Charles Rowley's Blog

“‘All right,’ said the Cat: and this time it vanished quite slowly, beginning with the end of the tail, and ending with the grin, which remained some time after the rest of it had gone.  ‘Well!’ I’ve often seen a cat without a grin,’ thought Alice: ‘but a grin without a cat! It’s the most curious thing I ever saw in my life!’”  Lewis Carroll, Alice’s Adventures in Wonderland

Tomorrow, March 31, 2010, the Cheshire Cat slowly begins to vanish from the non- market in toxic mortgage-backed securities in the United States, as the Federal Reserve’s $1.25 trillion buying spree formally ends.  Now, one should not overstate the extent of this limited withdrawal, which more appropriately might be described as sitting on one’s hands (or rather on one’s Nancy Pelosi-sized false grin).  Well not exactly sitting on one’s grin.  Bad Ben Bernanke is actually sitting on a toxic waste dump of  largely worthless mortgage-backed securities that he has generously taken off the hands of Fannie Mae and Freddie Mac.  Well, not exactly ‘generously’, since he is debasing the nation’s currency to prop up a housing market that is way out of equilibrium at this time.

The question for Alice is not whether one can have a grin without a cat, but whether that grin will  slowly transform itself,  first into a grimace, as mortgage rates begin to rise to market-clearing levels, and ultimately into terror as the nation’s house of cards comes tumbling down.  A lot now depends on how skillfully  Bad Ben Bernanke and Timothy Geithner can stack the deck while  playing no limit hold em poker  with a pile of worthless chips. I suspect that ‘Bad Ben’  Bernanke is no Stu ‘The Kid’  Unger and that  ’Tiny Tim’  Geithner is no Doyle ‘Texas Dolly’  Brunson at the  No Limit  Hold Em tables. They will  both be swiftly detached from their coveted covered wagons.

And do not forget the Chinaman who serves as banker to this gambling duo.  He knows how to shuffle a deck of cards, how to move a good and a bad hand around the table, as he deftly plies the unwary duo with a pipe or two of  opium, and encourages them to inhale its white and yellow vapors. Push hard on that money pipe,  Bad Ben,  to fuel the ole mortgage market.  Ease back on the ole bills pipe, Tiny Tim, to lower the yields on  those suckers.  Hang on to your shirts, fellers.  That’s all you have left to lose!

The market in Treasury notes and the market in mortgage-backed securities repay close attention as the Federal Reserve and the Treasury Department gamble with our fortunes.  All is not well along Constitution Avenue and Pennsylvania Avenue. All is not well at all.  Already, the Chinaman has made his first move in the game, vacating his seat at the table for last week’s auction of Treasury notes. In consequence, the yields on 10-year Treasury notes surged upwards to 3.852 per cent, pushing Fannie Mae’s benchmark 30-year bond from 4.33 per cent to 4.45 per cent, and mortgage rates above 5 per cent.

Although the yield gap between Fannie Mae bonds and Treasury notes so far has not widened, once the yield on Treasury notes leaps the 4 per cent barrier, that yield gap will surely increase. And, of course, bondholders will suddenly smell the toxic fumes emanating from that mortgage-based securities waste dump. Oh, yes, and they may just begin to remember that old-fashioned relationship between increases in the supply of money and price inflation; and between inflationary expectations and mortgage rates.  What is going to happen to the value of all those toxic assets, Bad Ben, once mortgage rates reach 14 per cent per annum?

The Chinaman reshuffles the cards, noting all the  while  the drug-induced,  false euthoria of the gambling duo.   Time to fold your hands fellers. Now please do not perspire too freely, Bad Ben and Tiny Tim.  After all, those shirts on your backs will shortly belong to me.   The Chinaman recirculates the opium pipe around the table…The chips (and the shirts)  are moving in his direction…

Oh,  and by the way,  please advise  boss-man that he  no longer welcome at  table;  his credit  no good. You come back anytime.  Chinaman likes US tailored shirts; so few of them nowadays!  Please accept China-made anti-perspirant;  much less toxic than Fed assets.  Here, take opium pipe  for boss-man; help him dream of  Second American Century!

Tags: Fed stops buying toxic mortgages, spike in mortgate interest rates, spike in yields on Treasury notes, the road to ruin, Treasury sells notes to finance deficit

This entry was posted on March 30, 2010 at 8:23 am and is filed under budget deficits, economics and public choice, Housing market economics, mortgage crisis, politicization of the Fed, weakening of the dollar. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.