Central Banks Step In: Injecting Liquidity Rather than Cutting Rates

There are more reports of world central bank interventions today.  The European Central Bank stepped in and providing added liquidity.  The Associated Press put today’s figure at $83.9 Billion and Bloomberg put the figure at $83.6 Billion.  The exact number isn’t as important as the scale and the fact that it is substantial. That makes over $200 Billion out of Europe alone depending on which reports you read that has been injected into the system if you include yesterday.

Yesterday the Federal Reserve injected liquidity into the financial system twice yesterday.  Today the Federal added $19 Billion buy buying mortgage-backed securities.  The amount tendered was $31 Billion and that $19 Billion is what was accepted.  The Fed also left the window open again, and I believe they can step in twice more if they choose to.  But this tender is interesting because this gets those mortgage backed securities off the books of some chartered banks.  The bad news is that if you assume that these are Freddie-Mac or Fannie-Mae conforming loans and gave them an average home loan face of $250,000.00 this represents only 76,000 homes if you wanted to look at this on a nominal face value basis.  I admit that this is not how the real calculations are made, but it is a very loose representative figure that can put some things in perspective.  A Billion dollars just isn’t what it used to be.  But this is a start.  It probably isn’t enough by the tone, but nonetheless it is a start.

What is interesting is that the malaise yesterday gave the chance for a September meeting rate cut at 100% and some are pointing that Fed Fund futures are showing that there is basically a 100% chance of an emergency rate cut.  We have spoken with numerous traders, analysts, and a good old fashioned economist this week.  The verdict is that the liquidity crunch and credit issues need to be fueled right now rather than actual rate cuts that further weaken the greenback.  A rate cut won’t actually help a subprime borrower that is inverted in the housing price that no longer qualifies for a mortgage even at a 2% rate.  The credit criteria has tightened to the point that some more housing pain has to come either way and there probably won’t be any solid fix for some of the funny money mortgages.  This liquidity will help the institutions right here and right now.  Sometimes protecting the system rather than all the participants is more important, and this is one of those instances.  The pain is not yet over, but if this continues it will minimize the fallout and will lower the chances of a collapse in the financial system. 

Now for the real question: Is this a $500 Billion problem, or is it a $3 Trillion problem to fix?

Jon C. Ogg
August 10, 2007

Jon Ogg can be reached at [email protected]; he does not own securities in the companies he covers.