Right now a lot of businesses have a lot of assets on their books that are backed in some measure by funny money (e.g. CDSs). Without any way of knowing what those assets are worth, there's no way of knowing what businesses are solvent. It's no wonder that nobody wants to lend money in such an environment.
The only way I can see to restore liquidity is to have the CDS market come down to realistic valuations. Some CDS assets will be worth face value. Some will be worth $0.10 on the dollar. Some will be worth $1 per $million. The only way to get a realistic valuation in such a marketplace is to liquidate it.
Actually, the matter of whether the CDS market should come down isn't really a question. The CDS market is going to come down no matter what we do. The only questions are whether it comes down this month or a few years from now, and how much damage it will do in the process. Trying to bail out the mortgage mess without tackling the CDS issue first will simply allow more wealth to be swallowed up by the CDS money pit.
Bringing down the house of CarDS will cause a lot of businesses to become overtly insolvent. On the other hand, a market where some businesses find themselves overtly insolvent is better than one where nobody knows who's solvent and who isn't. Further, even those businesses that are revealed to be insolvent may be better shape after that revelation than before. Someone who has just filed bankruptcy won't be considered a good credit risk, but will be much less bad than someone who's on the verge of filing.
Politically, what needs to happen is for GWB to do a controlled demolition after November 5. If that were done, I think the markets would recover far better than they will from the infusion of capital.
I don't see where we have until November 5th, based on market fundamentals and the illiquidity going on.
The G7 have been pumping hundreds of billions of dollars into the international market the last few weeks, trying to get some form of liquidity to take place. Nobody is budging. We are worse off right now than we were last Wednesday and Thursday. And I believed then that we would have a bank run on Friday.
The only thing holding all of this together right now is that the American public doesn't even understand what the problem is. They are focused on Republican -vs- Democrat, on overpaid executives of investment banks, and on bums owning homes. Once they realize what is truly going on then the game will be over. Period.
There has been a process in place all of this year to "bring down" the betting pool of the CDS market. They have basically been identying "wash" bets where nobody would be a winner and doing "tear-ups" on the contracts. This has succeeded in bringing the CDS betting pool down to about $54 trillion instead of $62 trillion.
We have run out of time. We need to pass immediate legislation banning CDS contracts on bond insurance. That is what Congress should be doing right now, instead of wasting their time figuring out whether to use a 5 gallon or 10 gallon bucket to bail out the Titanic. This won't fix our immediate crisis, but it will help our chidrens futures.