Nowhere near over

January 24, 2009

Seems like every day another bank needs another fresh cash infusion or fails altogether, which invariably results in another round of articles, analyst opinions and “is it over?” type queries from every financial news anchor.

The obvious answer is, it isn’t.  And it won’t be for as long as home prices keep dropping and foreclosures stay up.

It’s not rocket science: Banks still have 40 trillion of derivatives on their books, much of it CDSs and MBSs whose value declines when the value of the underlying assets they represent or insure goes down.

We have a clear choice to make as a country, do we:

a) Let home prices fall until some sort of historic affordability level is reached, in the meantime injecting another 2-3 trillion into our banking system just to keep it from imploding.

b) Stem foreclosures and stabilize prices where they are (already 20-40% from high depending on market).

I believe the first option is dangerous and maybe even impossible to achieve: If the financial system isn’t stabilized soon, the resulting deep and protracted slowdown will result in such loss of jobs and purchasing power, historic affordability figures will be meaningless.

Home prices must be stabilized, one way or another.  I hope the rest of the TARP is used this way to a large extent.

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