TJP

Message to the Dominant Political Parties

By Byron A. Ellis-October 02, 2008

Credit crunch is defined as an economic condition in which loans are hard to get; it is often due to an environment in which financial losses and asset value write-downs have occurred. The resulting outcome of a credit crunch is higher interest rates.

The principal reason for a credit crunch is poor lending practices, reduction in price of goods or assets in a particular market, such as housing.

However, the Federal Reserve System has the capacity to influence the money market through open market operations and the discount windows of Federal Reserve Banks.

Commercial banks can borrow to meet temporary liquidity needs and to cover reserve deficiencies.

Liquidity is the ability of investors to convert assets into cash quickly at low transaction cost. Homeowners and real estate investors have had problems converting real estate assets into cash. And, investment firms have had problems converting mortgage back securities into cash.

The housing market liquidity problems stems from housing pricing uncertainty and the reduction in consumers’ income allocated to housing. As a result, the value of real estate assets has been steadily decreasing over time. Economists call this phenomenon deflation.

Deflation in the housing market is due to lower housing demand. And, lower housing demand is a result of consumers’ incomes been allocated to pay for other goods or services; in this case transportation and food costs resulting from rising crude oil prices.

So, what compensation scheme would restore consumers’ income reallocated from housing? Lower price of crude oil would restore consumers’ income reallocated from housing. In the absence of lower crude prices, targeted government income compensation in the form of housing vouchers would restore consumers’ income allocated to housing and solve the foreclosure crisis and hence housing pricing uncertainty.

Housing vouchers would also mitigate the liquidity problem. A voucher is a gift of income spendable on a specific commodity, in this case housing. Its effect is to shift the consumers’ budget line outwards, helping homeowners meet their housing needs. The voucher should be for a limited period of time, say two years or so.

The bailout bill contemplated by politicians, however, will not resolve the housing crisis. It would only benefits the Fat Cats on Wall Street. And, it is unlikely to improve credit, since there is no linkage between providing funds to Wall Street and credit looseness.

Lack of credit is a result of procedures implemented by banks. Some may even argue that credit tightening during the bailout debate is merely collusive behavior on the part of financial institutions to pressure Congress and the taxpayers to approve the bailout.

If a viable third party existed, the Republicans and Democrats would have difficulties supporting the bailout bill for Wall Street Fat Cats. However, they’ve concluded that by acting in unison they can achieve political cover and voters will have difficulty placing blame for the $700 billion giveaway.

The Republicans and Democrats are calculating that the voters who are vehemently opposed to the bailout bill have no alternative in the voting booth.

However, voters have choices, they can vote for one of the minor parties. That would surely be a CHANGE and a wake up call for entrenched politicians.

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