Monday, September 22, 2008

Voodoo Economics

I've said before that I have no degrees, but that doesn't mean that I'm stupid. The problem in our economy is not caused by "irresponsible home buyers" who took out loans they could not repay.

The reason Wall Street magnates were jumping out of windows in 1929 was not that the stock values had plummeted, it was that the stock that had plummeted was heavily leveraged. If the stock that they owned had been bought with their own money, then its drop to zero value would have left them broke, but not in debt. But the stock that they owned had been bought with borrowed money, so when it became valuless they were heavily in debt that they could not repay.

The government passed laws against buying stock with more than a small percentage of borrowed money, but in the past twenty years those laws have been removed, and once again it is perfectly to buy financial instruments with money that is not real.

The problem with the toxic mortgage debt is not that it is now without value, but that those subprime home loans were made with borrowed money and now those borrowers cannot pay those loans. Not the homeowners, the borrowers that borrowed the money to lend to the homeowners.

So the government is going to pay those bad loans off. Not for the homeowners, those loans will still be foreclosed. The debt that will be wiped out is the leveraged debt. So now, with a clean slate and still no laws against leveraging, the financial magnates who should be jumping out of their windows will be using their cash to create yet more leveraged debt.

Congress is honking about modifications as to corporate salaries and oversight and the like. Window dressing. Not one Congress person has mentioned limits on leverage.

Can anyone tell me I have misstated this? Paul Krugman?

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