Monday, September 10, 2007

Captain Credit Crunch

A lot of noise is being made about the so-called credit crunch.

However, I am not certain we are in one or if we are the correct remedies are being discussed.

The most common idea is the reduction of the Fed's interest rates. However, if we are in a credit crunch then cutting rates would exacerbate the problem. Interest is nothing more than the cost of money. I take "credit crunch" to mean there is not enough money in the system to satisfy demand, that is there is not enough cash to satisfy the demand to borrow it. So cutting interest rates will cause more people to want to borrow. No, the solution would be to keep rates where they are or even allow the rates to go up more!

With an increase in interest rates fewer people would borrow, more people would direct their wealth into those areas in order to get better returns on their money.

There are other ways to increase the amount of cash available for lending, but those too come with costs.

Also, I am not convinced the "sub-prime" credit market is as bad as being portrayed. I just can not believe the sub-prime market is large enough to have serious effects upon the economy as a whole. Of course, those who played the market are feeling the problems severely, but such is the game of investing.

Oh well. One thing I know, one of the signs of looming recession were noted to me by my banker sometime ago and that was short term interest rates (in this case house ARMs) were higher than 30 year rates the infamouse inverted yield curve.