Off we went to the store where he had scouted out the best price on the unit he wanted. Wow, these things are expensive. As he stared in wonder at this digital behemoth, the sales person dutifully came up to close the deal.

As is always the case, numbers started flying back and forth between the sales person and myself; cables, warranties, delivery costs, you know the drill. The once affordable unit was now a much bigger number.

Glancing at Guy, that’s his name, he had completely glassed over during the rapid exchange. There was literally a haze over his eyes and he had obviously lost the flow of the conversation. The big numbers had done their work on him. It was too much for him to manage. This is how most big-ticket items are sold to the uninitiated.

At that moment, I flashed back to the first time I went with my father to buy my first car. The exact thing happened to me. I clearly remember glassing over and losing all sense of what was happening. I was in over my head. This was new territory and it owned me. I was lost in the particulars and I did not fully grasp all the details. In fact I remember Dad explaining to me what had just happened as we drove home.

Since President -Elect Obama started his push for an economic stimulus package I have had this bad feeling that the glass over affect has kicked in. That’s not unusual. Anytime Washington claims to be fixing anything I get that, “not again” feeling. I entered the work force in the mid 70’s and remember too well the last big push by D.C. to make a bad situation better. Boy, do I remember!

It isn’t that I don’t think an infusion of cash or any investment in infrastructure is a bad idea, I know we need it. There has just been something out of place or not quite right about it. I attributed it to my genetic rejection of anything that comes out of Washington as bad and probably exactly the wrong thing at the wrong time, or worse, just another political payoff with my money.

Then it hit me. Putting cash into a broken banking system is like having a hole in a water bucket. We can’t possibly expect this money to have its maximum affect on the economy if the banks are still broken. How can he be missing this?

Banks must be recapitalized and made healthy first, if any stimulus package is to have any chance of producing the desired affect of shocking the economy back to some degree of normal functioning.

As things stand now, banks are literally hoarding as many assets as they can just to stay above water. They have been crushed by the collapse of the mortgage market.

It isn’t realistic to expect them to say suddenly, “Oh, this is stimulus money, lets get back to normal lending.” If you know any bankers, you know how much of chance this has of happening.

Credit channels are loosening up. There are signs that the crisis, while not over, is improving. The LIBOR rate is down significantly and mortgage rates have dropped to the point where in some markets houses are selling again and there are signs of a real estate bottom. Granted these are very early signs, but it’s the first sunshine in a very dark year. Let’s enjoy it.

The first infusion of cash into the banks seems to have evaporated. Businesses are still having trouble borrowing for their day-to-day cash flow needs and the average Joe is still being rejected for car and major purchase loans because he doesn’t have perfect credit. Has anyone thought about how injecting more cash into the system will work if the banks hoard it again?

As Obama has stated, and I agree, time is of the essence, but there are just as many people asking for a rationally paced approach to this decision as are pushing for instant action.

If you have read my column before, you know I hold congress responsible for the bulk of this credit mess. When they mandated FNMA and Freddie accept loans from people who would never otherwise qualify for a mortgage, they opened the floodgates and almost destroyed the world economy.

Some of my colleagues at IDE are on the other side of this argument; they hold the banks and Wall Street responsible. From my perspective what congress really did was put piles of money on the street, unguarded, and assumed people wouldn’t steal it. Huh?

This decision, to give away money for mortgages, smacked of not having a full understanding of the mortgage markets.

So, here we are again. Another effort by the government to fix a problem, and a noble effort indeed, and once more they seem to have missed something. Just as they didn’t fully understand the long-term ramifications of making money available to deserving but credit risky buyers, they seem also to have a limited understanding of what needs to happen for a stimulus package to work.

The glass over affect could be kicking in here to some degree. Has Obama really had the time to think through all the implications of this move? I don’t think so, and it’s too much money and there’s too much at stake to have another government decision be almost right.

Action now must be slow, deliberate and right on the money. Let’s hope the system does its usual slowpoke routine and there is time to fine tune it and get the full benefit from this effort.

Source: There’s A Hole In The Bucket

This from The Rude Awakening:

The American people voted for change…and now they’re going to get it. But the change they get may not be the change they expect Obama to deliver. Something more sinister may be coming our way.

After an historic election and inauguration, president-elect Obama will enter office with a huge list of challenges. These challenges — from a contracting economy to large-scale corporate bankruptcies to soaring national indebtedness — will undoubtedly restrict his agenda.

Let’s hope Obama recognizes the need for incentives, profits, and capital investments in the economy. The economy cannot be taxed and regulated without potentially severe consequences. Former Fed Chairman Paul Volcker (and the last Fed chairman to provide adult supervision for the banking community) is an Obama adviser. So Obama should be apprised of the consequences of Carter-era deficit spending and money printing.

At the very least, Obama must act as a check on the potential for a Democrat-dominated Congress to turn a recession into a depression.

For example, some in Congress are floating a proposal to steal your 401(k), sell the proceeds, and invest in “government-guaranteed” retirement accounts. The only thing this Marxist idea would guarantee is a depression. Call or write your congressman if you feel that your 401(k) is in danger. We shouldn’t allow them to steal more from prudent savers than they already have.

Keep in mind that presidencies rarely resemble campaigns. President Bush campaigned on limited government and a humble foreign policy, and we got the opposite. To top it off, we had the illusion of real growth, with credit and housing bubbles that led to the greatest misallocation of resources in history.

The free market has been falsely accused for this financial crisis. But the free market didn’t get us here; a combination of government spending and crony capitalism did. Much ink is wasted on how we need to re-regulate Wall Street, but the fact is that the problem would never have grown so large without agency conflicts.

The agency conflict on Wall Street is the mentality of “heads I win, tails you lose.” CEOs, traders, and mortgage-backed security factories were paid more for taking more risk. So it shouldn’t surprise us that they overdosed on leverage to magnify returns, without considering risk.

Performance pay should be based on creating long-term shareholder value, not on meeting next quarter’s earnings estimate. A good place to start would be bonuses in the form of restricted stock that does not vest for 10 years. I doubt Lehman would have blown up if employees were paid modest salaries with the potential for sizeable ownership stakes in the future.

Much of our current mess resulted from totally complacent, incompetent boards of directors. Carl Icahn has good ideas for how this can be addressed without excessive regulation. Icahn explains how most corporate boards behave like government bureaucrats in this post . In my view, we need an economy in which everyone acts like owners, rather than CEO-pillagers.

A banking system built upon on a foundation of paper money also contributed to this crisis. The Treasury and Fed allowed institutions to grow “too big to fail.” Without taxpayer subsidies (i.e., Fannie and Freddie — two of the worst crony capitalist institutions in history) and the subsidy of Fed rate cuts, housing prices would have kept growing in step with household income. Instead, house prices went to the moon. Precious capital was thrown into a black hole when mortgage-underwriting discipline went out the window and homebuyers deluded themselves with bubble psychology.

When the current deflation fears are finally slain by widespread recognition that paper money is limitless, we’ll probably see a return to inflation and higher long-term interest rates.

For now, though, demand for bonds remains strong (rates remain low). So the government will likely keep issuing record amounts of new Treasuries and use the proceeds for bailout after bailout, instead of for productive uses. In other words, the government will toss billions of dollars at walking corpses like AIG – a company that produces nothing but spectacular losses and embarrassing headlines – instead of tossing billions of dollars at companies that produce essential items like barrels of oil or bushels of wheat. When governments toss easy credit toward non-productive industries, the supply of currency soars relative to the supply of goods and services. We call this phenomenon, “Inflation.”

The U.S. government’s massive borrowing requirements over the next several months will absorb a lot of the private capital that would otherwise fund various productive enterprises. So that means that farmers and miners and manufacturers will struggle to secure the credit and investment they need to finance their production. And if farmers can’t get credit, they can’t plant crops, which means that grain supplies are likely to fall…and prices to rise.

As Albert Einstein observed, “The significant problems we face cannot be solved by the same level of thinking that created them.” If the federal government proposes “solutions” to this crisis with the same type of thinking that got us here, we could be in for a very long period of economic pain. America’s status as a destination for foreign capital is at stake.

If the new government fails to act wisely and understand how we got here, the only “government guarantee” we’ll have is depression.

Source: Government-Guaranteed Depression