Fed’s Stern sees credit crunch lasting longer and may get worse

LONDON (MarketWatch) — Gary Stern, president of the Federal Reserve Bank of Minneapolis, believes the credit crunch will continue for several quarters and could still get worse, according to an interview with the Financial Times newspaper. Stern said that with its core interest rate at 2%, the Fed is well-placed to cope with further weakness in the economy, but is less well-positioned to cope with further increases in inflation, according to the newspaper. He added that headwinds to the economy haven’t diminished and are possible getting worse, setting the stage for a lengthy period of weakness like that seen in the early 1990s, the report added.

The FED has painted itself into a corner on the economy since with rates at 2% already there’s very little they can do to stimulate going forward. They have managed to stave off recession by inflating the money supply. Unfortunately, all that stimulating has led to a wobbly economy that just manages to escape the technical definition of recession, while causing immense pain to the vast majority of Americans, and maybe the world’s citizens before this is all over. Stern needs to admit that stimulus has been a dismal failure on the credit front, even if it has helped the overall economy.

The unwind needs to take place, and it will take place with or without government intervention. The FDIC is one big bank failure from insolvency. Banks are taking Ben’s money to stay afloat, not to lend. The situation is becoming increasingly clear, and it is dire.

Without intervention, this contraction will be fast and painful, but it will be over. With intervention, it will still be painful and it will be with us for years. Sound bites aside.

The 2% rates were ONLY for Wall Street’s benefit. It did not lower mortgage rates, and it caused a rapid increase in commodity prices across the Board. It did spur EXPORTS, when nothing else in this economy was working. It also inflated the earnings in the first quarter of the tech industy in particular due to currency translation gains. Fisher, as you point out, has been the voice of reason during this whole period, but he has not been able to offset the voice of insanity (Paulson) who has one focus - protecting Wall Street from class action suits, making sure that they get both high salaries and are too big to fail, and making sure that the industry DOES NOT PAY FDIC insurance. They want free insurance from taxpayers, which makes sense with their valuable contribution to society - the financial crisis and securitization.

A guest host on CNBC this morning showed a graphic that indicated that the “option ARMs” wave hasn’t even begun to peak yet. He indicated that the nature of these was that they were almost universally speculative buyers and people who couldn’t afford the prices they were paying for homes, so they had to accept the higher interest rates on these option ARMs to get into the house. They don’t peak until middle of next year. Defaults are also rising on prime mortgages now as well.

My neighbors asked me what I thought about them getting an option ARM. I strongly recommended against it, but they got one anyway. Theirs doesn’t reset until sometime next year. When it does, they will absolutely lose their house. I suppose they’ll blame the mortgage co., but since I warned them and they ignored my warning, their tears will be crocodile tears.

One must also wonder how many people will default now — who might not have otherwise — because they now know that Congress and the Treasury (really the TAXPAYERS) are coming to the rescue. “Why should I pay, if I can take advantage of the bail-out?”, they’ll say. Why not?

Tab so far for all the government attempts at rescues and bail-outs since Aug 1 of last year:

$1.43 TRILLION! That is a staggering amount!

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