Friday, October 31, 2008

October Sitrep

This month has been a period of intense activity on both the political and economic fronts and has made it impossible to stand by and be quiet. Let us hope that with the election this coming week and the general stabilization of the banking system that w have a lot less to talk about. It has been quite enough.

Whoever wins the White House is going to face revenue shortfalls and a winding down of the wars in the Middle East. Pakistan is now confronting its own demons and the transfer of combat resources from Iraq will shred the Taliban. They will get to do a lot of dying and a likely collapse of will among their supporters. The heat will be simply too much.

The internal situation will be of working to restart the stalled economy. Once it is clearly turning over properly and all the indicators are going in the proper direction, then it will be possible to entertain new programs. We will actually know the real costs of this financial collapse and what resources are available.

We are seeing massive volatility in the securities markets at present. It is not unprecedented and is caused by the market shaking off a lot of even normal credit. Hedge funds are been massively deleveraged and thus widening spreads. Supposedly these funds had matched maturities but lousy liquidity. Most likely they borrowed short and lent long and the music just stopped.

At the same time, the trillions lent out in foreign loans are also without offsetting fund support and we are teetering on a global collapse of sovereign credit not unlike what happened to South America thirty years ago. This was financed by the euro dollar market. Again a fast contraction is possible with devastating effects in the global economy. The sub prime disaster has given us a whiff of gunpowder from which we are emerging bruised but perhaps sort of intact. The same will not be true if we can not figure out how to shore up the global situation. What is worse, we actually have little control or influence on it and have to hope that the Europeans have done enough. They certainly moved fast enough.

Credit contraction is underway around the globe and unfortunately must continue for some time at least until all standing lenders are convinced that they are still in business and sufficient transparency exists for a lender to lend to another lender.

So while everyone is dreaming of a fast rebound, the reality is that there is simply not enough information out there yet to support such confidence. I suspect that we have a grinding two years in which every country is working to stabilize the internal situation.

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