Ones and Zeros

So, moving on from my last long-winded post on the financial mess, what’s next? Are we heading into a 1930s style Great Depression? And more importantly, is YOUR bank going to fail?

I don’t know what’s next. No one does. But first things first; your bank probably won’t fail. While there are no guarantees, I do know that most banks will not fail,. Even in the ’30s that was true. Plus, deposit insurance was just increased, safeguarding accounts up to $250,000.

As a rough rule of thumb, if your bank wasn’t advertising on a national or major media scale over the last year or two, you’re probably ok. The same organizational motivations that led to large-scale bank ads also led to mortgage-backed securities investments. Many local and regional banks didn’t invest in these securities and aren’t directly affected by current credit market problems.

However, local banks are indirectly affected. They are finding it harder to borrow from the inter-bank market and are affected by the same economic decline as we are. This will cause them to be more cautious when negotiating loans.

Conditions which saw the origins of the Great Depression lead into a decade of economic decline are not the same as those seen today, although the consequences of over borrowing are similar. The depression of the 1930s was largely the result of misguided attempts at managing the economic crisis of 1929 throughout the 1930s. Unfortunately, these efforts had the unintended effect of worsening the situation. We won’t repeat those mistakes.

Instead, we’ll likely make a few new mistakes. We don’t fully understand how our current financial system operates, or we wouldn’t have permitted this crisis to occur. The interconnections among countries in financial markets is complicated and labyrinthine - much more complex than those in the international trade of goods and services. (As a result of foreclosures, the largest single landowner in Cleveland, Ohio is Deutsche Bank.)

That said, there are things in place to make sure we’ll learn faster and respond faster. We are recognizing that the problem is international in scope; even the Bush administration has realized that. If we react quickly enough, this crisis can be contained. The UK is essentially nationalizing some banks in order to provide assurance and to build trust that they’ll repay their loans. Apparently, the Bush administration is doing this too. There’s some question as to the way they are doing it.

And this situation must be contained at all costs. The stock market continues its decline. Market volume of shares changing hands is high. Options on stocks show people both believing the market will fall, and others as fervently believing it will rise. The stock market is secondary though. The economy we all deal with day-to-day is more relevant: earning a living, paying rent or mortgage, buying groceries and gas.

I think we have not yet reached the bottom. If the central banks of the US and other countries stimulate economies by injecting money, inflation will result. Falling asset prices in the housing market and elsewhere may be pointing to deflation instead. In either case, jobs will be lost as companies contract or fail.

The stock market will recover sooner than the rest of the economy; it is a leading indicator. The economy that you and rely on will take longer to recover. This is a worldwide situation. Iceland may not have enough foreign currency to buy toilet paper and is seeking a loan from Russia. (Our government won’t help them.) Germany’s in a recession, as is Europe. And recessionary trends are showing up in many other countries.

All the old advice still works: Buy low, sell high, stay out of debt, live below your means, develop extra skills, and be careful with your cash.

This entry was posted on Friday, October 17th, 2008 at 18:18 and is filed under economics. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.