Scary Time Of The Year

Every year around this time, we start seeing all sorts of scary images, meant to frighten us out of our wits.

This time around, there is a new source of disturbing imagery: the global financial markets. In “Losing Control,” FT Alphaville does it’s best to make sure that plenty of people will have a hard time falling asleep tonight.

This is a singularly arresting chart:

It’s Bloomberg’s chart of the day and has been reproduced by Paul Kedrosky on his blog, Infectious Greed. Kedrosky writes:

The following more or less supports what some have been saying for a while - that major banks in the U.S. and the U.K. will end up being entirely nationalized before this crisis is over - but it’s still a striking way of looking at the data. The gist: Government recapitalization and other fund-raising has largely been in service of banks’ prior subprime losses, while corporate and consumer loans are just starting to hit bank balance sheets. It won’t take much to tip banks over into insolvency again.

This is frightening stuff. Not least because the Fed’s own balance sheet is not looking healthy. Via Brad Setser at the CFR, here’s Paul Swartz’s latest graph:

The balance sheet is likely to grow further too. Jan Hatzius, Goldman’s chief economist has pointed out that during the Japanese credit crisis of the 1990s, the Bank of Japan ended up with a balance sheet equivalent to 30 per cent of GDP. The Fed’s is currently 12 per cent.
And on Wednesday the Fed made this announcement:

The Federal Reserve Board on Wednesday announced that it will alter the formula used to determine the interest rate paid to depository institutions on excess balances.

Previously, the rate on excess balances had been set as the lowest federal funds rate target established by the Federal Open Market Committee (FOMC) in effect during the reserve maintenance period minus 75 basis points.  Under the new formula, the rate on excess balances will be set equal to the lowest FOMC target rate in effect during the reserve maintenance period less 35 basis points.  This change will become effective for the maintenance periods beginning Thursday, October 23.

Which is an admission, basically, that the Fed lost control of the Federal Funds Rate. And if that needed proving, take a look at the graph from the New York Fed:

Posted in Categories: Contributor, Economy, External Research, Japan, USA.

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