http://www.cnn.com/…

Some key parts:

When interest rates are lowered to below what the market rate would normally be, as the Federal Reserve has done numerous times throughout this decade, it becomes much cheaper to borrow money. Longer-term and more capital-intensive projects, projects that would be unprofitable at a high interest rate, suddenly become profitable.

Because the boom comes about from an increase in the supply of money and not from demand from consumers, the result is malinvestment, a misallocation of resources into sectors in which there is insufficient demand.

In this case, this manifested itself in overbuilding in real estate.

Using trillions of dollars of taxpayer money to purchase illusory short-term security, the government is actually ensuring even greater instability in the financial system in the long term.

The solution to the problem is to end government meddling in the market. Government intervention leads to distortions in the market, and government reacts to each distortion by enacting new laws and regulations, which create their own distortions, and so on ad infinitum.

It is time this process is put to an end. But the government cannot just sit back idly and let the bust occur. It must actively roll back stifling laws and regulations that allowed the boom to form in the first place.

The government must divorce itself of the albatross of Fannie and Freddie, balance and drastically decrease the size of the federal budget, and reduce onerous regulations on banks and credit unions that lead to structural rigidity in the financial sector.

Until the big-government apologists realize the error of their ways, and until vocal free-market advocates act in a manner which buttresses their rhetoric, I am afraid we are headed for a rough ride.

Concise and to the point. On the front page of CNN. Not bad.

http://www.forbes.com/…

Despite these steps, more is needed. We must now take further decisive action to fundamentally and comprehensively address the root cause of our financial system stresses.

To restore confidence in our markets and our financial institutions so they can fuel continued growth and prosperity, we must address the underlying problem.

OH OH! So the Federal Reserve is going to be dismantled?! Remove regulations which are only show or there to help those at the top already?

And this morning, we’ve taken a number of powerful tactical steps to increase confidence in the system, including the establishment of a temporary guarantee program for the U.S. money market and mutual fund industry.

The federal government must implement a program to remove these illiquid assets that are weighing down our financial institutions and threatening our economy.

First, to provide critical additional funding to our mortgage markets, the GSEs Fannie Mae and Freddie Mac, will increase their purchases of mortgage-backed securities. These two enterprises must carry out their mission to support the mortgage market.

Second, to increase the availability of capital for new home loans, Treasury will expand the MBS purchase program we announced earlier this month. This will complement the capital provided by the GSEs, it will help facilitate mortgage availability and affordability.

These two steps will provide some initial support to mortgage assets, but they are not enough. Many of the illiquid assets clogging our system today do not meet the regulatory requirements to be eligible for the purchase by the GSEs or by the Treasury program.

I look forward to working with Congress to pass necessary legislation to remove these troubled assets from our financial system. When we get through this difficult period - which we will - our next task must be to improve the financial regulatory structure so that these past excesses do not recur.

This crisis demonstrates in vivid terms that our financial regulatory structure is suboptimal, duplicative and outdated. I have put forward my ideas for a modernized financial oversight structure that matches our modern economy and more closely links the regulatory structure to the reasons why we regulate.

Damn! No.

More artificial risk reduction. This will only continue the distortion price signals and cause more malinvestment. More regulation that will either further enrich Wall Street at the expense of those on Main Street or will stifle their ability to do what they need to do.

Q: Mr. Secretary, what is the alternative here? What is the dire picture you painted for members of Congress last night to try and convince them to support this effort? What is the alternative?

PAULSON: This is what we need to do. Because for some time we’ve been saying that the root cause of the problems in our economy and our financial system is housing, and until we get stability in the housing market we are not going to get stability in our financial markets.

We’ve worked with Congress on a number of the steps, all of which were important, leading up to this. But this is the way we stabilize the system and get at the root cause.

The root cause is central control of the economy. Something every American child is taught is a bad thing. Look at what happened to those evil commies. While the message we received was hyperbolic it’s has some truth. Central control isn’t only inefficient. It’s an inherently flawed system doomed to failure. These neo-Keynesians just won’t give up on their desire to control or antiquated theories. I saw Obama talking about how the fundamental reasons for this crisis include: not spending enough on infrastructure, not spending enough on education, not spending enough on labor (wages), not taxing the rich enough, etc. Just because you spend capital on something does not mean it’s good. It does not mean that’s what should be done. It does not mean you’ll receive a positive capital growth from the deal. The cost of education has doubled in real dollars since the 1970’s with at best a static result. The fundamental problems are the distortions of the pricing signals due to regulation and primarily the Fed’s interest rate and money supply manipulation. If you make debt cheap, or give it away like it is now (interest < price inflation), individuals will fall into the moral hazard trap and over estimate. They will over consume. Over invest. The illusion of wealth furthers the problem.

I wonder what could be the best practical policy to get this information out. I’m not looking to turn everyone into economists… I just want the to recognize something I think everyone does to some degree but stops short of applying it equally across others and the market as a whole. Perhaps just putting Henry Hazlitt’s Economics in One Lesson [pdf] in public places with Rothbard’s The Case Against the Fed [pdf] sprinkled about would help? I think after the recent happenings people would be happy to read through one of these while waiting for the doctor instead of reading People.

http://www.bloomberg.com/…

AIG dropped 34 percent to $2.54 by 1:26 p.m. in Germany, after falling 80 percent in the past week in New York on concern the company would go bankrupt. The seizure in credit markets and more than $500 billion of losses related to subprime mortgages forced the government to take over Fannie Mae and Freddie Mac, which control about half of America’s $12 trillion in home loans, and drove Lehman Brothers Holdings Inc. out of business.

“I am floored,” said former Treasury counsel Peter Wallison in an interview. “No one could have possibly imagined this a few months ago. I can’t imagine why the Fed would do this unless they were sure AIG’s failure posed systemic risk.”

No one? Not a single person? Really, Mr. Wallison? I’m pretty sure the Austrians were. I’m pretty sure I recall Ron Paul talking about the bad things coming at presidential debates, TV interviews and written works.

UPDATE:

Here is one on Fannie and Freddie from 2003:

Ironically, by transferring the risk of a widespread mortgage default, the government increases the likelihood of a painful crash in the housing market. This is because the special privileges granted to Fannie and Freddie have distorted the housing market by allowing them to attract capital they could not attract under pure market conditions. As a result, capital is diverted from its most productive use into housing. This reduces the efficacy of the entire market and thus reduces the standard of living of all Americans.

Despite the long-term damage to the economy inflicted by the government’s interference in the housing market, the government’s policy of diverting capital to other uses creates a short-term boom in housing. Like all artificially-created bubbles, the boom in housing prices cannot last forever. When housing prices fall, homeowners will experience difficulty as their equity is wiped out. Furthermore, the holders of the mortgage debt will also have a loss. These losses will be greater than they would have otherwise been had government policy not actively encouraged over-investment in housing.

Perhaps the Federal Reserve can stave off the day of reckoning by purchasing GSE debt and pumping liquidity into the housing market, but this cannot hold off the inevitable drop in the housing market forever. In fact, postponing the necessary, but painful market corrections will only deepen the inevitable fall. The more people invested in the market, the greater the effects across the economy when the bubble bursts.

http://www.reuters.com/…

An $85 billion government rescue of insurer American International Group Inc looked increasingly likely on Tuesday to stave off a bankruptcy that would have thrown world markets back into turmoil.

The Federal Reserve will extend AIG $85 billion in exchange for a nearly 80 percent stake to bail out the troubled insurance giant, a person briefed on the matter said.

The deal would avoid the biggest corporate bankruptcy ever and follows a government bailout of mortgage lenders Freddie Mac and Fannie Mae just over a week ago.

Then AIG shares, which had sunk 21 percent in regular trading, fell as much as 48 percent in after-hours dealings after reports of a rescue that could wipe out shareholders.

The New York Times, which had reported that AIG could file as soon as Wednesday for bankruptcy protection, later reported the deal with the Fed.

“This would mean another shareholder wipeout,” said David Ader, head of government bond strategy at RBS Greenwich Capital in Greenwich, Connecticut.

Fed Chairman Ben Bernanke and Treasury Secretary Henry Paulson were briefing members of Congress on the deal on Tuesday evening, a Treasury official told Reuters.

“They’re too big to fail. AIG touches too many people and too many companies globally, and it would be much more of a disorderly event if it went bankrupt than it was with Lehman,” said Anton Schutz, president of Mendon Capital in Rochester, New York.

Of course they did. The government goes back on it’s claim, tax payers get it in the ass and the economic problems will continue that much longer.

I bet Lehman Bros. is a bit pissed.

UPDATE:

A bit more info over at CNN:

The line of credit to AIG, which is available for two years, is designed to help the company meet its obligations, the Fed said. Interest will accrue at a steep rate of 3-month Libor plus 8.5%, which totals 11.31% at today’s rates. AIG will sell certain of its businesses with “the least possible disruption to the overall economy.”

AIG will sell certain of its businesses with “the least possible disruption to the overall economy.” The government will have veto power over the asset sales and the payment of dividends to shareholders.

The company’s management will be replaced, though Fed staffers did not name the new executives. The board will remain. For customers, it will be business as usual, officials said.

Two years ain’t no bridge loan.

http://thecaucus.blogs.nytimes.com/…

Senator John McCain, who was criticized by Democrats Monday for saying that the fundamentals of the economy were strong on a day that the bankruptcy of Lehman Brothers and the sale of Merrill Lynch sent stocks plunging, went out of his way Tuesday to make it clear that he understood that Wall Street was in “crisis.’’

At a rally here, Mr. McCain vowed to take aim at what he called the “unbridled corruption and greed that caused the crisis on Wall Street.’’

Mr. McCain – who has said for moths that he believes that the fundamentals of the economy are strong – has used the word “crisis” a lot on the last day to describe the financial situation. He did so in a series of television interviews Tuesday morning, where he called for the creation of a commission to study the problem, along the lines of the commission that investigated the Sept. 11 attacks.

“We need a 9/11 commission, and we need a commission to figure out what went wrong and how to fix it,’’ he said. “And I know we can do it and how to do it.”

OH OH!!! May I recommend some individuals to head up the commission? Ron Paul, Lew Rockwell, Hans-Hermann Hoppe, Robert Murphy, Joseph Salerno, Walter Block… just about anyone from the Austrian School.

“They have broken the social contract between capitalism and the worker.” It’s entertaining that this “conservative” is railing against the so called free market. Of course he’s no fiscal conservative and the US, as is much of the world, has a corporatist system. A system with a centrally controlled money supply which creates these monster corporations. He is either an idiot or a lier. Neither quality should be desired in an executive. The same can be of Obama.

http://online.wsj.com/…

Lehman Brothers Holdings Inc. came under mounting pressure Tuesday after hopes faded for an investment deal with a Korean bank, helping to trigger a 45% fall in the firm’s shares.

Lehman’s troubles mark the latest installment in the worst financial-system crunch in decades, coming just two days after the U.S. government announced its plan to take over the two giants of the mortgage business. U.S. stocks fell Tuesday, giving back gains that had greeted the weekend bailout of Fannie Mae and Freddie Mac.

The drop in Lehman shares highlights the continuing nervousness in markets as the company attempts to raise fresh capital to offset sharp declines in the value of its assets. Shares of Lehman, which is heavily exposed to troubled real-estate investments, have been under pressure for months and were down about 80% this year before Tuesday’s drop. Investors have been frustrated as Lehman has taken months to pull together a plan to raise capital to absorb expected losses.

On Tuesday, credit-rating services Standard & Poor’s and Fitch Ratings placed their ratings on Lehman on review for downgrades. S&P cited uncertainty about the firm’s ability to raise capital, “based on the precipitous decline in its share price in previous days.” If downgraded, Lehman may be required to post billions of dollars in collateral to its trading partners on derivative contracts and other agreements.

Oh and don’t forget Merrill Lynch’s and Wachovia’s problems. Fun times. Domestic stocks down, international stocks down, precious metals down… a lot. Wouldn’t mind so much if we also had price deflation for the rest of the commodity markets.