Chasing the Rabbit: Official Blog by Author Steven Spear

Federal policy to fix the mess we are in will work only if it addresses the mess’s causes.  Those causes are related to uncertainty that make contracting and transacting too risky.  Hence, the system seizes up, like an engine drawing on a blocked fuel line.

The various bailout and stimuli packages must treat the fundamental cause of the problems we are experiencing to be effective.  These problems are:

• The excessive presence of unidentified counter party risk (we don’t know who holds what ‘toxic’ assets).  This leads to:
• The consequent increase in transactional uncertainty –we don’t know who we can enter into business agreements with and with whom we should not.  Because of this:
• There is an unwillingness to transact–everyone sits on their hands rather than make deals to do work.

In short, toxic assets of unknown type and location mean the conditions on which market based economies depend are compromised.  

• People cannot contract (reach agreement) to do work together.
• Resources cannot flow from where they are perceived to create less value to where they are expected to create more. 

Until we resolve those problems, no amount of stimulus will work.  It is like pouring more gas into an engine that does not run.  Until the engine is fixed you will go no farther nor faster.

What must be done?

• Financial institutions must open their balance sheets and other accounts so toxic assets can be identified.
• Toxic and non toxic assets must be isolated from each other in separate institutions–healthy and ill.
• The institutions holding the healthy assets can then start interacting nearly immediately.
• The institutions holding the unhealthy ones can take the time to discover the fair value for the assets they hold and begin to restore liquidity around them too.

We know from virtually every other aspect of life, merely ‘trying harder’ or spending more will not get better results if what we are doing and how we are doing it are flawed.  There has to be a change in how we try and how we spend.  Likewise here.  Unless we fix the ’system,’ no matter the amount of resources we through into it, the situation will not get better.

Related posts:

1. Economic Recovery Package–A systems perspective (Part I)
2. Bob Herbert: A Less Than Honest Policy–Sen. Healthcare ‘Reform’
3. Measuring Value-Added, not Compliance, Key to Health Care Reform
4. Retail Sales Drop on Fall in Autos and the Role of Government in Economic Policy….
5. Lessons from flu and financial pandemics…