The Great Depression Online




Great Depression Online Archive Issue:

A Bone Dry Wishing Well

Great Depression Online
Long Beach, CA
March 11, 2008

Inside This Issue You Will Discover…

*** Drawing Water from the Ground
*** Drying Liquidity
*** A Bone Dry Wishing Well
*** And More

Drawing Water from the Ground

Ground water is stored naturally below the earth’s surface in the pores and cracks of underground rocks and in the spaces between grains of sand and gravel.  As water from rain and snowmelt seeps down into the ground, a saturated zone called an aquifer is formed.

A water well is like a giant straw that’s been drilled into the ground.  It has a pump that’s used to suck the water from the aquifer.  But over time, if water is removed faster than it’s replaced, the water table can be lowered below where the well can draw water.  The result is a bone dry well.

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Drying Liquidity

You may think of “liquidity” as the ability to liquidate assets, or how quickly you could sell an asset to raise cash.  But in banking, liquidity is used to mean the ability to meet obligations when they come due.  It refers to having adequate cash flow.  Meaning that money coming in from investments or loans will be adequate to meet anticipated depositor withdrawals. 

When depositors demand their money in exceedence of a banks cash flow, it’s a big problem.  In the old days, it was known as a bank run – where a large number of customers, fearing a bank’s near insolvency, all show up and demand their money at the same time.

Of course the bank can’t give back all their money at the same time because they’ve loaned it out to others.  This is known as a liquidity crisis.

Today bank runs are rare.  Because now, the U.S. Federal Reserve lends money to banks that are in need of liquidity.  It seems so clever until some simpleton, like your editor, asks the simple question: Where does the U.S. Federal Reserve get the money from?

The answer, we believe, is notably unsatisfactory.  That is, they borrow it into existence.

Craig Torres and Vincent Del Giudice, reporting for Bloomberg tell as that “The Federal Reserve moved to add as much as $200 billion to the banking system over the next month to offset a deepening credit crisis that may have already pushed the U.S. economy into a recession.

“The decision is the central bank's latest attempt to reduce the threat to the economy from banks curtailing loans to companies and households.  Banks and securities firms have posted losses exceeding $188 billion since the start of last year as the impact of surging defaults on subprime mortgages rippled through world financial markets.”

So many bad loans in the United States have been made by so many banks that the solvency of the entire banking system is in question.  What’s more, these bad loans were repackaged as investments by Wall Street and sold the world over, so that they too have contaminated the global financial system.

A Bone Dry Wishing Well

When assets deflate in value, whether it’s a home owner’s home price in Miami or the backing of a structured investment vehicle (SIV) that was sold to a pension fund in Berlin, wealth is rapidly destroyed.

And now liquidity is drying up faster than the Federal Reserve can flood into the system.  Like a water table that’s been drawn down below the bottom of a well, the financial pumps are working overtime and out comes scarcely a trickle.

Bernanke’s spoken wish is to restore liquidity to the financial system…to keep the cash flowing.  But to do so he must forfeit the dollars value.

Yet, so far, this wish has been futile.  For a pesky but immutable law remains…  You can’t get water from a bone dry wishing well.

Sincerely,

M.N. Gordon
Great Depression Online

P.S.  By the time Bernanke’s liquidity experiment erupts into complete public outrage, the dollar will be a frail shell of the value it still clings to today.  Protect yourself and acquire instance diversification outside the dollar now.  High Yield International can help.  Learn more here: The Gift that Keeps Giving: The Falling U.S. Dollar.

 

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