Central banks are stealing from the average citizen(ZT)

Contrarian Chronicles8/20/2007 12:01 AM ET

Central banks are stealing from the average citizen

Whathappens when fiscal irresponsibility gets rewarded with bailouts? Youget more fiscal irresponsibility. Let's stop rescuing greedy financiersand investors.

By Bill Fleckenstein

Asregular readers know, I have been a longtime critic of the FederalReserve. Not too far back, that view was a decidedly minority one.

Butas our credit bubble undergoes an ugly unwinding, it's dawning on folksthat central banks lie at the epicenter of the problem. Andy Xie nailedit in Tuesday's Financial Times, which is why I've chosen to begin mycolumn with quotes from his article "It's time for central banks to stop bailing out markets."

The bailout stops here

Hewrites: "The global credit bubble is bursting. This bubble is primarilyleverage financing for owning risky assets. The people who wereresponsible for what happened played with other people's money,marketed arcane financial products with false promises of fat profits,but stuffed their own pockets with big bonuses. Neither these mastersof the universe nor their greedy but naive investors deserve to bebailed out. They deserve what is coming to them.

"The central banksshould focus on price stability, not financial market stability, andshould provide liquidity only to contain the multiplier effect of thebubble bursting on the economy. Nor should central banks stimulate toavoid recession at any cost. Business cycles are not bad. Excesses mustbe followed with cleansing. . . .

"Markets have been takingmore risk than they should because they believe that central banks willcome to their aid during times of crisis, like now. The penchant ofAlan Greenspan, former U.S. Federal Reserve chairman, to flood themarket with liquidity during financial instability is the genesis ofthis 'central bank put.' As long as this expectation remains, financialbubbles will occur again and again. Now is the time to act. Let thecrooks go bankrupt. Central banks should bury the Greenspan 'put' forgood."

All I can say is amen to that -- and hope this is howevents turn out. Of course, given how central banks have behaved in thepast decade, I'm not holding my breath. But perhaps this article in theFinancial Times will help crystallize for them what it is they need todo. It's always possible that this time around, the central banks willlet capitalism work. That could help hasten the cleansing process --aka creative destruction -- which would be a positive development, forsure.

Illiquid versus insolvent

Similarly, folks should read what Nouriel Roubini says at RGE Monitor about the current crisis, because I think he hits the nail on the head.

Ratherthan being a liquidity crisis like the 1998 failure of Long-TermCapital Management -- which was more like a run on the bank and wasstemmed by the powers that be -- Roubini describes the currentsituation as a "liquidity crisis that signals a more fundamental debt,credit and insolvency crisis among many economic agents in the U.S. andglobal economy."

For folks in a hurry, the last paragraph ofRoubini's piece captures the essence of the problem. In the meantime,the last few lines nicely sum it up:

"We are indeed at a 'Minsky Moment'and this recent financial turmoil is the beginning of a much moreserious and protracted U.S. and global credit crunch. The risks of asystemic crisis are rising: Liquidity injections andlender-of-last-resort bailout of insolvent borrowers -- howevernecessary and unavoidable during a liquidity panic -- will not work;they will only postpone and exacerbate the eventual and unavoidableinsolvencies."

Video on MSN Money

The latest Fed cuts
The Fed cuts discount window rate by 50 basis points, with CNBC's Steve Liesman.

Turning to the intersection of big-bank and little-guy bailouts, a contact in the housing ATMnotes that more folks than ever are electing not to pay theirmortgages. Apparently, the thinking goes something like: "Gee, if somefolks are not paying their mortgages and are going to get bailed out,why shouldn't I? Particularly if I have a little equity in my house."

Thatis the danger that's been created by the government talking aboutbailing out the housing market: A multitude of people decide to jointhe party and not pay. This is a slippery slope we've been going downfor a long time, and it looks at long last like the problem will be toobig to bail out. Bottom line: The dislocation and pain are starting tobe felt throughout the financial system. We are headed to a lot offinancial turmoil, and there's no getting around that.

Could the fall of Rome hit home?

Lastly,in a sad commentary about where we are as a country, U.S. ComptrollerGeneral David Walker was quoted Tuesday (also in the Financial Times),as follows: "Drawing parallels with the end of the Roman empire, Mr.Walker warned there were 'striking similarities' between America'scurrent situation and the factors that brought down Rome, including'declining moral values and political civility at home, anoverconfident and overextended military in foreign lands, and fiscalirresponsibility by the central government.' "

Unfortunately, it seems to me that he is dead right.