A Few Trillion Here, A Few Trillion There . . .

A recent post noted the billions of mortgage-related losses reported by banks so far: Over $17 billion at Citigroup, over $13 billion at UBS, etc.

Jim Gust commented that he hadn't realized they could generate mortgage loans that fast. It does seem amazing, but cursory research suggests that "they" sure could.

From an IMF study a few years ago (emphasis added):

The size of the U.S. mortgage and agency debt market has grown rapidly in recent years to surpass that of U.S. treasury securities . . . . At the end of March 2003, securities directly issued by U.S. government-sponsored agencies (including, but not limited to, Fannie Mae and Freddie Mac) totaled $2.4 trillion and mortgage-backed securities issued by the agencies totaled $3.2 trillion. The total of these two amounts was 161 percent of the size of outstanding U.S. treasury securities, compared with 73 percent as recently as 1996.

Graphic from a NY Times story last March (click for larger image):

Could all this shaky debt mean recession? Several observers offer their views in today's NY Times. Here are two:

Economist Laura Tyson

The resetting of interest rates on more than 2 million subprime loans will prompt a large number of foreclosures, perhaps a million a year in both 2008 and 2009. These huge waves of foreclosures will depress the price of residential real estate still further. Plummeting real estate values and escalating foreclosures will cause further losses on mortgage-related securities and will further burden American consumers already dealing with higher energy prices and substantial debt.

Given the dampening effects of these developments on both consumption and investment spending, it is increasingly likely that the economy will slip into recession next year. The Federal Reserve should continue to cut interest rates and to experiment with new ways to pump liquidity into the financial system.

James Grant

Though deficient in the powers of foresight and observation, economists do believe they know how to treat an economy on the brink of recession, as this one seems to be. They administer what non-economists know as the “hair of the dog that bit you.”

But booms not only precede busts, they also cause them. Bargain-basement interest rates are a potent stimulant. Borrowing more than they might at higher rates, people stretch. Businesses stock up on labor, machinery and buildings. Consumers buy cars and houses — houses, especially, these past five years. The G.D.P. takes flight.

Then unwelcome facts intrude. Easy money, it seems, was an illusion. Society was not so rich as it seemed. The prosperous future for which people had collectively prepared is slow to arrive. The inflation rate picks up. Supposedly creditworthy consumers and businesses turn out to be risky. They were creditworthy only so long as lenders were willing to advance them more and more funds at those ever-so-affordable low rates.

Grant points out that occasional economic corrections are good for us, even if we hate the taste of the medicine.

Who knows? In a couple of years, stocks may be bargains. And young couples may be able to afford starter homes.