Financial Market Stability Still a Challenge
Real gross domestic product (GDP) contracted at an annual rate of 3.8% in the final quarter of 2008, according to the “advance” report released by the Commerce Department on Jan. 30. Although this was the weakest performance since 1982, the decline was smaller than the 5.5% that NAHB had been estimating. Two surprises limited the fourth-quarter GDP contraction: Business inventory investment added 1.3 percentage points to the change in GDP, and net exports were neutral rather than a drag.

Both performances were unsustainable, and the inventory buildup definitely has negative implications for the early part of this year. The Fed now has the target federal funds rate at its effective floor ― at or close to zero. Furthermore, our central bank has aggressively provided short-term liquidity to sound financial institutions, including primary securities dealers, through creative use of the discount window. The Fed has additional measures under consideration or on the drawing board, and it is hoped that these will be implemented in the immediate future.

A new Term Asset-Backed Securities Lending Facility (TALF) has been promised for some time. The Fed also has been talking about buying more aggressively into the long end of the Treasury yield curve, in effect “pegging” long-term Treasury rates at some desired level. On Feb. 10, Treasury Secretary Geithner unveiled the Administration’s eagerly awaited “Financial Stability Plan.”  Unfortunately, the financial markets expressed a good deal of skepticism about the plan as the stock market fell sharply. The negative reactions apparently were provoked partly by a glaring lack of details.

The markets were looking for quick and decisive government support to the credit system but came away with major uncertainties. The markets also appeared to be concerned about heavy emphasis on the need for private capital, and comparatively light emphasis on the potential need for more public funding to “cleanse” the balance sheets of stressed financial institutions. In general, the package was far less bank-friendly than the markets had hoped for. Perhaps the Financial Stability Plan just wasn’t quite ready for prime time, and implementation of a fleshed-out plan might turn out to be quite constructive. But the announcement was a stunning downer for the markets, and there’s a lot of skepticism about the eventual success of the plan outlined by the Treasury Secretary — not exactly what the markets and the economy need at this juncture. [ return to top ]