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When The Banks Cut Off Credit
Welcome back!
The world is in economic crisis. So far, nothing has stopped the crisis from spreading. It started with subprime mortgages, and has grown into a hydra-headed monster that is creating fear around the world as banks cut off credit.
With global stock markets continuing their sickening plunge and the credit system all but shut down, efforts by the Federal Reserve, Treasury and global leaders have been overwhelmed by global panic.
The wide-ranging, unprecedented actions to cure the illness may yet prove effective. But until the fever breaks, fear has the upper hand.” John Schoen, “Fear trumps efforts to solve crisis”
In the time of crisis everyone wants to know why. Why did this happen? Who caused it? Was it greed on Wall Street? Lack of regulation that let investment banks get away with shoddy lending practices? Too much regulation that forced banks to lend money to deadbeats? You will hear many explanations, along with many accusations. But the most basic reason has to do with lack of trust in the value of money. This is why every effort to fix the problem increases fear.
When trust in money dies, economic systems go broke, fortunes are destroyed, retirement portfolios are decimated, stock markets fall, and even banks go broke.
What happens when people are afraid that they will not get the full value of their money? They tend to hoard money. People who lost money when banks collapsed in the Great Depression hid their money under their mattresses.
In a very real sense, the banks are also hiding their money under mattresses. This is the real cause of the economic crisis. We don’t have a lack of money. We have a lack of credit. Credit and debt are two sides of the same coin. The banks won’t loan money on credit, which has dried up the amount of money available to borrow.
The following is an excerpt from my book, No Money Limits For Real Estate Investors, in which I use the Monopoly Game as a way to talk about the nature of money.
Now imagine what would happen if every one suddenly became debt free. The entire economic system would collapse. The lifeblood of the economy is borrowed money. Governments depend on borrowed money. Businesses depend on borrowed money. Consumers depend on borrowed money. And with borrowed money, investors can create more money. Debt is the mechanism that has allowed substantial numbers of real estate investors to make fortunes in the real estate market, especially in recent years.
Monopoly teaches a fundamental misunderstanding of the role of debt in our economic system. The Monopoly winner and the Bank continue to take money out of circulation, until there is not enough left for the game to continue.
If the handful of extremely rich people did what the Monopoly winner does, which is to gather almost all of the money in circulation and hang onto it, the result would be the collapse of our economic system.
Chapter 9, No Money Limits For Real Estate Investors
The bankers are unwilling to loan money because they don’t trust that they will be paid back. Considering that the banks have lost billions of dollars, the lack of trust is justified. The banks have made so many bad loans—extended credit to buyers who could not repay the loans-that the banks are awash with bad debts. Some of the largest banks have even collapsed because they had so much bad debt.
So what was the remedy that was supposed to resolve the credit crisis? The $700 bailout for the banks. The expectation behind the bailout was that the government would relieve the banks of the staggering burden of bad debts so that that the banks would have enough trust to start to offer credit again. But so far, the banks are still unwilling to offer credit. Instead, the banks are tightening credit lines and reducing credit limits.
The result is that credit is not flowing freely. Everyone who depends on borrowed money is being squeezed. When credit stops flowing, the money supply shrinks. The cascading effect puts the entire global economy at risk because the whole house of cards depends upon borrowed money.
As the system of credit dries up, the more fear is created, and the more banks and other institutions will treat credit as something to hide under the mattress.
“Right now it’s a measure of trust between the banks,” said James Reed, a money manager at the UMB Scout Stock Fund. “It’s continuing to move up, and that shows less and less trust in the system. That’s what you have to restore, is trust. That’s when you know you have a bottom, and that’s when the (credit) markets finally loosen up a little bit. ”
With so little trust among bankers, the Treasury may ultimately have to move to guarantee all lending between banks. That would help reduce the risk of lending again and help unfreeze the system. John Schoen, “Fear trumps efforts to solve crisis”
Every effort to restore the economy is primarily an effort to restore trust in a system that has violated trust. This is the challenge and this is the opportunity. The challenge is to recognize that there is no shortage of money. Money is created by trust and destroyed by lack of trust. We have a shortage of trust that results in a shortage of money.
In 1933, during the economic crisis of the Great Depression, Franklin Delano Roosevelt began his inaugural address with these words about fear.
I am certain that my fellow Americans expect that on my induction into the Presidency I will address them with a candor and a decision which the present situation of our people impel. This is preeminently the time to speak the truth, the whole truth, frankly and boldly. Nor need we shrink from honestly facing conditions in our country today. This great Nation will endure as it has endured, will revive and will prosper. So, first of all, let me assert my firm belief that the only thing we have to fear is fear itself-nameless, unreasoning, unjustified terror which paralyzes needed efforts to convert retreat into advance. In every dark hour of our national life a leadership of frankness and vigor has met with that understanding and support of the people themselves which is essential to victory. I am convinced that you will again give that support to leadership in these critical days. “Only Thing We Have to Fear Is Fear Itself”: FDR’s First Inaugural Address.
I’ll end by the way I began, by repeating the words of John Schoen.
The wide-ranging, unprecedented actions to cure the illness may yet prove effective. But until the fever breaks, fear has the upper hand. John Schoen, “Fear trumps efforts to solve crisis”
Dr. Kalinda Rose Stevenson
Discover the true nature of money as a belief in value in No Money Limits For Real Estate Investors: Discover The Money-Making Secret In The Real Estate Game That Transforms Your Money Struggles Into Financial Abundance.
Award Winner, National Best Books 2007 Awards
Business: Real Estate Category And Finalist Business: Personal Finance Category
