U.S. financial crisis spreads toward your wallet
Banking woes, rising debt levels, and unemployment will put consumers in greater trouble, economists say.
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Presently, consumers and banks are both trying to de-leverage, that is, reduce the amount of money borrowed in relation to their assets or income.Skip to next paragraph
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"It is going to get more painful," says Mr. Malmgren. "People will be more and more cautious." So will banks be in granting credit and loans.
So far, the world's bigger financial institutions have suffered losses or written down asset values on their books totalling some $500 billion, according to Bloomberg.com. To help bolster their financial position and continue lending, banks have raised $353 billion in new capital, but are having trouble rounding up more money.
About $43 billion of new capital for such major firms as Citigroup, Merrill Lynch, and Morgan Stanley, was provided by sovereign wealth funds. These are investment pools set up by oil-rich nations, such as Kuwait and The United Arab Emirates, and trade-surplus nations, such as China and Singapore. Last week, the Korea Development Bank was considering an investment in another troubled US investment bank, Lehman Brothers. In effect, foreigners are buying large chunks of the American financial industry.
So far, though, the investments of the sovereign wealth funds have done poorly, at least on paper. Mr. Shilling notes that the price of the stocks they bought is down between 21 and 55 percent.
To Shilling, Malmgren, and Lee more big losses can be anticipated.
In 2006, the Bank of International Settlements in Basel, Switzerland, a bank for the world's major central banks, put the value of financial derivatives at $26 trillion. That's almost twice the level of the US annual gross domestic product, that is, its total output of goods and services.
Lee suspects the nominal value of derivatives escalated to $100 trillion as banks raced for profits and fees by selling derivatives around the world. On top of these were derivatives on derivatives, up to 10 degrees removed from real loans, charges Lee. Investors were often ignorant of their nature.
"The construction and sales process for structured products is opaque, and no one really knows what credit risk is transferred to whom and who is left holding the credit risk bag," Lee wrote in 2006.
"We have been living in a phantom economy," she held last week.
Neither President Bush nor Congress is expected to tackle the financial mess, except maybe in the housing area, before the November election. So the problem will be left largely to a new president.
Lee hopes for a tougher regulatory system, reversing the deregulation trend during the Bush years.
"If we want to ensure financial market integrity and stability, then we should consider the ethical obligations to move beyond a system of self-regulation," she wrote. Since financial markets "always attract the foolish and the greedy," she notes that "no perfect solution exists."