Gambling America's Future

Numeroligists should be very excited today.  The Dow fell 777.68 points today and 777 is definitely an interesting number.  It couldn't be just a coincidence right?  In fact, if you just round off that last digit, you get four 7's.  A client joked with me today "isn't 7 lucky in craps?"  It couldn't have been a better set up since seven is both lucky and unlucky in craps depending on the situation.  Today, the U.S. House of Representatives voted against the Paulson Plan we have discussed here which sent stocks tumbling by that interesting number.  Incidentally, that fall represented 7% of the market's value- a cool $1 Trillion.  Since I did not intend to waste electronic ink espousing why numerology is bunk, I'll go with the gambling analogy. 

Our elected leaders displayed a truly astonishing hubris today in putting the interests of their reelection ahead of the country and it is a gamble with unreasonable odds.  I want to believe they did this only because they just simply do not understand how critical the situation has become.  Our mission here is to be apolitical, but our mission is also to present facts.  The fact of the matter is that today's vote may bring about our worst economic fears.

Hours before today's vote, European markets were down about 5% overnight because of bank failures over the weekend.  So even before the vote, the plan's passage was needed even more to boost confidence. I witnessed things today never expected.  For example, Rick Santelli launched into an aggressive tirade about the lack of action on CNBC.  If any of you are regular CNBC viewers, you will recognize Rick as a bastion of calm and collectedness reporting from the trading floors.  In my career, I have never once witnessed him lose composure and yet today he did.  Later in the day, a variety of CNBC hosts ripped into Congresspeople who came on the show to explain why they voted against it- not one seemed to comprehend the magnitude of the decision.  CNBC hosts are usually overly polite to the point of being annoying and yet their emotions screamed "don't you get this?".  Unfortunately, none seemed to get it.  Rep. John Culberson of Texas (R) said "why bankrupt my kids with this $700B debt when we can bankrupt a few Wall St 'fatcats' instead?" (May not be verbatim, but very close).  Well John, stocks lost $1 Trillion today which is much more than investing $700 Billion in real assets.  The Wall St "fatcats" already benefitted from tax breaks and lax regulation you passed, John.  Now we are talking about saving the whole economy, not Wall St.  $1 Trillion disappeared in a few hours and that may be the start not the end.  I would highlight him as my Economic Idiot of the Week except there are too many to highlight (and yes Fisher was in the running again last week).  (Lest you think it a partisan shot, I simply don't have time to deliver a blow to the other side, but don't worry- there are plenty for both sides and both sides deserve it).

What these leaders fail to grasp is that it is not only investment banks that rely on confidence.  The entire system depends on trust and confidence.  We aren't talking Wall St- it is banking from community banks on Main St to superbanks like Bank of America. Normally trust and confidence is not in question even under stresses like 9/11, but they are being tested beyond imagination today.  For example, the Treasury had to guarantee money market funds last week.  To my knowlege, only two money funds have lost money ("broken the buck") out of hundreds or thousands of funds over many decades.  Nothing in the financial system will function if money market funds cease to operate effectively.  Even large, safe, non-financial companies will have trouble meeting payroll if money funds stop working.  If healthy companies can not reissue their commercial paper (short-term, high quality, debt that comprises most money market funds), commerce will simply stop. Treasury Bills, 3-month or shorter maturity, government debt is considered the safest investment in the world.  Last week yields on the T-Bill briefly went negative (a first since the Depression).  In other words, people were willing to ensure return of capital rather than return on capital.  They were in essence paying to be safe. And that was last week, yet Congress is still gambling.

In fact, every hour that passes makes the situation more dire.  When Buffett bought into Goldman last week he commented that part of the reason he did so was because the plan looked to be a done deal.  While Buffet has money at stake and could be viewed as an interested party, in his four or five decades as being the Buffett we know, has never once misled the public.  For America's sake- no the world's sake- Congress ought to think about who is actually supporting this plan: Buffett, Bill Gross, Bernanke, Paulson, the hated Bush Administration and most Democrats.  Does it not mean anything when parties of such esteem and opposing ideologies agree on the urgency?

Politics aside, why is this so important?  Every moment of uncertainty breeds more fear.  Fear causes activity to grind to a halt.  If you run a company or manage a store, do you invest in expansion now?  Of course not, who knows what will happen, your spending becomes frozen.   Take a small business for example, say your local ACE Hardware or restaurant. They require inventory on the shelves or in the kitchen to operate. When a restaurant gets a shipment of foodstuffs from a food provider like Sysco, they usually pay at the end of the month or by credit card. After all, they need to sell meals before they have the cash to pay Sysco. And Sysco must deliver food before it gets paid, and so on down the line right back to the farmer who needs to buy seed and fertilizer before they can grow anything. These are all forms of credit and receivables which is fast becoming unavailable. In other words, directly or indirectly Wall St enables almost everything on Main St.

As the clock ticks, that confidence is eroding. The willingness of banks to fund inventory, working capital or short-term needs is falling and everyone is hoarding cash. Obviously it is politically difficult to pass what is perceived as a "bailout".  Is there a better plan? Of course, there always is- but we don't have time to design it, debate it, or implement it.  Apparently, Congress doesn't seem to understand this urgency and in failing to pass the plan, brought us much closer to the financial abyss.  There is a point of no return- it may be today, tomorrow, next week or next month- we don't know.  Those gambling with the timing are taking unreasonable risks with everyone's wellbeing.  It is time for Congress to do what is right even if it hurts their own political careers.  In fact, even if the bill passes we still need to address the system's capital and a way to right the economy.  The Paulson Plan, as you recall, only keeps the system functioning- it is not a cure for the economy.

You may think this post is too dour, yet as I write this, Tokyo and Hong Kong are down over 4%, continuing the rout.  Too political?  Maybe, but there is an important interaction between politics and economics and I have only so much patience.  Perhaps they pass the plan Wednesday or Thursday.  Will that be too late or will it restore confidence?  Does Bernanke have an ace up his sleeve or will Paulson bluff the fear away?  Let's hope that the 7's are lucky afterall.