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March 19, 2008



Dead cat bounce or missed buying opportunity? The market will vary. Housing starts very low, family starts not. Lowered supply but not demand. Hmmmm.

Rick Ballard

For those who would like to assess some facts before firing up in discussion, the merger and guaranty documents can be found here. I would note the absence of a MAC clause.


"I would note the absence of a MAC clause."

Exactly. I don't believe Bear shareholders will even get to vote down the deal (unless they want to get less than two dollars a share). JPM, with the Fed's help, secured a fire-sale purchase price that allows Bear's debt obligations to remain solvent; without that deal there'd be a plethora of busted Bear bonds, and zero equity left over for common shareholders. The problem for Bear, and the continuing problem for many financial institutions if the latest Fed band-aid doesn't "take", is that rampant fear creates a situation where essentially sound debt instruments are illiquid (no bids), and creditors feel compelled by their own shareholders to demand payment immediately. It's a nasty side-effect of "transparent" markets; if we muddle through this mess there will be changes in GAAP to prevent this kind of volatility.


The price action is short-covering, nothing more--me thinks.


I'm reposting something I posted last night. It's sourced to the WSJ, but those with more time and patience can fact check it:

Bear Stearns (BSC): Devil in the JP Morgan Details

Folks, do you think JP Morgan CEO Jamie Dimon is a moron? Don't you think he knew the $2 takeout price would outrage Bear Stearns shareholders?

According to the WSJ, JP Morgan tucked two key provisions into the mountainous contract that was thrown together over the eekend--provisions
that should probably make Bear shareholders rethink their ability to kill this deal. To wit:

1. JP Morgan has an option to buy 20% of Bear Stearns for $2 a share right now, with no shareholder approval. If Bear shareholders start to stomp their feet, one imagines that this will be the first thing JPM Morgan does. Whatever price concession's Bear Stearns shareholders manage to extract, moreover, they won't all be coming out of JP Morgan's hide: JP Morgan already has a risk-free option to buy 20% of the company at $2 a share.

2. JP Morgan has an option to buy Bear Stearns's mid-town Manhattan headquarters for $1.1 billion if the deal falls through. This gleaming new building has an estimated net worth of $1.4 billion--or approximately 5-times the total amount that JP Morgan has agreed to pay for Bear Stearns. This option means that JP Morgan can abscond with what is arguably Bear's most valuable asset with no shareholder approval.

Add these two provisions to the reality that the Fed has backstopped JP Morgan, not Bear Stearns (at least not explicitly), and Bear Stearns shareholders should probably be careful what they wish for. JP Morgan has clearly constructed this deal in the expectation that Bear shareholders will put up a fuss, and they've guaranteed that, whatever happens, they'll walk away a winner.


there will be changes in GAAP to prevent this kind of volatility.

GAAP is not the problem. Leaving stuff on the books creates another, maybe slightly different but still very real, set of problems. Its not the CFO and controller's problem that the debt instruments and derivatives are so complex that its impossible to assess their value without a week of intense due diligence and smoke coming out of your Cray computer.

Simpler debt instruments where an owner can assess what position he is in payoff priority and value of the underlying collateral will lead to a functioning market. Not having mortgages at 110% of collateral by design and inception or no documentation of borrowers income or so on and so forth, would be sound changes too.

You cant just pretend it worth more and therefore there is no problem, that is the S & L crisis story redux.

Charlie (Colorado)

...its impossible to assess their value without a week of intense due diligence and smoke coming out of your Cray computer.

Those were the good old days.


For those who dont speak the lingo, Rick is referring to a Material Adverse Change clause. It is used frequently on deals that have a long gestation period to provide a buyer some comfort that if circumstances change from negotiation time to closing date dramtically, the buyer can either renegotiate or walk.

No doubt any shareholders chosing to sue and fight will get to hear about this. JPM took on substantial risk where signs in foreign markets where of second stage meltdown and panic. Risk premiums are pretty severe.

Paying $6 for what has been valued at $2 for the right to sue? I think I would rather bet on double 00 at the casino.


Merrill is still worth a lot and the CEO got like 10 or 20 million. The losses there were only like 30 billion or something, so his bonus is only 10% of the losses. Bear's CEO can't do this, why is that?


"You cant just pretend it worth more and therefore there is no problem, that is the S & L crisis story redux."
True, but pretending it's worth nothing is what happend to Bear; clearly, the mark-to-market method doesn't work during panics. That there will be changes in mortgage regulations is a given, though.


My concern is that expressed in the WSJ today: Inflation Dissent. The debate going on inside the Fed these days is whether the rescue measures being taken by the Fed will aggravate underlying inflationary pressures that are already present or whether a slowing economy will bring the indicators of inflation down on its own. What develops in the next few months could have a profound effect on the election. For my money the worst of nightmares is a Dem controlled WH and Congress in a recessionary environment.

The Federal Reserve's three-quarter-point rate cut yesterday was less than some forecasters had predicted, but it was more than some at the central bank were comfortable with. Two of the 10 voting members of the Federal Open Market Committee opposed the cut, preferring "less aggressive action," according to the Fed statement.

Those two -- Richard Fisher of the Dallas Fed and Charles Plosser of Philadelphia -- have been warning about inflation for some time. And yesterday, the Fed did at least acknowledge in its statement that "inflation has been elevated." No surprise there, since the entire yield curve out to the 10-year bond currently pays less than the inflation rate. The last time the Fed cut rates below 3%, it was October 2001, oil was at $19 a barrel and falling, and a Fed Governor (now Chairman) named Ben Bernanke would soon give speeches about how to prevent a deflation. When it kept going to 1% in June 2003, the Fed created the subsidy for credit that produced the housing bubble.

Nobody's much worried about deflation today. But the Fed is placing a heavy bet that commodity prices and other leading indicators of inflation will come down on their own, aided by a slowing economy. Yesterday's policy statement, while allowing that "uncertainty about the inflation outlook has increased," reiterates Chairman Bernanke's view that slower growth and lower "resource utilization" will bring inflation back into the Fed's comfort zone.

Good luck with that. To the extent that the Fed has recently taken extraordinary actions, such as opening up the discount window, to reliquify troubled financial markets, it is doing what is necessary to avoid a financial meltdown. But keeping its eye on price stability is the Fed's main obligation. The silver lining in the Fed's continued accommodation to easier money yesterday is that at least two Fed Governors behaved as if they still believe that.


I dunno about cosumer inflation but wholesale inflation out here in the hinterlands is just plain awful. Sure, we're getting more for our crops. But, in the last 3 years fuel has doubled, fertilizer has tripled, tires have more than doubled. Ag Chemicals have doubled and doubled again in some cases. And now, we've watched corn fall nearly a dollar while Phosphorus and Nitrogen prices have continued their upward march. I don't know how this plays out, but there are varying combinations of "Not Good."


Pofarmer, it's definitely showing up in the stores. My wife was marveling at the current cost for a head of cabbage--she's never seen anything like it. And everything else. This is what concerns me not just for McCain's chances but for the House and Senate as well. Traditionally, the party viewed as incumbent gets blamed.


If you hang on to shares you already own for a while, the deal is not expected to close for several months and must be approved by shareholders, you lose nothing but the very small time value of the passage of a couple months. So you get a chance to see if a white knight will show up and pay more. In the meantime you set a upper limit of what it might take for you to unload right now as a premium for giving up the right to watch the movie for little while, that makes sense to me for a seller.

Who buys at $6 for the right to receive $2 and sue? Especially after the deal is disclosed and you had knowledge of the deal?

Shorts covering, check. A large institution or wealthy individual who sees some leverage in accumulating enough shares to try to block approval? I dont see that to be very likely.

If you sold short at $30 buying at $6 and ultimately getting 2 works just fine. How big was the short position? Could take some time for it work its way through limited trading.



There's a whale of a difference between buying a head of lettuce at the super market versus a farming operation.
American consumers have for decades been spoilt by low food prices.


Amity Shlaes, fresh off a revisionist history of the depression, weighs in on the comparisons being offered in the MSM to that era, which usually boil down to: Bush = Hoover = Evil/Stupid, Democrats = Roosevelt = Saintly/Enlightened. I won't quote the whole thing, but the last few paragraphs offer an unsettling comparison between Bush and Roosevelt:

[T]oday it is not Republicans but Democrats who are preparing to replicate [the Hoover tax increases]. Obama has suggested a payroll tax increase and an income tax increase; together they would just about offset all the breaks created by Bush. Clinton is scarcely different. Who's Hoover now?

All the Hoover-izing has obscured a disturbing resemblance -- that of Bush to Roosevelt on currency. FDR knew that the dollar needed reflating, but monetary policy wasn't his area, so he was at a loss for a method.

Reflation Machine

At one point, he even tried to turn himself into a one-man reflation machine, buying commodities -- each morning at a different price -- in the hopes of moving the greenback.

His uncertainty kept the market down in the fall of 1934. You don't hear Democrats these days racing to claim the currency component of the Roosevelt legacy.

Bush, too, is no dollar expert. He has bumbled his way to trouble on money. The one risible line in his presentation last week was ``we believe in a strong dollar.'' You can't say that after all the drops in the currency that Bush and Treasury Secretary Henry Paulson have allowed.

So the 1930s have plenty to tell us, yes. But the real challenge isn't deciding who resembles Hoover. The challenge is for both parties to figure out how to avoid a whole era of mistakes.

Herbert Hoover's Ghost Haunts Markets, Democrats: Amity Shlaes


Short interest in shares in February 18 million shares.

Price is dropping today closer to $5 than $6.

Is that sufficient margin that a short player might sell short still, to capture the $3+ plus margin? I dont play the short markets at all, too much strain on the brain.


Here we go--the scariest article I've seen so far: David Ignatius, What if The Fed Fails? This article is SO scary that I won't even quote the scariest parts, just some few unsettling passages. The last paragraph captures my fears re the coming election in a nutshell:

The Federal Reserve decided last weekend in the inferno of the financial crisis that Wall Street's major players -- even a smallish and brutish one, Bear Stearns -- are too big to fail. So the Fed is pumping all-but-unlimited amounts of all-but-free money into the financial system to keep it operating despite the Wall Street bank run.

But is the Fed itself too big to fail? And what institution would step in as the buyer of last, last resort -- if the buyer of last resort should prove insufficient to the challenge?


We speak about the current meltdown as the "subprime crisis," as if it were simply the product of imprudent loans by greedy financial concerns -- and certainly there's been a lot of that. But the larger dynamic is that the bubble in the housing market has burst. That's why subprime loans became worthless, and why the daisy chain of mortgage-backed securities has unraveled.

Alan Greenspan, the former Fed chairman whom many blame for the housing bubble, made this point in a stunningly unapologetic article in Monday's Financial Times. After predicting that the financial crisis will be "the most wrenching since the end of the Second World War," he warned that it won't end until home prices stabilize.

A prominent investment banker offers a helpful, if also somewhat terrifying, explanation of what may be ahead.


The Fed, in my view, had no choice but to step in decisively this week and try to stop the Wall Street bank run. But when the panic hits Main Street, the Fed will have to be even more creative -- in fashioning a package that restores confidence but also allows real estate prices to fall and the market to clear.

Coping with the worst financial crisis since the Great Depression will require the best financial minds since the Depression. What we have is a lame-duck president, election-year politicking and a Fed that has been bold and innovative, but whose reach may have exceeded its grasp.


And now for the more technically oriented, i.e., anyone with more expertise than myself: Not a bailout. Lots of numbers, graphs and jargon--but also some plain talk:

How shall we describe what happened this weekend with Bear Stearns? The first big casualty of the credit crisis, yes. Bailout, no.


$2 a share is a "bailout" that "fixes" management's worst mistakes? I rather think instead that it pretty much wipes out the stake held by owners of the company, and is the very least that could possibly be offered as inducement to try to get Bear to agree to the steps necessary to swiftly resolve the huge problems that its illiquidity creates.

No, $2 a share is no bailout, but instead represents a fire sale price. Indeed, as Felix Salmon observes $2 seems to be substantially below that minimum necessary inducement. BSC shares are trading at the moment closer to $6, suggesting owners have reason to expect something better can be obtained than the initial proposal.

True, the Fed did offer a $30 billion non-recourse loan to JPMorgan to sweeten the deal. But what twist of logic would lead us to describe that as a "bailout" of Bear as opposed to an inducement to JPMorgan to help clean up the mess?


Some are saying that this was ultimately an error by the Fed, in failing to provide interim liquidity to Bear sufficiently quickly. But that we have been marching toward a day like last Friday should have been very clear to everyone for at least a year now. Stability of the system is supposed to be achieved by ensuring that any institution that is borrowing short and lending long holds a sufficient cushion of net equity so as to be able to absorb the losses from short-term liquidation. Whatever the true meaning of the $13.4 trillion notional exposure, that number was "only" $8.74 trillion in 2006. It appears that Bear was unable or unwilling to work itself into a position of lower leverage and higher equity even with one year's advance warning. For which, I say, the owners and managers should and will suffer.

Bear is not going to be last, but it is the model I think for what we'd want to see-- owners of the companies absorb as much of the loss as possible, while the Fed does its best to minimize collateral damage.

But if you're still walking the streets of New York, watch out for falling debris.


The NYT offers an explanation of The Mystery of the Bear Stearns Stock Price, most of it way beyond me. However, here's the conclusion:

It’s also worth remembering that for two of the actors in this drama — JPMorgan and the federal government — giving Bear Stearns shareholders the best possible price wasn’t the main objective. As The New York Times and others have outlined, JPMorgan was adamant about being insured against the risk of taking on the potentially explosive Bear Stearns balance sheet. And the Fed was far more concerned about stabilizing the broader financial landscape.

Bear Stearns shareholders can hope for a better deal to come along. But perhaps they’re better off waiting for others to buy up JPMorgan shares.

Rich Berger

Anduril seems very adept at cut and pasting to achieve the maximum scary effect. I was a little suspicious about his excerpts of Amity Shlaes so I followed the link to her article and came away with a far different impression than that he was trying to give. She emphasized the big differences between Bush and Hoover.

I have been through enough crises that didn't end the world to be skeptical about the world-ending potential of this one.


And finally, I think, a comment to the Econbrowser article:

Certainly a message is being sent that owners (shareholders) will receive little, if any, help from the Fed.

But simultaneously, a very strong message is being sent that the creditors will saved. Now everyone knows that the failure of certain corporations strikes fear into the hearts of the Fed governors, and therefore the Fed will not allow the possibility of default for these corporations.

The incentives to investors are clear: favor lending to Fed-protected institutions over unprotected ones. Favor investing in bonds and non-exchange-traded derivative contracts over stock.

Although I don't like it, I'm not too worried about the first incentive. But the latter incentive worries me a great deal.

Funny how economists spend so much time writing about how the free-market is a better way to run a system than government control. And when the rubber hits the road they do the opposite of what they say.


5 potential reasons why the stock has not quickly receded to the offer price.

1) Bondholders covering their positions with cheap equity
2) Massive short-covering from much higher levels
3) Momentum buying of a moving stock
4) Naive speculation about a new bidder emerging
5) Speculation about JPM being forced to negotiate a higher bid to placate lawsuit-waving shareholders

Likely some combination of all of them.

In the meantime if you have any Vanguard mutual funds, you might want to go check your investment. Vanguard in several of their funds had holdings in excess of $1B, far in excess of the next highest holder. It was spread across several funds but Windsor 2 looks to be especially hard hit.


Thanks, Rich. Yes, I do pride myself on my cut 'n' paste abilities. I'm sorry you didn't understand either Shlaes or myself. The title of the article is, I thought, a dead giveaway: "Herbert Hoover's Ghost Haunts Markets, Democrats: Amity Shlaes." Get it? Shlaes is saying that the Dems are the ones who are haunted by Hoover--not Bush. She even calls Chuckie Schumer a "Hoovermonger." And, paradoxically, Bush shows--at least in the area of monetary policy--a disturbing similarity to Roosevelt. The world turned upside down, so to speak.

One of the problems with being a cut and paste artist is that you're never sure how much to paste. Yesterday I was fielding whines and snivels that I'm pasting too much, so I've tried today to paste with a somewhat lighter touch. But if I'm to go by your response I'll have to revert to the heavy hand.


I think the disappearance of BSC was a feature, not a bug, in the Fed's bailout of the banking system. A way of telling other banks/brokers "Don't be next."


Fortune has an article that seems to address this thread:


Why the Bear rally can't last
A huge spike in Bear Stearns' stock price in recent days doesn't mean buyer JPMorgan is going to have to boost its $2-a-share offer.
By Roddy Boyd, writer

NEW YORK (Fortune) -- The spiking share price of cash-strapped investment bank Bear Stearns suggests savvy traders are wagering that JPMorgan Chase is going to have to increase its lowly $2-a-share bid.

Note to Bear Stearns shareholders: Don't hold your breath. A higher bid isn't likely to happen.


But Bear Stearns shareholders who don't like the deal don't have a lot of options. The merger agreement, or at least the parts of it that have been disclosed, appears ironclad in the advantages it gives JPMorgan. For example, the bank has the right to purchase up to 20% of Bear Stearns' equity at $2 per share, giving it an effective blocking position against another suitor. If another buyer does emerge, JPMorgan has the right to buy Bear's headquarters building at $1.1 billion.


With no access to capital and a balance sheet full of liabilities, Bear Stearns' operations would collapse. Needless to say, with a worthless stock and no cash generation, the firm's ultimate franchise - its employees - would walk.

And then what would Bear Stearns' investors have left? Zero. That's a lot worse than $2


Volker was on Charlie Rose last evening and although the interview is not yet "UP" on Charlie['s website--one can keep checking at this link.

Volker thinks that what is going on in the financial markets now is reminiscent of the early seventies when inflation getting up a head of steam.
I am keeping in mind that Volker is supposedly an adviser to BHO so that tends to color my thinking somewhat.


Chris, after the first day or so, that seems to be the opinion that most are coming around to.

The FT appears to weigh in on the WSJ side. If I understand the last sentence, the FT seems to be suggesting that the Fed is, in a sense, acting in default of leadership from Washington--in a way like the courts have sometimes done. See what you think:


[I]t is hard to escape a growing sense of disquiet about the dangers and consequences of this aggressive monetary policy. Real interest rates in the US are now negative, with rolling average headline inflation of 3.1 per cent and even core inflation of 2.3 per cent surpassing the nominal interest rate. Since the first Fed cut last September, the trade-weighted dollar has fallen by about 6 per cent, while a broad basket of commodities is up by around 19 per cent. The risk of igniting inflationary expectations is severe.

Inflation is not a problem that can be dealt with later, once recession has been staved off. If investors mistrust the Fed’s will to fight inflation, they will demand higher returns on long-dated dollar bonds, so low Fed rates might not affect the longer-term rates that mortgagors and corporations actually pay – that is, if the stressed banks are willing and able to make loans at all. The Fed was right to note that “uncertainty about the inflation outlook has increased”.

A test of the Fed’s policy is imminent. In 2001-03, a Fed Funds rate of around 2 per cent (on its way to 1 per cent) was enough to prompt waves of mortgage borrowers to refinance their loans at lower rates, which buttressed consumption. This time may be different.

In the fever and fear of malfunctioning markets, with storied institutions suddenly close to collapse, it is easy to demand too much of monetary policy. It cannot magically take back imprudent lending and deleverage hedge funds; all the Fed can do is cut interest rates to the extent that inflation risks allow. It cannot avert all recessions and should not try. The Fed does have to prop up systemically important banks and help markets – but that will take unconventional measures. Nor should the Fed rush into a quasi-fiscal bail-out – that is primarily a choice for Washington.


I had not realized that bonds of BSC had already been being priced at a discount on the market. That means that far sharper individual with lots of time for investigation had already concluded a BK was more than possible and that equity would be wiped out and remaining assets would only be able to partially cover bondholders.

That argues that book value of the stock at $84 was a fantasy, even with mark to market accounting. How eliminating mark to market accounting is going to be solution if all of this is in fact true, I can not comprehend.


glasater, that means "stagflation." Of course, that's what Volcker was famous for busting.


Here's a lengthy WSJ article that attempts to discuss what's on all our minds (or should be): Housing Bust Fuels Blame Game
Democrats Seize On Opponents' Role;
Bipartisan Failures
. Haven't read it, but here's the lead in (it's pretty long):

As the falling housing market shakes financial institutions and pummels Americans in an election year, the nation's economic woes have surged to the top of voters' minds. The timely question: To what extent are politicians and regulators at fault?

Democrats are quick to blame Republicans, who were in power during the housing bubble and subprime lending frenzy. For years, America's leaders failed to restrain the markets, companies, investors and consumers from the missteps that led to the most pervasive financial crisis in decades.

But in hindsight, the failure stretches across government and across party lines. At bottom are two strong currents. From the Republican president to urban Democratic congressmen, homeownership was pushed as an overriding and unquestioned goal. And many significant attempts at regulation were obstructed by the prevailing belief that the economy did best when financial markets operated as freely as possible.

The Bush administration coupled cheerleading for homeownership with pressure on government-sponsored mortgage lenders Fannie Mae and Freddie Mac to provide funding for riskier mortgages. Both Democrats and Republicans stood by as Fannie and Freddie invested heavily in securities backed by subprime loans. Democratic congressmen pushed a federal law to restrain lending practices later discredited, but Republicans with some Democratic allies blocked or countered with weaker versions.

And at the Federal Reserve, Chairman Alan Greenspan, revered by both parties for his economic management, resisted using the Fed's authority to more aggressively regulate lender behavior.


Bear Stearns is having a knock on effect with other financial institutions. It might suit some to give the system a little push.



I am keeping in mind that Volker is supposedly an adviser to BHO so that tends to color my thinking somewhat.

Indeed he is here. Dots......Break out the tin foil

Noticed that oil and gold are gapping down strongly today. Maybe there is something to Rick's views regarding M3 from the past couple of days.


Rich, remember, however, that Volcker was the hero who broke stagflation years ago. His name used to be spoken only after genuflection in conservative circles.



His name used to be spoken only after genuflection in conservative circles.

Since I don't buy into the current "stagflation" thesis, I'll just point out that Volcker has been riding around in the vest pocket of Desmarais and Soros-lets say that I just don't trust the words he speaks.

The current commentary from some of the articles that you have been posting are a panic prescription for Fed policy (jacking interest rates to above the EU is the obvious solution to inflation). The policy prescriptions described are designed to make a recoverable crisis into a severe global recession with significant political fall out in the US coming as it is so close to an election. In my secenario, the Fed called called everyone's bluff by shooting Bear Stearns. If the Fed actions were so bad regarding Bear then why is the dollar rallying with gold and oil down sharply since the deal was announced?

Rich Berger


I don't agree that Volcker stopped "stagflation". Reagan did. Volcker was appointed in August of 79 and inflation did not peak until 1981. Reagan had to hold firm to weather the fallout from the recession of 1981-1982 to get inflation under control. That was a bad recession.

Rick Ballard


Boris mentioned the possibility that CITI's board was just entranced with their Masters of the Universe (thanks, Narciso) whiz kids to the point that they did not demand (or could not understand) an explanation for the alchemy involved in their black box algorithms regarding derivatives. The MotUs were making hay, therefore the sun would always shine. I find the explanation appealing but then I look at Rubin et al on the board plus the fact that they tried to move so much of their machinations off the books. Out of sight, out of mind?

Until December. When the Fed said, "OK, boys, the discount window is wide open. 'Cept ya gotta put that off the books crap back on the books or you can't play." CITI has taken a very tight 44% buzz cut since then (actually 64% from the June high) and Countrywide is under new ownership. Toss in Carlyle Capital and the losses incurred by Societe Generale (which precipitated? the January crack) and I'm beginning to wonder how many gazillion notional dollars have already disappeared from hedge fund land.

How much more of a nudge would you think it would take to get NYMEX to double and redouble margin requirements on oil? There has to be a nice clause in some SEC reg that can be invoked when a commodities market is seriously malfunctioning.


Got caught up viewing Charlie Rose's interview with Volker in 2006--wish he would provide transcripts--there so much quicker to absorb.

Anyway--Volker in the '06 interview laid the groundwork for his thinking and he is a forward looking man--not a rearview mirror type.

I believe that he feels something drastic is going to have to happen to break the special interests and spending taking place on Capitol Hill. If BHO is that person--however in recent events, i.e. Wright, that thinking may have changed--so be it.

Volker in last nights interview with Rose did not pan recent Fed actions. I Tivo'd it and will watch it again with better attention.

Thanks Rich and PUK for the links. As far as the Soros book is concerned--I'd rather watch paint dry then read anything that fellow has written.


No one has to "buy into the current 'stagflation' thesis" to recognize that (in the words of Wikipedia)

Stagflation in the USA was defeated by then Federal Reserve chairman, Paul Volcker, who sharply increased interest rates to reduce money supply from 1979-1983 in what was called a "disinflationary scenario." Starting in 1983, fiscal stimulus and money supply growth combined to create a sharp economic recovery which is in line with standard macro-economic models; however, there was a five-to-six-year jump in unemployment during the Volcker disinflation. It appears that Volcker trusted unemployment to self-correct and return to its natural rate within a reasonable period, which it did.

This is a matter of historical fact. No matter what Volcker is up to currently, he retains the credit for what he did back then.

Rich, Reagan to his very great credit strongly supported Volcker (a Carter appointee), but only the Fed controls the interest rates. Volcker was the one who held firm on interest rates in the face of ferocious criticism.


Lets see who was the President in 1979?

Hmmm elections are every 4 years. Jimmy Carter was elected in 1976 ( November to be precise ). Now math is kinda hard - let see - 1976 term started in Jan 1977 so yup appointed by a Democrat. And Volker is a lifelong Democrat too.

If you meant that Reagan reappointed him, well it used to be that politicians ( even the dense Democrat variety ) understood that domestic politics did not invade two areas, foreign policy and monetary policy. So for Reagan to want to see him continue nonpartisan work is not surprising. Carter had really mucked things up pretty back. Adding inflation on top of unemployment yielded a misery index well into the 20% range.

What also is not surprising is you again spouting off about stuff you know little to nothing about. Do a little less wallpapering and a lot more reading.


If the Fed actions were so bad regarding Bear then why is the dollar rallying with gold and oil down sharply since the deal was announced?

1. I never said the Fed's actions re Bear were bad.

2. One day does not a trend make:

March 19 (Bloomberg) -- The dollar fell against the euro, erasing most of yesterday's gains, on speculation the worst U.S. housing slump in a quarter of a century will swell credit-market losses.

The currency weakened against the Japanese yen and the Swiss franc after Bank of America Corp. predicted the Federal Reserve will lower its target rate by another 75 basis points this year following a reduction to 2.25 percent yesterday. Reports this week on U.S. mortgage demand and manufacturing will probably show the economy is slowing.

Gold futures fell sharply early on Wednesday, as investors booked profit of recent gains in the precious metal after the Federal Reserve cut interest rates by 75 basis points on Tuesday. Gold for April delivery was down $33.50, or 3.4%, at $970.80 an ounce. Gold also took its cues from crude oil prices falling 2.7%, while stocks were poised for a lower open, giving up some of Tuesday's Fed-induced rally.

You'll go crazy if you try to predict from day to day occurrences. The articles I posted on the Fed (above) all recognize (as the Fed did in its policy report) the strong inflationary pressures.

Rich Berger

That's a great phrase "in the words of Wikipedia". I took a look at the M1 and M2 figures on the fed web site and I do not see any such reduction in the money supply that you refer to. I also found the phrase "Starting in 1983, fiscal stimulus and money supply growth combined to create a sharp economic recovery which is in line with standard macro-economic models". In other words, your supply-side theories are bunkum. I smell a little political slant in the words of the great Wikipedian.



There has to be a nice clause in some SEC reg that can be invoked when a commodities market is seriously malfunctioning.

Think it might be this one and this one might be necessary too. The requirements are set by the board if I read it correctly. If they do it it will probably be next week. By my reading when the Hunt Brothers silver trade came unraveled, authorities had to step in and suspend from trading about a half dozen brokers and banks.


Rich I cited that Wikipedia article for the general proposition that Volcker was responsible for overcoming stagflation--the article I cited was the one on stagflation. Here's from the article on Volcker, which may be more to your liking re the money supply:

Paul Volcker, a Democrat[2], was appointed Chairman of the Federal Reserve in August 1979 by President Jimmy Carter and reappointed in 1983 by President Ronald Reagan.[3] Volcker's Fed is widely credited with ending the United States' stagflation crisis of the 1970s by limiting the growth of the money supply, abandoning the previous policy of targeting interest rates. Inflation, which peaked at 13.5% in 1981, was successfully lowered to 3.2% by 1983.[1] The change in policy contributed to the significant recession the U.S. economy experienced in the early 1980s, which included the highest unemployment levels since the Great Depression.

However, Volcker's Fed also elicited the strongest political attacks and most wide-spread protests in the history of the Federal Reserve (unlike any protests experienced since 1922) due to the effects of the high interest rates on the construction and farming sectors, culminating in indebted farmers driving their tractors onto C Street and blockading the Eccles Building.[4]

The bottom line remains the same. Volcker, a Carter appointee who was strongly supported by Reagan, is credited with overcoming stagflation.



I think we are all getting our signals crossed RichatUF is not Rich Berger...

I have to run off but I'll try to catch up with everything later this evening.

Rich Berger

No I am not RichatUF but I wasn't confused. I didn't see a reduction in growth rate in those M1 and M2 numbers either. Volcker may be credited by the Wikipedian, but his mojo seemed to have a delayed effect on inflation. Delayed until Reagan came in.

Don't believe everything you read on Wikipedia, especially about politics and economics.


Rich, my contention remains that Volcker is credited with defeating stagflation. You're entitled to your own theory, and if you want to expound it I'll read it. As a first step, however, why don't you provide us with the rates of monetary growth for the relevant periods--the high inflation period of the 1970's, the 1979 t0 1983 period, and at least several years after 1983.


Actually if you want to know who should get credit for the change in economic thinking that occurred on Reagan watch, it is the brilliant University of Chicago economist Milton Friedman. We were operating for years on John Maynard Keynes wisdom which was basically for government to control policy through spending.

Friedman was the first to focus on the money supply and explain that if you dont inflate up the money supply, you wont get rampant inflation. Its wrapped up in inflation expectations etc.

But there were enough votes on the board when Reagan was around that if Volker had wanted to do anything different, he would have gotten outvoted in my opinion. The Federal Reserve was pretty sick of double digit inflation and very high by today's standards unemployment at the very same time.

Volker did nothing to get the money supply in check when first appointed, it was not until Reagan came along that the Fed did start to pay attention to growth of the money supply and try to control it within a range through interest rates.

But hey who am I when a Wiki diarest says otherwise.

Ethos  network   not for profit  trades

Cut and paste. The things got so bad that everyone was accused of being cut and pasters and, if the same article was found in two places, it was one of them. The reason for the spreading of information that is precise and needed at a time is the fact that some people edit and delete comments by 'moderating.' They also just go back and delete. This is done 'cause they just don't like others' opinions. The idea of blogging and making billions is that anyone can comment and give instant feedback to the writer, article, idea, etc. MSM does not, and never will, allow this because this is how they claim those billions.

A few insane cut and pasters ruined blogging and commenting for us all and 'deleting those comments cost lives, man; you were a control freak and people died man!!!!' But, that's okay cause Bill taught us what Kennedy taught us what obama wants to teach us all again; that lucifer killin stuff is okay.

Dems. Soon, they'll pay.........

or was the that 9/11?


Some quick googling gives pretty much the same results: Volcker is almost universally given credit for defeating stagflation--even as the explanations for how this was accomplished vary. Bob Bartley does credit the Reagan tax cuts and budget restraint in tandem with monetary restraint. However, I checked the money supply numbers and from a quick perusal it appears that Rich is correct: the rate of growth does not appear to have gone down during the 1979 - 1980 period. Nevertheless, Volcker gets the credit just about everywhere I've looked. Perhaps there's potential here for a revisionist history of this whole issue.

I'm open to further theorizing on how stagflation was tamed, but history as currently written seems to give credit to Volcker.

Charlie (Colorado)

I have been through enough crises that didn't end the world to be skeptical about the world-ending potential of this one.



Holman Jenkins offers an optimistic take on the current financial crisis:


First he addresses the "bailout" (quotations used to indicate controversial usage):

If it's true that temporary market chaos has grossly distorted the value of securitized mortgage debt, the Fed has fixed a sizeable part of the problem. It took $30 billion in potential losses on its own books, and even will manage the portfolio. If the optimists are right and those securities bounce back, J.P. Morgan will capture the upside. If not, the Fed will get stuck with the downside.

Citigroup et al. must be wondering: Why can't we get that deal?

Just conceivably Ben Bernanke has finally hit upon the magic formula for restoring confidence in securitized mortgage debt and trading will now resume. Speculators will come off the sidelines, convinced of the Fed's willingness to step up and prevent price-crashing fire sales by illiquid institutions. The central problem of the past eight months -- the fact that nobody was willing to take a flyer on a great deal of mortgage debt at any price -- will have been solved.

If so, demands for a taxpayer bailout will fade along with fears of a self-reinforcing spiral of falling home prices and borrowers walking away from $10 trillion in mortgage obligations.

Then he tackles the housing market and its distortions:

Even President Bush, judging by his rhetoric on Friday, seems to think the subprime crisis began because hard-pressed families no longer could afford their homes. Remember, we're not talking about unusual numbers of people who suddenly lost their jobs and no longer can make house payments they previously were able to afford -- the circumstance traditionally behind most foreclosures.

Employment was strong when the crisis started and continues (so far) to be quite decent. Yet the mortgage default rate has risen to about twice the average rate of recent decades, and the difference consists largely of people who contracted mortgages their incomes wouldn't support based on a bet that rising home values would bail them out.

More than a third of these new-look defaulters are absentee owners. Nearly half take off without communicating with their lenders. Mr. Bush is kidding himself if he thinks his fellow citizens share his view that these are needy victims.

Let us step back. A great deal of housing debt was created in the last few years to give speculative buyers nominal title to homes that they no longer want. Any postmortem will also show that too much government subsidy for the creation of housing debt was an original sin at the root of today's mess. The result is not unlike pollution -- a market "externality" that imposes unfair costs on others as a result of some people's over-speculation in now decaying, market-depressing, neighborhood-degrading housing.

When politicians understand this, they may finally have something useful to contribute. The shortest road back from this perdition, as improbable as it may sound, would be to foreclose on and demolish some of the least-wanted houses, with taxpayer money if necessary.

At least this approach would be relatively moral hazard-free: Banks would receive only the market value of their foreclosed homes; reckless borrowers wouldn't receive a benefit at the expense of taxpayers who continue to pay their mortgages. The alternative, favored by many in Congress, of trying to bribe subprime borrowers into keeping up their payments would be an insult to responsible homeowners and only teach other borrowers to treat their obligations as optional too. That's a recipe for more financial chaos down the road.

The test of the Fed's latest action will be if oversold mortgage debt begins to look like a mouth-watering opportunity to Wall Street sharpies. Then we're out of the woods.

If not, the chorus for a federal housing bailout will quickly become irresistible, since leaving Mr. Bernanke to fight the problem single-handedly would be to invite an inflationary crisis on top of a mortgage crisis. A few swings of the wrecking ball then might seem a least-bad alternative.

These are issues McCain needs to be boning up on for the campaign--he needs to have a plan. It just may happen that the Dems finally get their act together, and when they do you can bet they'll want to make this issue their own.

Rick Ballard

"Nevertheless, Volcker gets the credit just about everywhere I've looked."

Funny, isn't it.

BTW - land use restrictions really are the most significant factor in the increase in the cost of new housing since at least 1996. There are stats which demonstrate the fact quite clearly available here. The average cost of a house today is $312,300. The same house (2006 footage) would have cost $195,187 in 1997. The difference of $117,112 is divided between a cost of construction increase of $52,091 and a developed lot cost increase of $65,021. The average house has also increased in square footage by 20% since 1997, which makes the lot cost increase a lot worse in percentage terms. It also explains why developers continue to push larger homes.

The truly speculative element of the housing bubble is somewhat less than what our beloved press portrays. California, Nevada and Arizona jurisdictions are the worst offenders but King County in Washington is very close to joining them.


Is there a reason that the people who were throwing the DJIA in my face yesterday aren't mentioning it today? Am I missing something? Should I or should I not be hanging on the Dow's results minute to minute, hour to hour, day to day to determine what the economic future will be--also minute to minute, hour to hour, day to day?


Rick, my wife and I do a lot of walking around our town, a town in which there are no vacant lots but plenty of new construction--tear downs and new homes in their place. We are utterly amazed at the size of the homes. Average family sizes seem to be up somewhat--two to three kids is common--but the size of these places amazes us. The lots are built up to the max, beyond what I have always considered to be reasonable need.

Rick Ballard


The developers are getting killed by dirt costs and compensating by going for what are euphemistically referred to as "high volume" homes - higher ceilings, huge entrances and atria. It's really vey cheap to add volume and square footage until you take on another bath. That's why you see 3/2 houses with "extra room" or "home office" or "private projection room". If you knock that additional 400 sq ft off a shack the price comes down to $278,536. The price per sq ft rises from $103 to $136. That's what the impact of those local yokel's games really means.


" By my reading when the Hunt Brothers silver trade came unraveled, authorities had to step in and suspend from trading about a half dozen brokers and banks."

The CFTC controls margins, and policy, on futures contracts. What they did with the silver run-up (and years later did, again, with the soybean oil market) is make them "liquidation only", i.e. no new positions can be taken, only current ones unwound. As nasty as the Hunt brothers efforts were to corner silver, the CFTC's changing rules mid-stream was nastier. Margins required to hold a futures contract get raised when volatility (not necessarily price) rises, to protect the exchanges and the clearing members. There's nothing about the current oil market that requires the CFTC to take extroadinary action other than ensuring that margins are sufficient; it's not a rigged market, there's nothing to address legally. It's not the futures exchange that makes the price move higher, it's supply/demand piggybacked on top of trader's fears and expectations.


Who started the chicken little, sky is falling wallpapering of the thread again? Amazingly short memory or no ability to discern. Maybe both.



Rick Ballard

"it's not a rigged market, there's nothing to address legally."

As long as OPEC exists, it's a rigged market. That's kinda the whole purpose for OPECs existence.

Two OPEC oil ministers seem to feel that the market is in bubble mode. One might think that they would know.

Barney Frank

Volcker did not kill inflation by restraining the growth in the money supply, he killed it by raising interest rates and thereby sinking the economy. The money supply is the volume of money in circulation, interest rates are it's cost. It is possible, over the short term, for the Fed to wildly inflate or deflate the supply while still lowering or raising those interest rates it controls.
Volcker did not kill stagflation, only inflation. If anything he increased the stag part of it by inducing the worst recession in the post war, but it's hard to see how the seventies excesses could have been rooted out otherwise.


Thank you BF. How about this, then: is Bartley right that the cure for stagflation was a combination of killing inflation and Reagan's tax cuts and spending restraint? I invited Rich Berger to weigh in with his theory but he hasn't done so.


without getting into third year college econ class macro, the supply of money is indirectly controlled by raising or lowering interest rates. There is a concept of the velocity of money, ie how quickly it changes hands that can work against the prescription but a dollar can only change hands so fast.

Plus as Friedman noted, once inflationary expectations get baked in, they are difficult to overcome. The recession was pretty bad and perhaps necessary to root out the expectations.

Since it was new thinking, we dont have emperical results of dealing with inflationary expectations without a recession to see if there was a gentler cure.

Barney Frank

Interest rates control money supply to the extent that the central bank must eventually respond to the lesser or greater demand for and velocity of money brought about partially by higher or lower interest rates. That's why I said 'over the short term'. Once deflation or inflation takes root interest rates by necessity follow the trend of inflationary or deflationary expectations. That's one reason I'm not concerned about inflation yet; the long bond yields are still low. The other reason is we do not seem to have a general price inflation. We have a weak dollar combined with a booming world economy leading to what so far has been a commodity inflation. True inflation is always a monetary phenomenom and that is not yet what we have IMO.
Volcker killed inflation which he had wanted to do for some time and which he was only able to do because of the Reagan team's support in contrast to the feckless Carter. Then Reagan's economic and tax policies lit the flame under the boiler of the economy after Volcker put out the engine fire.


Thanks, BF. I'll have to try to wrap my mind around that. Is there any reading you can recommend for the generalist?

Barney Frank

Smith, Vom Mises, Hayek, Friedman and Sowell, especially Sowell.

And I'm no trader so when people start throwing puts, straddles and Wall Street acronyms around I defer to them.


Did she fall or was she pushed?


Thanks again.


Volcker, medicine not only toppled Carter, put it contributed to the 1982 recession that weakened Reagan's workingcongressional majority. The same recession te Democrats used to demagogue against any further program cuts eg:"Bill Moyers";and forced Reagan into approving TEFRA; which were a package of mostly regressive taxes. Volcker
would later go on to whitewash the Oil for Food claims; partially due to his ties to Desmarais. One asks again, If they really
think the recession is going to be so bad; why would you want the prize, now not in 2012. Obama can certainly afford to wait; this is Hillary's last hurrah.

Newsweak finally did go around to writing their piece on Reverend Wright, are you surprised to know they virtually whitewashed all the 'controversial comments?


Regarding housing construction inflation,

In 1999 one of housing designs was bid for $117 sf

Now that same house would be bid for probably somewhere between $275 to $325 sf, but most contractors wouldn't bid out the whole house now because of the uncertainly of prices. Construction prices have gone way up. From the construction magazines I read, prices nationally are only somewhat less than Southern California.

Between 1990 and and 2006 LA County allowed housing for 400,000 people to be built, when officially, not really counting illegals, 800,000 people moved to LA County. Unoffically it was probably way over 2 million people. The demand for lots in areas not over run by illegals is huge. Prices in better areas are still going up, but there is very little on the market. In lesser areas there are a lot of REO's that are just trash. The good deals are still snapped up quickly. Only in the outlying regions of Southern California where large tracts are allowed are there lots of forecloses.

Rick Ballard

"between $275 to $325 sf"

Interesting. Maybe that's why DR Horton is selling well in Palmdale for $120. I guess they don't read the same magazines.


My own personal theory is that the housing bubble is more than just greed and bad lenders, it's the result of demographic trends in the last decade or so. Since the sexual revolution, people are less likley to live in married family households, so they are spreading out into more houses with less occupants. This hit Gen X hard with the average age of marraiage rising steeply and combine this with the tail end of the baby boom getting divorced.

This created an instant demand for more houses. More demand for houses meant the supply in building supplies and the house prices themselves becomes more expensive quickly. This was especially more evident in urban areas, where the greater age of starting a family encouraged yuppies to move into the city to experience more culture, and so all the yuppies started to fight over the same piece of land.

So in the late 90's, the price of housing started to skyrocket. These trends went on for quite a while, almost a decade now, and in the meantime, realtors bankers and owners got spoiled, thinking that this trend of rising prices would last forever. People aren't usually that bright. However, all good things come to an end. The new trend settled down as the upsurge ended and flattened out as most people who needed the new house or the urban space already got them and were tapped out. Then we got into Gen Y with a declining population. The demand started to decrease almost as fast as it started. Hence the housing bust.

So what's the next trend? The college market was good for a little while, but that is ending too soon. I think we are going to see a slight increase in lower/mid income housing costs in suburban/rural areas, due to immigrant population growth, and a decline of urban areas prices for years to come. In my opinion, that housing boom was a one time thing, a late offshoot of the sexual revolution, and a financial party not likely to be seen again in our lifetimes, even though we'll be paying the bills on it for a while to come.


Interesting. Maybe that's why DR Horton is selling well in Palmdale for $120. I guess they don't read the same magazines.

In the late 90's, up till about 2001, I worked for a local contractor building Wausau homes. At that time, we could put up a single family home on a crawl space for $67 a square foot. In this area today, it would probably be over $100. I helped an older friend build a house 2 years ago, and he claimed he got it built for around $65 a square foot, with no lot costs and lot's of his own labor. It's a really nice 1800 sq foot ranch with all brick and concrete board siding.

We're starting to see the $50,000 houses back on the market here. These are late 40's-mid 50's 1500-1700 square foot ranches in older neighborhoods. Might be time to become a landlord.


Bob Novak's column today offers some cautions on the Fed's actions. His comments focus on two areas: 1) foreign apprehension of the bold new activist involvement of the Federal government in the US economy, which could translate--under a Democratic administration--into protectionist policies, and 2) domestic apprehension, based on perceived favoritism towards NY institutions. This last view is based on the idea that this was a bailout of Bear rather than, as many see it, a punishment. In any event, the article does raise interesting issues regarding the proper role of the Fed, versus Congress. Novak notes that the Bank of England's bailout of the Northern Rock bank was undertaken at the insistence of the Treasury, whereas the Bear intervention was a Fed initiative.

Finance's "New Day"

The Federal Reserve's unprecedented bailout of Bear Stearns was crafted not at the White House or Treasury, but in secret by a New York central banker whose name is unknown to Washington power brokers and was a Clinton administration presidential appointee.

"It's a new day," commented an investor and longtime Fed watcher. Around the world, that day's dawning is viewed with apprehension because of election-year rhetoric from America.

The plan pressed by Timothy F. Geithner, president of the New York Federal Reserve Bank, can effectively substitute the central bank for the market in determining financial outcomes. Nobody takes seriously the assertions by Fed spokesmen that the aid for Bear Stearns and its dictated bargain-price sale to J.P. Morgan was "extraordinary." So, in Washington and New York, the question is who will be next. Speculation turned to who else will qualify as "too big to fail."


The central bank's bold new role relieves the pressure on American financiers who have committed serious errors but does not reassure investors around the world alarmed by what they perceive in the U.S. political process, where class warfare has gained traction. The populist prospect of a new Democratic administration and Democratic Congress that will impose higher taxes and trade protection contributes to what is seen as an international buyers strike by investors that feeds the financial crisis.

Startling though the Fed's intervention is, it fits a pattern around the world by central banks -- including the Bank of England. The British central bank first had resisted a bailout last October for the Northern Rock bank but was pressed into it by Treasury officials in the Labor government. In contrast, the initiative to save Bear Stearns came from the Federal Reserve.


Geithner's plan to open the Fed's discount window for the first time to non-banks stunned the financial community but received little attention from a Congress in recess, including presidential candidates preoccupied by Iraq....

The reaction in the hinterland was far less favorable. The Washington office of the Independent Community Bankers of America was flooded this week by its members across the country complaining of discriminatory favoritism toward their big city brethren. If they had blundered into financial failure, the community banks complained, they would not be bailed out, but instead investigated and prosecuted. "Too big to fail," therefore, becomes "too big to be punished."

The expense of such an intervention is not a problem because the Fed, unlike the president and Congress, can print money. The Bear Stearns bailout, approved in private by unelected officials, contributes to paranoid grievances on the left and right that built support for Ron Paul's presidential candidacy. A Fed official conceded privately this week that "we may have crossed a line" in jumping into Bear Stearns -- and that is an understatement. There is no doubt the American economy is in uncharted territory, with reverberations that cannot be forecast.

Patrick R. Sullivan
Volcker did not kill inflation by restraining the growth in the money supply, he killed it by raising interest rates and thereby sinking the economy.

Same thing. The Fed raises the Fed Funds rate--the overnight rate banks charge each other for use of (otherwise) excess reserves--by restricting the growth in the money supply. The overnight rate responds to that slowdown in money growth.

The money supply is the volume of money in circulation, interest rates are it's cost.

No, interest rates are the price of using someone else's money temporarily.

The cost (or price) of money is what you give up in order to attain ownership of it. Most people give up their labor. Some give up some other item in exchange, such as a car, or food, clothing, shelter.


Kudlow asks Why Not Optimism?

To me, the most telling part of his argument is this passage:

Inflation remains a worry. And despite dissenting votes by Reserve Bank presidents in Dallas and Philadelphia, the Fed slashed its target rate by 75 basis points this week. But the Fed’s statement put a greater emphasis on inflation — which has risen to 4.5 percent — and the inflation-sensitive gold price dropped $65 on the news.

Big inflations cause deep recessions, and hopefully the central bank is moving back toward price stability. In fact, now would be a perfect time for the Treasury to publicly support a stronger dollar, and to conduct some dollar diplomacy with the G7 nations to defend the greenback.

On the housing-credit front, University of Michigan economist Mark Perry, using data from the Mortgage Bankers Association, points out that of the 46 million mortgages outstanding, only 2.04 percent were in the foreclosure process in last year’s fourth quarter. And most of those were confined to Nevada, Florida, Michigan, and Indiana.

Meanwhile, commercial mortgage delinquencies ended 2007 near record lows. And get this: Over the past year bank loans to businesses have grown by $250 billion. During the credit crunch of the early 1990s, these loans fell by $60 billion. Believe it or not, credit is still available, even to small businesses.

In the stock market, the best-performing sectors since the January 22 bottom have been transports (trucking and railroads), basic materials, energy, and industrials. These economic-sensitive areas point to a solid near-term pickup in economic growth.

I can't vouch for these facts or their true significance. For example, my understanding had been that housing was very hard hit in California. However, he does make an argument that the overall economic slowdown is broad but still not as deep as feared. In a passage I didn't include above he also notes that McCain is doing well in the polls--a sign that, despite widespread dissatisfaction and unease over the economy, voters are still not ready to translate that into a punitive attitude toward the GOP's presidential candidate.


Patrick, for the sake of further discussion, at Rich's urging I consulted the tables of money supply growth at the Fed web page.


I didn't calculate the exact percentages, but the numbers did appear to me to bear out Rich's assertion that during the critical 1979 - 1983 period the money supply expanded at the same or, if anything, at a greater rate than during the late Carter years--contrary to what I had been given to believe in most of the internet articles on the subject of stagflation! How does this fit in with your argument that raising the Fed Funds rate is the same as restricting money supply growth.

I'm interested--there seems to be widespread disagreement over these matters.

Rick Ballard

Just to keep things on one page:

Monthly CPI and Unemployent (per BLS)
Click the little dinosaur next to the data series desired and it takes you to an interactive chart. The time period of interest is 1975-1987.

Fed Funds Rate (Fed)

Money Stock (Fed)

It appears that the Feds jacked the rates in December 1980 - just before Reagan was inaugurated. It took steady pressure until June 1982 to finally crack the inflation rate. Unemployment moved from 7.2% in December 1980 to a high of 10.8% in November 1982 - and stayed above 10% until June of 1983, not dropping back to 7.2% until November of 1984.

The BEA provides a nice set of stats with which to track GDP growth.

Q1 1982 was the only quarter in which GDP dropped from 1980-1987. I thought there were more.


Libby Disbarred


And r u il or whatever. Start your own blog. We'll all read it, if it's not too long. The bandwidth here is important, but it just takes too long to edit you out. If your not capable of using blogger or something, let us know and we'll tutor you, I assume you are an adult and not someone just pretending or whatever. If you see a psychiatrist, tell him we're not professionals and really can't help that much. Medication is always a good thing and it's best for everybody, really. The pills will help you sleep just like the drugs or whatever and they have other ones just like crack that'll keep you alert or whatever.

Patrick R. Sullivan

anduril, you can't use the money supply figures for the period 1979-1983 and make any sense out of them. It was a period with all kinds of banking innovation that led to new monetary vehicles that were hard to track.

And, it isn't the absolute amounts, but the changes in PERCENTAGE growth that matters. If the Monetary Base--currency in circulation plus commercial banks' deposits at the Fed--have been growing at an 8% rate for awhile, then slowing that to 4% growth will (all other things equal) raise interest rates.

The Fed doesn't simply snap its fingers to change interest rates. It has to change the amount of loanable funds available to move interest rates.

It does that by buying or selling securities in the market. If, buying, it pays for the securities with newly created money by simply adding deposits to the sellers account.


Patrick, I did try to take part of what you're writing about into account when I looked at the Fed money supply figures:

I didn't calculate the exact percentages, but the numbers did appear to me to bear out Rich's assertion that during the critical 1979 - 1983 period the money supply expanded at the same or, if anything, at a greater rate than during the late Carter years

The only way I can make sense of this--and I have zero background in this area--is to figure that either 1) your statement re new monetary vehicles accounts for the stats (and I do remember reading about this some years ago) or 2) the stats need to be measured in some way against something else that's not shown, like the relative size of the economy: if the economy in the early 1980's was bigger than in the late 1970's then the same absolute rate of growth would mean a slower rate in relation to the overall economy. I'm just speculating, but I would like to understand some of this.



The Skeptical Optimist had a series about money. Very informative.


Thanks, Rich. I've bookmarked that and will try to work through it. I'm glad to see at least some people taking my, admittedly lengthy, posts in the vein in which they're offered: my hope is to stimulate discussion on a topic that has a high likelihood of affecting the outcome of the 2008 election--as well as most of our lives for the next several years. I suspect I'm far from the only person on this forum who needs to know more about economic issues, and I appreciate informed comment. As I've said before--linking an article doesn't necessarily signify agreement. What it signifies is my opinion that the article will stimulate reflection.

Patrick R. Sullivan

Here's an econ talk podcast on how the Fed works.

Here's Brad DeLong explaining The Triumph of Monetarism


In the spirit of my last post, I herewith offer Steve Forbes' latest: Here's How to End the Panic.

Here's how, in a nutshell

1. shore up the anemic dollar and, for the time being,

2. suspend "marking to market" those new financial instruments, such as packages of subprime mortgages.

Follow the link for his reasoning.


Saved it, Patrick. Thanks.

Barney Frank

Actually anduril I confess I was wrong.
The point I was making was that Volcker had changed policy in 1980 and ignored monetary aggregates to tame inflation in favor of controlling interest rates. In fact it wasn't until 1982 that the Fed changed policy so it was largely through a form of monetarism and direct money supply measures and control that Volcker reduced inflation.
As far as Patrick Sullivan's comments not sure what to make of them.
The discount rate, admittedly much less important, is set directly by the Fed.
The Fed does alter the Fed funds rate by injecting liquidity by buying government securities. As I said, over the short term, the Fed can thus lower interest rates. If it continues to create money in an attempt to keep short term rates lower than is healthy it can flood the economy with more money than can be absorbed, inflation is ignited as too much money chases too few goods and in direct defiance of what the Fed desires interest rates shoot up as investors seek a positive return on their money.
As far as drawing the technical distinction between cost and price; I guess that's why it's called the dismal science.


Well, you'll notice my somewhat transparent device of confessing non-expertise in advance. Not that it's not true.


Investment banks are taking advantage of the Fed's new willingness to lend to them, as reported by AP (yes, I know I've been warned against quoting AP):

Big Wall Street investment companies are taking advantage of the Federal Reserve's unprecedented offer to secure emergency loans, the central bank reported Thursday.

The lending is part of a major effort by the Fed to help a financial system in danger of freezing.

Those large firms averaged $13.4 billion in daily borrowing over the past week from the new lending facility. The report does not identify the borrowers.

The Fed, in a bold move Sunday, agreed for the first time to let big investment houses get emergency loans directly from the central bank. This mechanism, similar to one available for commercial banks for years, got under way Monday and will continue for at least six months. It was the broadest use of the Fed's lending authority since the 1930s.

Goldman Sachs, Lehman Brothers and Morgan Stanley said Wednesday they had begun to test the new lending mechanism.

Rick Ballard

I'm glad you brought the Volcker bit up, Anduril. Looking at the lag of the effect and the cost of his actions makes it very easy to suggest that no action taken at this point will have any effect whatsoever by November. The possible exception to that would be dampening the current speculative ardor in commodities but recession (or, rather, fear of recession) seems to be putting a small dent in those markets right now.

As to "strengthening the dollar", I'd like to see the wizards making the suggestion continue their exhortation with a "by doing X, which always has effect Y, and therefore "strengthens" the dollar". I really have a suspicion that I know the reason that they don't continue in that manner.


I never thought I'd be quoting a Joel Stein column, but even if you disagree, you'll have to laugh:

Someone give Ben Bernanke a hug

The Federal Reserve chief needs to come down from his panic before inflicting further long-term damage on the economy.

The Fed's job is simple: Don't let the economy get too excited or too depressed. To do that, it gives the nation a steady supply of economic Zoloft. But Bernanke seems freaked out that his meds aren't working, and now he's getting taken advantage of. And because he uses taxpayers' money, we're getting taken advantage of. For two weeks, he's been acting like it's the last scene of "It's A Wonderful Life," only instead of giving cash to a kindly if slightly schizophrenic George Bailey, he's giving it to investment bankers. So really, it's nothing like "It's a Wonderful Life" and a lot like "Scarface."

Last week, Bernanke gave these investment banks $200 billion -- a quarter of everything the Fed has -- as a loan in exchange for mortgage securities no one wants anymore. In doing so, he was brazenly "ignoring the moral hazard," which is an economic term for letting big companies know they can take insane risks and get bailed out by the government if it doesn't go well. This is also an economic term for screwing the little guy.

Then, Sunday night, in a mad rush to prevent a panic before global stock markets opened, Bernanke gave a ton of cash to JPMorgan Chase & Co. so it could buy Bear Stearns. That's got to be a sweet phone call to get from the government. "No, no, guys -- not calling about taxes or trading infractions. Just -- crazy question -- we were sitting here and talking, and we wondered if you'd be interested in a huge wad of cash to buy your fiercest competitor? Really? Great. Also, we wanted to invite you to come over and have sex with us and never call us again if you don't feel like it. We've got ice cream!"

So for just $2 a share -- a $28 savings from Friday's price -- JPMorgan got 14,000 super-smart, super-mean employees, $570 million worth of a building in midtown Manhattan and $30 billion from the Fed. If Bernanke had just called me on Sunday, I totally would have bought Bear Stearns. Mostly to boss around all those jerky frat guys from college who work there now. "Josh, I'm going to need you to leverage the derivatives on lower-back hair. Can you do that by 5?"

Then on Tuesday, Bernanke dropped the short-term interest rate to 2.25% -- half of what it was six months ago -- making it super-cheap to borrow money. The man has done more in the last month than any Fed chief ever. He has nearly proved the long-held theory that even if a Federal Reserve chief saved the planet, it would not make him any sexier.

All of his extreme action is predicated on the myth that we're entering the Second Great Depression. We're not. The run on investment banks Bernanke thought would occur this week didn't happen. In fact, if he had waited just two more days on the Bear Stearns giveaway, he would have seen that Tuesday's earning reports from Goldman Sachs and Lehman Bros. were so unexpectedly good that the Dow shot up 420 points.

More important, nobody besides the Fed is panicking. People are bummed because their houses are worth less, but people were bummed because their tech stocks were worth less, their alpacas were worth less and their Ugg boots were worth less. But your average American isn't freaking out. A CNN poll this week showed that people's main economic fear is inflation -- which is what you get when you print a lot of money, like the Fed is essentially doing by giving so much away. It makes money fun to borrow and not worth saving, which is how the trouble started in the first place. Plus, it makes the dollar fall, allowing Canadians to make fun of us.

I appreciate the Fed's frantic gestures, but housing prices really are plummeting, and I'd rather hit that bottom as soon as possible. It's a hard choice, but I'll take lower inflation, less national debt and a stable future over job growth right now.

Either Stein's on to something or, maybe, he was a Bear shareholder?


Rick, I tend to agree with your comments re Forbes' idea of "supporting the dollar." The best support has always, to the best of my recollection, not been intervention in the market but fostering growth through sound fundamental policies.


h/t bro re stein


h/t bro

I like this Krugman column (Partying Like It’s 1929) on the banking sysem and the shadow banking system. It seems to fit in with the Stein column. What I like about this column is that it raises basic issues: what are banks for and what is the banking "system" all about? What is the proper role of government? And even: should the Fed be intervening in the shadow banking system, and if so to what extent?

If Ben Bernanke manages to save the financial system from collapse, he will — rightly — be praised for his heroic efforts.

Paul Krugman.

But what we should be asking is: How did we get here?

Why does the financial system need salvation?

Why do mild-mannered economists have to become superheroes?


The financial crisis currently under way is basically an updated version of the wave of bank runs that swept the nation three generations ago. People aren’t pulling cash out of banks to put it in their mattresses — but they’re doing the modern equivalent, pulling their money out of the shadow banking system and putting it into Treasury bills. And the result, now as then, is a vicious circle of financial contraction.

Mr. Bernanke and his colleagues at the Fed are doing all they can to end that vicious circle. We can only hope that they succeed. Otherwise, the next few years will be very unpleasant — not another Great Depression, hopefully, but surely the worst slump we’ve seen in decades.

Even if Mr. Bernanke pulls it off, however, this is no way to run an economy. It’s time to relearn the lessons of the 1930s, and get the financial system back under control.

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