Not So Dismal

Making Economics a Little Easier to Understand

Posts Tagged ‘Malinvestment

A Gloomy but Great Day for America

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Today is a great, if gloomy, day for America. Congress continues to do what it has always done best: stall and tend towards inaction and gridlock. The American people should be very approving, in this case.

A bailout is unnecessary. The issue here lies in low interest rates and accounting rules, not how quickly the Treasury can print new money. Since the Greenspan era, the Fed “target rate”, or the charge at which the Fed would like to see banks loan money to each other overnight, has almost constantly been negative once inflation is taken into account. This rate directly affects the interest rates offered by banks to consumers, the rates that all manner of corporate paper garners, etc. When interest rates are kept so low, subprime investments emerge; with money still left to loan at cheap rates after all of the normally-acceptable loanees have been placated, “malinvestment” occurs.

This malinvestment must be allowed to diffuse itself. Yes, this means a period of slower economic growth, and possibly even a short period of recession. But another word for recession is reorganization: various resources are simply shifting from one failed business or policy into a new and more promising one. Just as a child might build a better toy spaceship out of Lego pieces only by first taking apart his old design, so an economy must liquidate the bad before creating newer and better opportunities.

We see it almost hourly now: various banks failing or being purchased at low prices relative to their assets. This is a good thing because those that made mistakes are being made to pay for them, swiftly and surely. However, the originator of all this trouble has yet to be taken fully to task: the Congress, forcing bad loan policies on banks, the Fed with its artificially low rates and the GSEs with their wreckless decisions all hold equal blame with those that actually made loans at the end of the day for creating a scenario almost impossible to resist.

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Written by caseyayers

29 September, 2008 at 7:50 pm