Are You Worried About Today's Economy? gud article

Thoughts on the Financial Crisis from an Actual EconomistFriday, 19th September 2008
This editorial is from Stephen Popick, a real-life government economist.

Why did the current financial crisis happen? I don't think a fully comprehensive answer could fit into a few paragraphs, but I can give some brief thoughts.

As of this morning, otherwise sound companies are encountering financial difficulties. If we think of the current financial crisis as being a simmering pot on an oven, the water just boiled over and knocked the cover off. Forces that were either hidden or contained were let loose, and this had a cascading effect. Credit markets dried up further in response to the fall of Fannie Mae, Freddie Mae, and Lehman Brothers. Businesses that otherwise were solid ran into cash flow problems. Essentially, we saw a bank run and lenders pull back their lines of credit and new credit could not be found.

This morning we have news that a neo-Resolution Trust Corporation will be formed to handle the tranches of bad debt currently out in the market. The market rebounded because such a move increases the certainty that at least part of the bad debt will be repaid.

But still, companies like Washington Mutual and Morgan Stanley are whispered about in the hallways. Will they be bought? Will they declare bankruptcy? Just what else is out there? And sadly, the answer is that we really don't know, because we don't have a handle on just who owns what debt in what financial instrument.

We don't know the final impact of the US government's foray in this financial maelstrom. What I'd venture to say is that the output and growth of our future economy will be slowed. If we were to have 3% GDP growth before, maybe it's 2% now.

We know that compounding matters, so losing even fractions of a percentage of GDP growth means that, over time, we're going to lose out on a lot of wealth creation. That impacts our children. With the new Resolution Trust Company, our national debt will increase. That impacts our children. Whatever presidential candidate you support, their budget plan just went the way of the dodo.

This crisis further serves as an illustration that our actions have tangible effects on others. Our actions affect others. The risky behavior of many investment firms which have led to the credit crisis sent 401K values tumbling, strained home mortgages, and reduced confidence worldwide of our financial system's health.

There's going to be a lot of congressional oversight hearings on these matters shortly, along with regulation. We're sure to hear "Where's the accountability?" But don't expect hearings and inquisitions to solve much. We're reacting to actions and events that started years ago. Any regulation is likely to also be reactive.

But when this crisis does abate — and it will — we will have other problems looming. We have in this country increasing healthcare costs, a growing national debt, and a retiring workforce. While their impact will be felt 5, 10 years from now, perhaps now's the time to proactively address these concerns, rather than reacting.

This is, I think, where the personal finance community here and throughout the web can have a large, positive impact.