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I have been inundated with a lot of questions about the global economy this week; a lot of these questions are to do with the impact of the US economical woes on our global franchise, the Zambian Enterprise included.

 

So, I decided to put on my financial consultant hat and delve into as many econometrical variables as possible to try and explain what a layman may not be told are actually the causes of the economic impasse in the United States.

 

We at the Zambian Chronicle saw this coming as early as last year and in January we published David Frazier’s Global Economic Briefing in US Recession Could Affect Our Global Enterprise, The Zambian Enterprise Included …. This was followed by the Bush Administration’s rebuttal in Bush Sees No Recession Yet the very next month.

 

The argument from the administration has always been that economic fundamental have been sound and therefore much of the attention has been on monetary policy as the Federal Reserve Board has been trying to work on efficacy by reducing Fed Funds Rates. By the way, the Federal Reserve Act of 1913 gave the Fed more power than even the President of the United States when it comes to fiscal policy …

 

The problem with the reduction(s) of the funds rates though was that it created an illusion that by lowering the rates, the cost of borrowing would be lower thereby encouraging market participation by increased credit derivatives (lending and borrowing) in the market.

 

So new buyers were introduced into the system; mortgagee(s) rushed in and started refinancing already existing loans at the new lower interest rates at times cashing in on existing equity and business was booming as finance companies managed to make tones of money from loan origination fees, increased their asset holdings at much higher appraised values while turning around to sell mortgaged backed securities on the secondary market.

 

This illusion missed one point though; liquidity, liquidity, liquidity … the US unemployment rate has steadily been increasing from a “One State Recession” in Michigan at about 12% to the national average of about 6%. This meant that more and more people were getting out of work and despite their new lower mortgage rates and cashed out equity, they had no “ability to pay”.

 

Meanwhile the Federal Reserve kept on lowering the funds rates which eventually became a stimulus that would only encourage further mischief as lenders abrogated their fiduciary duties extending credit to unworthy borrowers and cut corners to close on deals.

 

The Fed regime was an accomplice to that reckless behavior. A fed funds rate of around 3.5% was a detriment particularly with commodities prices soaring and incipient inflation coming to US shores from demand-pull pressures and rising labor costs.

 

A real palliative came in as home owners started defaulting due to their lack of liquidity, leading to foreclosures and short sells. As homes foreclosed and or are short sold, their values declined thereby creating negative equity.

 

But that’s not all, what added salt to the injury is what is called “securitization”. This particularly in the US market comes in the form of Mortgage Backed Securities – MBS. These are asset backed securities sold on the secondary market whose cash flow is backed by collateralized mortgages.

 

Any one with an understanding of basic finance knows that if you borrowed $100,000.00 for 30 years you would probably pay back $300,000.00 on that same mortgage, $200,000.00 of which would be interest income for the lender.

 

These MBSs are backed by that interest income, sold as bonds and or other financial derivatives on the secondary market with a guaranteed yield. Insurance companies, retirement funds and other ultra-virus thrifts like to invest into these marketable securities because of their guaranteed revenues.

 

Well, the problem is if people have no work and thereby are defaulting, then the MBSs are not in actuality guaranteed for the loan term(s) because of foreclosures and or short sells in a downturn economy or prepaids in a vibrant one.

 

These marketable securities (MBSs) are a prerogative of the Securities and Exchange Commission (SEC) and they are regulated by them but they were asleep at the switch. The Federal Reserve Board is in charge of monetary policy and just kept on lowering funds rates and was asleep at the switch.

 

The Department of Treasury has a stake in checking on the yields from MBSs because they affect yields on Treasury Bills but was asleep at the switch; the Bush Administration was busy chasing Bin Laden and was asleep at the switch while the US Congress are supposed to be the watchdog for the tax payers but were busy fighting partisan politics, sleeping at the swath.

 

As of the first quarter of 2006, the total market value of all outstanding MBSs was approximately USD 6.1 trillion, according to The Bond Market Association. These are paper assets in which tax payers’ retirement security has been vested and is likely to be lost if no one takes the right steps going forward.

 

There two schools of thought going on this weekend in Congress, one that says a Government bailout means socializing the markets. Another school of thought wants to lend money to Fannie Mae and Freddie Mac so they can pay back with interest using market forces.

 

We at the Zambian Chronicle see an opportunity for the Federal Government so good to be passed on. The best route would be an outright bailout that places Fannie Mae and Freddie Mac under receivership.

 

This route would not only make the American tax payers shareholders in the $700 billion bailout  enterprise but as these non-performing loans are turned around into performing assets all future interest income can be turned around to be invested into the Social Security and Medicaid/Medicare Trust Funds which are scheduled to go bankrupt by 2045.

 

… problem is I am not running for President of the United States of America; can’t run – not a US born citizen and so they probably would not listen …

 

In closing, this is a dire lesson for all emerging markets, the Zambian Enterprise included. What we have learnt is that greed is bad; using securitization, fund managers increased their income as they lowered their own risks.

 

By cutting corners, greedy loan officers and finance companies made a short term killing and by sleeping at the switch, the SEC, the Feds, the Bush Administration and the US Congress almost crushed the world’s beacon for capitalism.

 

Sometimes, it’s good to know that no one is actually looking out for you after all, you are on your own and you better watch your own back …

 

Live Long & Prosper; that’s this week’s memo from us at the Zambian Chronicle … thanks a trillion.

 

Brainwave R Mumba, Sr.

CEO  & President – Zambian Chronicle 

 

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