The feds are pulling out all the stops to end the rout in financial markets. On top of the Hank Paulson’s pork-laden bailout bill, the Fed is pumping hundreds of billions into the global financial system. It has even started buying up short-term commercial paper.

Today, the Fed joined other major central banks in a surprise and unprecedented coordinated rate cut. Still, US stocks open sharply lower.

William Patalon III says the Americans “have less money to spend … and are spending more for less.” He gives three reasons why the US is plunging into recession.

This from Money Morning:  

1. The Three-Headed Monster: Congress, U.S. Treasury, and The Federal Housing Authority

Let’s be very clear about one point: The Fannie Mae (NYSE:FNM) and Freddie Mac (NYSE:FRE) bailouts were necessary.

These two institutions are the centerpiece of the American Dream – home ownership and a vibrant economy. If Fannie and Freddie collapsed, so would everything leaning on them.

But the recent Housing and Economic Recovery Act of 2008 – passed through Congress and the Senate, and signed by President Bush at U.S. Treasury Secretary Henry Paulson’s urging in mere weeks – is the equivalent of lobbing a grenade into a gasoline warehouse.

The act will allow 400,000 homeowners in danger of foreclosure to refinance their mortgages into 30-year fixed-rate loans. The Federal Housing Authority (FHA) will back up $300 billion of these loans.

Because all these folks need help, and because the FHA requires down-payments of only 3%, those who can refinance actually might do so instead of just walking away. Even more incentive: The FHA allows the down payment to be borrowed, gifted or provided by charitable organizations.

The FHA will end up with subprime and junk mortgages where the borrowers have “no skin in the game,” and no upside incentive.

Also, these troubled borrowers will have less incentive to repay. In the end, when those dead-end mortgages are abandoned, we the taxpayers will pay to bail out the FHA.

In effect, Congress, the U.S. Treasury and the FHA have elected to take out a subprime mortgage on the economy’s future – with already strapped taxpayers footing the bill.

2. Inflation

Inflation is so rampant that it’s gotten to the point where government reports say a 2.3% hike in consumer prices is “acceptable.”

Acceptable? Hardly. It’s absurd, especially since personal incomes are not keeping up with inflation.

As you’re well aware by now, gas prices have rocketed – climbing an astounding 26% in the past year alone.

But less visible: the soaring price of food.

Kraft Foods Inc. (NYSE:KFT) said its prices will jump by 12%-13% this year, and even as much as 25% in some of its cheese categories.

Global chemical producer Dow Chemical Co. (NYSE:DOW) recently raised prices on all 3,200 of its products, some by as much as 20%, in the single-biggest price increase in the Michigan-based company’s 111-year history.

The problem is going to get worse in the months ahead, as a survey by the National Association for Business Economics (NABE) has found that almost four times as many businesses plan to charge more for their goods and services next quarter than expect to reduce prices.

3. Ben Bernanke and the Federal Reserve

This one may be the most obvious choice, but it’s probably the biggest economy killer of the three.

The Federal Reserve’s job is to masterfully manipulate the public’s perception of where interest rates are headed.

It actually intended to gain and keep our confidence in its ability to stem inflation and strengthen the greenback. And it pursues these two objectives by simultaneously managing the direction of interest rates and working to keep the economy from dropping into a recession.

But as hindsight shows us, they achieved neither.

Instead, the credit crisis has blown our banking system apart. And the fallout from that explosion has smashed our entire capital infrastructure.

If rates are lowered any further to stimulate growth, already troublesome inflation could escalate out of control.

And if the central bank actually raises rates to combat inflation, adjustable rates on mortgages will rise, setting in motion a whole new round of housing defaults… which will lead to an escalation of bank write-downs… which will torpedo stock prices… which will force institutional investors to liquidate holdings to raise capital.

The same will happen out in the marketplace, where companies with debt coming due will find it impossible to refinance, touching off still another avenue of defaults, losses, and write-downs.

So rates now have to stay put in order to jump-start these crucial liquidity flows and re-ignite demand. While it’s true that maintaining low interest rates will further fuel inflation, the Fed really has no choice.

Better to keep rates low now – and believe that it can throttle back inflation later on.

Source: U.S. Economy: Are We Nearing the End of the American Dream?