Earn What You Spend

The United States Fed promised another $800 billion to fight the credit crisis yesterday.  First, the bad news about the economy: 

The government reported on Tuesday that the economy contracted by 0.5 percent in the third quarter, slightly worse than previously estimated. But private forecasters predict that economic activity will fall by 4 to 5 percent in the fourth quarter and continue to contract for much of next year.

This should come as no surprise.  And with Black Friday days away, we’ll start to have a better picture of the health (or lack there of) of large retailers and their suppliers - if their items aren’t flying off the shelf this Friday, we’re really in trouble. 

To help counter the stall in consumer demand, yesterday the Fed announced a new, larger bailout:

The Fed, whose traditional lending role has been to make emergency loans to banks, plans to purchase in coming months up to $600 billion of debt issued or backed by Fannie Mae, Freddie Mac, Ginnie Mae and Federal Home Loan Banks, all mortgage-finance businesses with close ties to the government.

In addition, with support from the U.S. Treasury, the Fed will provide up to $200 billion in financing to investors buying securities tied to student loans, car loans, credit-card debt and small-business loans.

Henry Blodget thinks this is actually an effective move.  Why?  It will

Restart the securitization markets

Allow lenders to shovel more trash assets off their balance sheets (via securitization)

Incent lenders to make more trash loans to consumers (which they will then shovel off their balance sheets)

Reduce mortgage rates (through the buying of Fannie and Freddie debt and creating demand for the loans)

Reduce rates for other forms of consumer credit (credit cards, auto loans, etc.) by creating demand for these loans 

Potentially, trigger a new refinancing boom that will enable to consumers to get out from under onerous adjustable rate mortgages and other debilitating mortgage products and pay less of their incomes in debt service.

 

It is important to note that this new bailout is designed to free up consumer credit; that is, it is an encouragement for more debt.  Do we - the incredibly overleveraged consumer - need more debt?  Is the answer to the current deleveraging we’re experiencing at every level (consumer, corporate, government) to further increase our debt?