The Feds should not cut their benchmark rate

Basically, the recent market turmoil plastered in the newspapers were due to a mortgage problem in the US. US, having a savings rate of -1.5%, are having higher defaults due to loans to people with little or no check on their credit worthiness. To summarize, these people might not be able to pay back. These loans are known as the sub-prime loans. I would say the US banks have proper risk management in place. The problem comes for those mortgage companies that is out to make a quick buck, as seen by the rising number of bankruptcy.

If you have read some other articles from the US, many people, especially those CEOs of the mortgage companies, are saying recession is coming because of this problem. Why are they saying that? That's because they want the Feds to save them by cutting their benchmark rate (current loan rate). The rate is now currently 5.25%. With lower loan rates, these mortgage companies might be able to save themselves.

Will this cause a recession? From a business perspective, I don't see how a company can make such excessive loans to people who are not credit-worthy. Under proper risk management guidelines, this should not happen. I believe the banks might make less money due to losses and defaults from this mess, but they'll survive. Economy will slow down a little since the time of easy money is gone. Recession?? Not likely. US did not become a superpower because of their property prices.

My take is that the current Fed chief is different from the previous chief. I don't think he is interested in bailing out those companies that take big, excessive risks in the name of higher profits. The feds having bigger problems because they cannot afford to cut the rates now when all the indicators are showing that energy and food costs will rise. Even in Singapore, our inflation is going to hit 3% this year, no thanks to the GST increase our government has mandated even though energy and food costs have been consistently rising.

Cutting the rates now might be good for the short-term, but long-term wise, it will just encourage easy credit. If I'm not wrong, US wants to reverse the negative savings rate to positive savings rate. Only way to do that is to make loans expensive. After which normal demand and supply will lower the consumption patterns. I mean if things are expensive, cut down on your expenses. The solution is not to borrow money. Their worry now is that it will lower their consumption too much. That was why they only cut the discount rate, which is the loan rate charged when banks borrow from the Feds.

The Feds should only start lowering the rate next year, and slowly. I won't be surprised if they hike the rate again after lowering it. This should give out a strong signal that they will no longer provide easy credit, and moderate consumption. Translated though, growth is going to slow for the US. For those that are dependent on the US market, they have to start to explore other markets. The global economy has been dependent on the US market for far too long.

I believe that is the main reason why Japan and Asean are going to sign a FTA by the end of this year. This is to boost trade and consumption. It will not stop the slowdown, but it does add diversification. Like it or not, the whole world is dependent on the US spending more than they earn. Times are changing though...

Seems like 2008 will be a very interesting year, with all these problems coming up. Global economy will slow down, as far as I can see. Rise of China remains to be seen. I've no idea how
they are going to do the Olympics. You've no idea how bad the pollution is in China. I can't even see blue skies in Shanghai when I was there.

However this does bring about an important point. I remember clearly that someone in Singapore has tried to compare the property prices here and the prices in Britain, saying our prices are low. Well... In case anyone is interested, Britain is even in a worse state than the US, in terms of their mortgage problems. You won't have mortgage problems if your property is priced in proportional to the average salary right?