervous."

Performance numbers are also under pressure. Some have done well out of the market disturbance, but on average the performance numbers are at a low ebb. Andrew Baker, the deputy head of Aima, the hedge fund trade body, said: "The performance is undoubtedly soggy. There are not many strategies that stand out."

EuroHedge revealed that strategies that have done particularly badly this year include several run by Naissance Capital, once bankrolled by the Habsburg families, which are down a fifth and Pico Fund, which is down 32 per cent. At Endeavour Fund, set up by former Salomon Smith Barney traders, the second fund has fallen by 40 per cent, while its third fund is down 38.79 per cent in 2008. In the emerging markets, PharmaInvest Fund's investments in emerging markets are 38.16 per cent down.

Other funds have sought to lock in investors by halting redemptions. The latest example was RAB, with its flagship Special Situations Fund, as it was so desperate to prevent exits after a 22 per cent drop in performance that it offered vastly reduced fees in return for a lock-in period of three years.

One of the main problems experienced by hedge funds is the extent of leverage in the industry. The funds were able to take on huge amounts of debt, with little capital needed as security, to boost returns. One observer said some of the leveraged strategies were like "picking up pennies in front of a steamroller, and that only takes a turn in the market to cause severe problems".

Andrew Lodge, the managing director of fund of hedge funds Nedbank Investments, said: "Some funds have gone in for huge leverage-driven strategies, which can be a problem. The appetite for leverage is less." He added that some could be affected by increased margin calls, and could face issues over their covenants.

At the same time, hedge funds, like the banks, have had to write down exposures to investments in risky instruments including collateralised debt obligations and asset backed securities, and also been exposed to the huge swings in the market.

• 【讨论】美国7000亿救市计划的缺陷和这次金融危机的深化

我们俩合伙去买，是不是可以省一点啊。

Another issue is the regulators sniffing around. There have been wider calls for transparency and official controls of the industry, which has already been stung by the shock short-selling rules.

Mr Lodge said: "It's a myth to say hedge funds aren't regulated. There is a perception that they are running wild with no oversight, which isn't true. We would welcome some regulation, just as long as it doesn't strangle the industry."

On Friday, the FSA banned short selling in financial stocks, and forced hedge funds to disclose their positions. As the underlying shares rose as a result, the industry was looking at well over 1bn in paper losses on the day.

Stuart McLaren, financial services partner at Deloitte, said: "When the dust has settled, I expect the regulators to look at the role that hedge funds have played in the current issues. I expect there will be increased calls for regulation, but I doubt much will come from it."

Mr Baker said: "Some hedge funds are doing well. However, the number of professionals feeling good about life will be dwindling. The health indicators are generally negative, while costs are up and performance is down. Many are feeling battered and bruised and feeling worried about the future."

Let me now discuss in more detail this unraveling of parts of the hedge fund industry…

First, note that too much of the shadow banking system was about “Schmalpha” rather than “Alpha” i.e. the returns that fund managers and asset managers were getting – by imposing ridiculously high management fees of 2% or more – by parting investors with a good chunk of their assets rather than superior absolute returns. 2/20 most of the time was 2% for the fund managers and no 20% (some time single digit returns and this year actual negative ones) for investors. This scam is now unraveling. Also many funds were following high risk strategy (high leverage and extremely risky bets) that, for a while, were providing superior returns but were bound – with probability one – to lead to the collapse of the such funds. And given lack of transparency in the industry it was very difficult to distinguish between managers getting high return because of reckless gambles compared to those who were superior managers.

Of course there are thousands of high quality managers in the hedge funds industry and some provide superior returns and diversification; but there was also plenty of mediocre talent going into this industry as in the go-go years of the hedge funds bubble any trader with an ok return could raise money and create its own fund. And a bank run on the hedge funds is exacerbated by the fact that, on top of redemptions of the investors, shares many funds are highly leveraged and rely – like broker dealers – on overnight repos for their funding. And with prime brokers now defunct (Bear, Lehman) or squeezed and losing billions there is a significant risk that credit to hedge funds will be significantly curtailed.

Could one or more systemically important fund go belly up and lead to a systemic shocks. While no major player today is as leveraged as LTCM in 1998 many of these funds are much larger than LTCM was. So while until now the financial crisis has been concentrated among traditional banks, broker dealers and their off balance sheet scams (SIVs/conduits) one cannot rule out that some systemically important hedge fund may get into trouble with systemic consequences. In 1998 the NY Fed orchestrated a private sector bailout of LTCM. What would happen today if a large and systemically important hedge fund were to collapse? Will the Fed then extend to deposit insurance to hedge funds too as it did for money market funds? Will the Fed extend its lender of last resort support to hedge funds as it did for major broker dealers? Of course not even if the events of the last few months show the desperation of the policy makers leading them to desperate – and at times reckless – actions.

Given the systemic importance of larger hedge funds the time when the hedge fund industry will start to be directly regulated are also coming closer. Indirect regulation – the approach favored by the industry and the G7 so far – has not worked. We will soon move towards more direct regulation.

Already the SEC is literally forcing all hedge funds to reveal their short positions as part of its investigation of alleged manipulation by hedge funds of financial firms’ stock. While months ago hedge funds were fighting a battle to avoid even minimal reporting of their positions to authorities they are now slapped with across the board restrictions on short sales and being forced to report their short sales to the SEC. So the process of directly regulating hedge funds has already effectively begun even before formal executive and legislative action is taken to formalize this regulation.

Is Purchasing $700 billion of Toxic Assets the Best Way to Recapitalize the Financial System? No! It is Rather a Disgrace and Rip-Off Benefitting only the Shareholders and Unsecured Creditors of Banks

Nouriel Roubini | Sep 28, 2008

Whenever there is a systemic banking crisis there is a need to recapitalize the banking/financial system to avoid an excessive and destructive credit contraction. But purchasing toxic/illiquid assets of the financial system is not the most effective and efficient way to recapitalize the banking system. Such recapitalization – via the use of public resources – can occur in a number of alternative ways: purchase of bad assets/loans; government injection of preferred shares; government injection of common shares; government purchase of subordinated debt; government issuance of government bonds to be placed on the banks’ balance sheet; government injection of cash; government credit lines extended to the banks; government assumption of government liabilities.

A recent IMF study of 42 systemic banking crises across the world provides evidence on how different crises were resolved. First of all only in 32 of the 42 cases there was government financial intervention of any sort; in 10 cases systemic banking crises were resolved without any government financial intervention. Of the 32 cases where the government recapitalized the banking system only seven included a program of purchase of bad assets/loans (like the one proposed by the US Treasury). In 25 other cases there was no government purchase of such toxic assets. In 6 cases the government purchased preferred shares; in 4 cases the government purchased common shares; in 11 cases the government purchased subordinated debt; in 12 cases the government injected cash in the banks; in 2 cases credit was extended to the banks; and in 3 cases the government assumed bank liabilities. Even in cases where bad assets were purchased – as in Chile – dividends were suspended and all profits and recoveries had to be used to repurchase the bad assets. Of course in most cases multiple forms of government recapitalization of banks were used.

But government purchase of bad assets was the exception rather than the rule. It was used only in Mexico, Japan, Bolivia, Czech Republic, Jamaica, Malaysia, and Paraguay. Even in six of these seven cases where the recapitalization of banks occurred via the government purchase of bad assets such recapitalization was a combination of purchase of bad assets together with other forms of recapitalization (such as government purchase of preferred shares or subordinated debt).

In the Scandinavian banking crises (Sweden, Norway, Finland) that are a model of how a banking crisis should be resolved there was not government purchase of bad assets; most of the recapitalization occurred through various injections of public capital in the banking system. Purchase of toxic assets instead – in most cases in which it was used – made the fiscal cost of the crisis much higher and expensive (as in Japan and Mexico).

Thus the claim by the Fed and Treasury that spending $700 billion of public money is the best way to recapitalize banks has absolutely no factual basis or justification. This way of recapitalizing financial institutions is a total rip-off that will mostly benefit – at a huge expense for the US taxpayer - the common and preferred shareholders and even unsecured creditors of the banks. Even the late addition of some warrants that the government will get in exchange of this massive injection of public money is only a cosmetic fig leaf of dubious value as the form and size of such warrants is totally vague and fuzzy.

So this rescue plan is a huge and massive bailout of the shareholders and the unsecured creditors of the financial firms (not just banks but also other non bank financial institutions); with $700 billion of taxpayer money the pockets of reckless bankers and investors have been made fatter under the fake argument that bailing out Wall Street was necessary to rescue Main Street from a severe recession. Instead, the restoration of the financial health of distressed financial firms could have been achieved with a cheaper and better use of public money.

Indeed, the plan also does not address the need to recapitalize those financial institutions that are badly undercapitalized: this could have been achieved by using some of the $700 billion to inject public funds in ways other and more effective than a purchase of toxic assets: via public injections of preferred shares into these firms; via required matching injections of Tier 1 capital by current shareholders to make sure that such shareholders take first tier loss in the presence of public recapitalization; via suspension of dividends payments; via a conversion of some of the unsecured debt into equity (a debt for equity swap). All these actions would have implied a much lower fiscal costs for the government as they would have forced the shareholders and creditors of the banks to contribute to the recapitalization of the banks. So less than $700 billion of public money could have been spent if the private shareholders and creditors had been forced to contribute to the recapitalization; and whatever the size of the public contribution were to be its distribution between purchases of bad assets and more efficient and fair forms of recapitalization (preferred shares, common shares, sub debt) should have been different. For example if the private sector had done its fair matching share only $350 billion of public money could have been used; and of this $350 billion half could have taken the form of purchase of bad assets and the other half should have taken the form of injection of public capital in these financial institutions. So instead of purchasing – most likely at an excessive price - $700 billion of toxic assets the government could have achieved the same result – or a better result of recapitalizing the banks – by spending only $175 billion in the direct purchase of toxic assets. And even after the government will waste $700 billion buying toxic assets many banks that have not yet provisioned for such losses/writedowns will be even more undercapitalized than before. So this plan does not even achieve the basic objective of recapitalizing undercapitalized banks.

The Treasury plan also does not explicitly include an HOLC-style program to reduce across the board the debt burden of the distressed household sector; without such a component the debt overhang of the household sector will continue to depress consumption spending and will exacerbate the current economic recession.

Thus, the Treasury plan is a disgrace: a bailout of reckless bankers, lenders and investors that provides little direct debt relief to borrowers and financially stressed households and that will come at a very high cost to the US taxpayer. And the plan does nothing to resolve the severe stress in money markets and interbank markets that are now close to a systemic meltdown. It is pathetic that Congress did not consult any of the many professional economists that have presented - many on the RGE Monitor Finance blog forum - alternative plans that were more fair and efficient and less costly ways to resolve this crisis. This is again a case of privatizing the gains and socializing the losses; a bailout and socialism for the rich, the well-connected and Wall Street. And it is a scandal that even Congressional Democrats have fallen for this Treasury scam that does little to resolve the debt burden of millions of distressed home owners.

• 【讨论】美国7000亿救市计划的缺陷和这次金融危机的深化

The US and global financial crisis is becoming much more severe in spite of the Treasury rescue plan. The risk of a total systemic meltdown is now as high as ever

Nouriel Roubini | Sep 29, 2008

It is obvious that the current financial crisis is becoming more severe in spite of the Treasury rescue plan (or maybe because of it as this plan it totally flawed). The severe strains in financial markets (money markets, credit markets, stock markets, CDS and derivative markets) are becoming more severe rather than less severe in spite of the nuclear option (after the Fannie and Freddie $200 billion bazooka bailout failed to restore confidence) of a $700 billion package: interbank spreads are widening (TED spread, swap spreads, Libo-OIS spread) and are at level never seen before; credit spreads (such as junk bond yield spreads relative to Treasuries are widening to new peaks; short-term Treasury yields are going back to near zero levels as there is flight to safety; CDS spread for financial institutions are rising to extreme levels (Morgan Stanley ones at 1200 last week) as the ban on shorting of financial stock has moved the pressures on financial firms to the CDS market; and stock markets around the world have reacted very negatively to this rescue package (US market are down about 3% this morning at their opening).

Let me explain now in more detail why we are now back to the risk of a total systemic financial meltdown…

It is no surprise as financial institutions in the US and around advanced economies are going bust: in the US the latest victims were WaMu (the largest US S&L) and today Wachovia (the sixth largest US bank); in the UK after Northern Rock and the acquisition of HBOS by Lloyds TSB you now have the bust and rescue of B&B; in Belgium you had Fortis going bust and being rescued over the weekend; in German HRE, a major financial institution is also near bust and in need of a government rescue. So this is not just a US financial crisis; it is a global financial crisis hitting institutions in the US, UK, Eurozone and other advanced economies (Iceland, Australia, New Zealand, Canada etc.).

And the strains in financial markets – especially short term interbank markets - are becoming more severe in spite of the Fed and other central banks having literally injected about $300 billion of liquidity in the financial system last week alone including massive liquidity lending to Morgan and Goldman. In a solvency crisis and credit crisis that goes well beyond illiquidity no one is lending to counterparties as no one trusts any counterparty (even the safest ones) and everyone is hoarding the liquidity that is injected by central banks. And since this liquidity goes only to banks and major broker dealers the rest of the shadow banking system has not access to this liquidity as the credit transmission mechanisms is blocked.

After the bust of Bear and Lehman and the merger of Merrill with BofA I suggested that Morgan Stanley and Goldman Sachs should also merge with a large financial institution that has a large base of insured deposits so as to avoid a run on their overnite liabilities. Instead Morgan and Goldman went for the cosmetic approach of converting into bank holding companies as a way to get further liquidity support – and regulation as banks – of the Fed and as a way to acquire safe deposits. But neither institution can create in a short time a franchise of branches and neither one has the time and resources to acquire smaller banks. And the injection of $8 b of Japanese capital into Morgan and $5 b of capital from Buffett into Goldman is a drop in the ocean as both institutions need much more capital. Thus, the gambit of converting into bank while not being banks yet has not worked and the run against them has accelerated in the last week: Morgan’s CDS spread went through the roof on Friday to over 1200 and the firm has already lost over a third of its hedge funds clients together with their highly profitable prime brokering business (this is really a kiss of death for Morgan); and the coming roll-off of the interbank lines to Morgan would seal its collapse. Even Goldman Sachs is under severe stress losing business, losing money, experiencing a severe widening of its CDS spreads and at risk of losing most of its values most of its lines of business (including trading) are now losing money.

Both institutions are highly recommended to stop dithering and playing for time as delay will be destructive: they should merge now with a large foreign financial institution as no US institution is sound enough and large enough to be a sound merger partner. If Mack and Blankfein don’t want to end up like Fuld they should do today a Thain and merge as fast as they can with another large commercial banks. Maybe Mitsubishi and a bunch of Japanese life insurers can take over Morgan; in Europe Barclays has its share of capital trouble and has just swallowed part of Lehman; while most other UK banks are too weak to take over Goldman. The only institution sound enough to swallow Goldman may be HSBC. Or maybe Nomura in Japan should make a bid for Goldman. Either way Mack and Blankfein should sell at a major discount of current price their firm before they end up like Bear and be offered in a few weeks a couple of bucks a share for their faltering operation. And the Fed and Treasury should tell them to hurry up as they are both much bigger than Bear or Lehman and their collapse would have severe systemic effects.

When investors don’t trust any more even venerable institutions such as Morgan Stanley and Goldman Sachs you know that the financial crisis is as severe as ever and the fear of collapse of counterparties does not spare anyone. When a nuclear option of a monster $700 billion rescue plan is not even able to rally stock markets (as they are all in free fall today) you know this is a global crisis of confidence in the financial system. We were literally close to a total meltdown of the system on Wednesday (and Thursday morning) two weeks ago when the $85 b bailout of AIG led to a 5% fall in US stock markets (instead of a rally). Then the US authorities went for the nuclear option of the $700 billion plan as a way to avoid the meltdown together with bans on short sales, a guarantee of money market funds and an injection of over $300 billion in the financial system. Now the prospect of this plan passing (but there is some lingering deal risk the votes in the House are not certain) -as well as the other massive policy actions taken to stop short selling “speculation” and support interbank markets and money market funds - is not sufficient to make the markets rally as there is a generalized loss of confidence in financial markets and in financial institutions that no policy action seem to be able to control.

The next step of this panic could become the mother of all bank runs, i.e. a run on the trillion dollar plus of the cross border short-term interbank liabilities of the US banking and financial system as foreign banks as starting to worry about the safety of their liquid exposures to US financial institutions; such a silent cross border bank run has already started as foreign banks are worried about the solvency of US banks and are starting to reduce their exposure. And if this run accelerates - as it may now - a total meltdown of the US financial system could occur. We are thus now in a generalized panic mode and back to the risk of a systemic meltdown of the entire financial system. And US and foreign policy authorities seem to be clueless about what needs to be done next. Maybe they should today start with a coordinated 100 bps reduction in policy rates in all the major economies in the world to show that they are starting to seriously recognize and address this rapidly worsening financial crisis.

• 【讨论】美国7000亿救市计划的缺陷和这次金融危机的深化

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